Interview with Larry Pesavento

It is a cold Monday afternoon in New York and Traders Magazine is attending the World Trader’s Expo. I am waiting for the crowd who has descended upon my interviewee to subside. I am in for a long wait.

Larry Pesavento has traded live in front of many of his fans and at the same time mesmerized the audience with day trading and swing trading techniques. He clocked up $2000 for an hours trading and now the crowd wont leave him alone.

Whoever said that day trading was for spotty teenagers and adolescents were wrong. Larry Pesavento is well into his sixties, but looks much younger and has a real sparkle in his eyes. He has traded on and off the trading floor for the last 40 years. He currently trades institutional funds as well as money high net-worth and his own account. He resides in the warm climates of Tucson, Arizona. Larry is coming to London on the 22nd April to conduct a workshop on day trading and swing trading. Info: www.cityseminars.co.uk

Larry Pesavento has just finished an engaging two-hour live trading session where he clocked up a profit of $1.20 trading Apple and Intel shares on a couple of thousand shares. There is a crowd of 20 or so people around him and he is telling a story about one of his experiences on the trading floor, when he was trading gold.

““Gold had been one of my favourite trading vehicles since President Nixon took the US off the gold standard in 1968. I had traded gold for most of the seventies, and early eighties, but by 1982, after gold hit $865 on 20th January 1980, much of the excitement in the pit had died down. Gold was trading below $400 an ounce and the Merc trading pit (Chicago Mercantile Exchange) consisted of a group of locals (a “local” is the designation given to floor traders who live locally and show up for trading every day, often trading their own money), mostly of Greek and Irish ancestry. The Gold pit was trading much less frantic than the financial pit so I would venture into the pit and trade gold once or twice a day. The average price swing was around$5 an ounce at that time. Contract size was 100 ounces so each $1 move worth $100.

It was one hour after the open and gold was trading down $3 on the day. The pit was filled with about 80 locals and commission house order fillers. Order fillers were the safest to trade against. They did not trade their own accounts, so there were no painful errors to hide. June Gold was down $3 an ounce and sitting at a nice 61.8% Fibonacci retracement number from the last three days trading range. My profit objective was around $2 an ounce. Typically my trading lot size was between 10 and 20 contracts. On this particular day, I was in the middle of the put surrounded by a consortium of Greek traders. Some of the locals had not cleaned their trading coats in years and the smell was unbelievable at times. It was like being in the midst of a sheepherder’s convention. Prices were within one tick of where I was bidding. One particular local was offering to sell 50 lots a couple of ticks higher than my bid. He was particularly dirty and smelly. He was really taunting me to take the 50 lots, but my maximum size was 20 lots. This melodrama continued over the next 30 minutes. Friendly teasing had escalated gradually into a real “pissing match”. By this time he was daring me to take the whole 50-lot offer, but I held on to my 10-lot bid. This continued for what seemed like an eternity. I tried to move to another area of the pit to trade, but frankly I enjoyed his schoolboy antics. For some mysterious reason, I was now in his face! Gold had hit my price, but no one was offering at the level. There were nothing but bids in the pit. The local was not spitting in my face and cursing at me for not taking the 50-lot offer 20 cents above where gold was bid. I couldn’t take it any longer! I screamed, “BUY 50 at 10!” He held up both hands and screamed, “SOLD” after which he added some nasty superlatives.

I walked out of the pit in disgust with myself. I had increased my position with 500% because I had wilted in the heat of the moment. The Lind-Waldock trading desk was at the other end of the huge Merc floor. It was about the size of a football field. By the time I arrived at the Lind-Waldock desk, gold had rallied one tick. Reggie was the floor manager for Barry Lind’s operation. He was a new friend, and I told him what had happened. He pulled out my equity cash run to find that I had over $100,000 in T-bills in the account plus substantial cash. “What the hell are you complaining about? I have never had that much money!” He was right. My explanation of why it wasn’t the money but the lack of discipline fell on deaf ears. I had a choice to make. I could send a Lind-Waldock runner into the pit to fill my sell order or walk back into the pit and fill it myself. Prices were level with my fill. I decided to leave the comfort of the meat and belly pits (where it was always quiet) and venture back the bedlam of the financial pits.

As I walked through the crowded floor, I kept cursing myself for the lack of discipline in accepting a 50-lot order. But now Gold had rallied 30 cents to send me ahead by $1500. My pace quickened as I sped for the gold pit to get out. Now my thoughts moved to a further rally in gold. How much could I make if I held out a little longer. In just seconds, gold had moved $1 an ounce. I was now ahead $5000. Pit trading can get really crowded and loud - very loud. By the time I arrived gold had rallied another 50 cents and I was up over $7500 in less than 20 minutes on an error. Without acting too excited, I handed my sell order to a Lind-Waldock runner who took it to the Lind-Waldock order filler in the pit, who promptly booked my $7500 into my account. I took a position on the top step in the gold pit to watch the action. Ricky the Greek was glaring at me! He had no idea that I had sold out already. It was then that the proverbial “shit hit the fan.” Thunder and lighting was quieter than the Merc floor. Gold was jumping 3-5 cents an ounce and was now up to the $20 trading limit. A North Korean fighter jet had shot down a Boeing 747 and all passengers were killed. My position would have made over $100,000 in one hour, but it didn’t. The tension on the Merc floor was increasing. News announcements like this cause floor traders to go bankrupt because prices move so fast that they are unable to keep their losses small. The next day there were numerous “For Sale” postings of their exchange seats to cover the losses caused by the North Korean incident.

After the close of the Gold pit, Ricky the Greek came up to me asking me how much I had made on that trade. I said to him “if you have the choice between being lucky or smart, always chose lucky”. He never bothered me again – on or off the floor. I am sure he thought I made over 100 grand on the trade.

On the walk back to my apartment, I stopped at the Catholic Chapel and lit some candles for the families of the 747 passengers. “”

(As the afternoon progressed I was treated to quite a few stories from his 40-years of trading)

Traders’: What enticed you to start trading?

Larry: One of my first stock purchases was a stock called Elastic Stop Nut. It was the father of one of my fraternity brothers at college who gave me the tip. I spread the word on this stock to all my friends and it turned out to be a great tip. Of course you shouldn’t confuse brains with a bull market, but this was my first taste of the markets.

With Graduate school behind me I moved to California to raise a family and continued to follow the markets. The commodity markets were staying in narrow trading ranges early in 1970. This continued for several months. During this time I had begun trading with Conti Commodities and had met some very knowledgeable traders and analysts who taught me about me about technical analysis.

My luck was I caught the big move in Wheat when the Russians were everything they could get their hands on. From then on I caught the big bull market in Soybeans in 1972. By then I was making more money than I had ever done before. Inflation was on the rise and commodity markets were in a strong bull market and I was long.

Traders’: Were you successful at the beginning?

Larry: I was more than successful. I was a millionaire by 1974, after a few years of trading. I was making more in a day that my dad would make in a month. Around the same time I would naturally study the markets and any new literature. It was at this time the book “The Profit Magic of Stock Transaction Timing” by James Hurst was published and I attended one of his seminars together with some heavyweights in the industry, such as John Hill, Walter Bressert of Hall Commodities and Phyliss Kahn or Gann World. I began to study the principles of harmonicity, synchronicity, periodicity and half-span moving averages. This began to make sense to me, so I decided to try it in the market. Amazingly I could not lose. I began to trade the 12-18 day cycle lows to take advantage of buying opportunities. It was incredible, but the money was coming in fast. Humility did not have a place in my vocabulary. Then came the fall of 1974.

The commodity markets began to slide and became increasingly volatile. I was long soybeans, soybean meal and cattle. The market would turn on my projected 12-18 cycles, recover for a day or two and resume the downtrend. Half my fortune was gone, but my confidence level was still fairly high. In October the markets began to collapse. It seemed there was no apparent reason for the decline. Unfortunately, I did not use stops! Cattle were “limit –down” for several days (“limit-down” refers to a rule where a market can only trade within a pre-defined range for the day – set by the exchange. If the limit barrier is hit, it is not possible for anyone to buy or sell above or below the limit) and I was wiped out with all my trading capital gone.

Traders’: How did you recover?

Larry: As the saying goes: “when the student is ready, the teacher will appear. I was lucky to meet John Hill of Commodity Research Institute and he began to teach me the material of the old masters such as Elliott, Dunnigan, Wycoff, Babson, Gann and Gartley. I studied everything I could get hold of and I began to recover both emotionally and financially. Jesse Livermore was right when he said that “taking a big loss does damage to the soul”. It took me a couple of months to accumulate $70,000 in trading profits. It was at this time I decided to become a stock and commodity broker. Over the next few years I kept building my knowledge on trading, and I made most of the loss back through trading and working as a commodity broker.

As I approached my 40th birthday I was asked what I wanted most, and my answer was to go to Chicago and trade as a floor trader. While in Chicago I leased an IMM seat from Lind-Waldock and began to make money each month by trading on the “floor” for three weeks and one week in California.

Traders’: Did your previous experience of trading off the floor help you trade on the floor?

Larry: It most certainly did. I remember shortly after arriving in Chicago I was invited upstairs to the offices of Jack Waldock and Barry Lind, whom I had leased a seat from. It was the last week of the formal pit training. Barry Lind had known me from my California days where I ran the Drexel Burnham Lambert Commodity Division. This was done from the very same building as one of the most iconic financial individuals worked from, namely Michael Milken.

Barry asked me if there was anything they could do to make my experience as a floor trader in Chicago more enjoyable and profitable. My first response was to never allow myself to meet a margin call under any circumstances. Barry said that would be no problem because it was highly unusual for floor traders to have margin calls unless they overtraded and kept huge positions overnight. He then asked me if there was anything else that the firm could do for me. I didn’t have to think about the answer. Years of analysing my trades had shown conclusively that most of the winners started out that way. This was probably due to my pattern recognition methodology. Pattern recognition usually give the trader instant gratification because it is a leading indicator. You know right away whether your trade analysis is valid. I simply asked Barry if it were possible to make a notation on the daily equity run if I had a position (long or short) that was showing a loss after the third day. I suggested that should this occur, Lind-Waldock would notify me before the open and liquidate the position. I call it the 3-day rule.

Barry then shared some interesting information on that rule. He said it was used by several large position traders at his firm and they some of the most profitable in the business.

In the 3 years that I traded on the Chicago floor through Lind-Waldock the 3-day rule was only functional four times. Each time, if I had reversed my original position, it would have resulted in a huge gain with very little risk exposure. The 3-day rule goes to the heart of money management and risk control. “Take care of your losses and your winners will take care of themselves”. Your first loss is usually your smallest loss, and you are able to focus on the next trade.

Traders’: What kind of trader are you?

Larry: I am a day trader and a swing trader. I use Fibonacci Ratios with pattern recognition. Markets are chaotic in nature but within in this chaos are identifiable non-random patterns that repeat. This is the basis of chaos theory. All of these chart patterns repeat with regularity and the probability of success is a known quantity, but there is nothing that is 100% certain. I focus on risk control because I know that my approach will win more often than lose and that wins will be larger than losses. Pattern recognition is the culmination of the very essence of technical analysis. I have refined it to 12 chart patterns that can be quantified.

Traders’: What are those patterns?

Larry: There is the bullish and bearish ABCD pattern as well as the Bullish and Bearish Gartley Pattern. I am particularly fund of the Gartley pattern because the odds of success are so high. You also have more exotic sounding names such as the Butterfly Top. No one can tell what is going to happen next in the markets with 100% certainty. This is very important to the understanding of probability theory. You do not need to know what is going to happen next to be a profitable trader. What you do need to know is how much of your capital is at risk on any one trade. You never know how much you are going to make on a trade. This is a by-product of not knowing what is going to happen next. It is also what makes trading profitable and exciting. Most of the patterns above are based on a risk to reward ratio of 3 to 1. This means if you are willing to risk $300 on a trade, then you should be able to accept a $900 profit objective.  Why does the methodology work? Because all stocks, commodities, currencies and indices trade within predictable patterns and these patterns are always repeating. These patterns are easily identifiable and can be mathematically quantified. It is these factors that put probabilities in your favour. Possessing a methodology that develops confidence and belief in your own consistency is essential.

The only thing you can control, within limits, in trading is the amount of risk capital on any single trade. This is how I focus on my trading opportunities. "Take care of your losses and the profits will take care of themselves,” describes my approach to risk control and trading opportunities. Winners think in terms of how much they can lose - Losers think in terms of how much they can win.

Traders’: Do you work more with indicators or with chart patterns?

Larry: I work predominately with chart patterns. Actually I am a 99.9% chart pattern trader. Pattern recognition in the ears of a novice trader probably sounds like trying to identify double tops and head & shoulder patterns. However, this is not the case at all. Pattern recognition is a mathematical concept of using harmonic numbers and Fibonacci numbers together with swings in the market. It is based upon the foundation of Sacred Geometry. While this may sound like an esoteric branch of technical analysis, it is actually the foundation of technical analysis, and without it technical analysis would not have the presence it has today.

Traders’: How do you prepare for the trading day?

Larry: Preparation consists of selecting the correct geometric price pattern and matching the harmonic numbers to it. Once this simple process is completed the trader will enter his orders with the appropriate stop-loss levels. Geometric price patterns have mathematical probabilities heavily favoured on the reward side of the Risk Reward equation. These patterns will be successful approximately 60-70% of the time. The reward to risk is 3 to 1 in the trader's favour. Once the geometric chart pattern is complete and the harmonic numbers are calculated all that is necessary is for the trader to answer two very important questions. Is the pattern and ratio present? Can I afford to take the risk?

If the answer to both of these questions is yes, then the trader must take the trade. The reason he must take the trade is because no one knows which trades will be successful. Trading is based on probabilities and risk control. We know the probabilities of the chart pattern being successful, and the reward to risk is on the trader's side. It then becomes a process of continuing to trade when the probabilities and patterns are presented to the trader. A good analogy can be made in professional sports. Whenever Michael Jordan and the Chicago Bulls played they were heavy favourites. The odds makers in Las Vegas will demand that you bet $140 to win $100 to put the odds in their favours. In the stock and commodity market the probabilities of success are in your favour and the reward is highly favoured on your side. The probability of success is approximately 60- 70% and the reward to risk is 3 to 1. Risk control is what trading is all about. It is the "only" thing a trader can control because no one knows what is going to happen next!

Traders’: Do you mix time frames?

Larry: I operate on 3 time frames. I work on the daily charts and the hourly charts for my swing trading, and I day-trade off the minute chart. I try not to clog too many indicators on my trading screens. As a matter of fact I don’t make much use of indicators in my trading, primarily because the Pattern Recognition techniques are leading rather than lagging in their format.

Traders’: How many different set-ups do you use for your trading?

Larry: There are a handful of good patterns that I use consistently. They include the ABCD patterns as well as the butterfly and the Gartley pattern.

Traders’: How do you determine when you are wrong in a trade?

Larry: The wonderful thing about trading using pattern recognition is that you have the ability to use very small stops. A lot of it is to be able to see the pattern in the context of the market conditions. If you are considering buying a retracement in an uptrend you will always have the debate of whether to buy the 38.2% retracement, the 50% retracement or the 61.8% retracement. The key to successful pattern trading is to make the numbers work for you to find high odds set-ups. It sound like I am stating the obvious, but what I am really saying is that the successful trader waits for a confluence of 2 or more price targets being hit at the same area.

Traders’: Is money management an independent topic?

Larry: It is the most important thing in trading. Let me impart a little wisdom from 40 years of trading (at this point Larry laughs heartily): In terms of their importance, no.1 is money management, no. 2 is mental preparation and no.3 is technical knowledge.

Traders’: What do think is the difference between you and so many other traders who were kicked out of the game?

Larry: I did something that few do. I went over my mistakes till it made me sick. I kept reviewing my errors; I kept asking myself why I did this or that. I never gave up, I didn’t even contemplate giving up. Sure, I have had a couple of breaks in my trading career when other more important things took over, but I never quit. I stuck with it.

Traders’: So when you’re not trading, how do you enjoy your free time?

Larry: I am a big fan of travelling. I love teaching serious students the art and science of trading and make them profitable and successful. I keep fit, I walk and I read a lot. What fills me with appreciation is that there is purpose in what I do. Trading has been a great blessing in my life bringing some very special people together. I have been lucky enough to stand side by side by some of the best traders you will ever see or hear about, and the crazy thing is that on the outside they are like everyone else, but only on the outside. On the inside they are the most persistent bunch you will ever meet.

Trading is an exciting business but you have to be prepared for anything. I like to tell the story about one of the toughest guys I had the privilege of trading with in the pits. It was in the 80’s and the soybean market saw some wild swings. On this particular day Beans had gone from Limit Up to Limit Down and back to Limit Up. My friend had been caught on a news report and had reversed from long to short, only to see the market move back to limit up. At this point he reached inside his pocket, took his wallet, which was filled with $100 notes, took them all out and threw them up in the air while shouting to the astonished pit: “you took everything else, you might as well have the last of it”. He was still back the day after.