Warrior Trading Blog

The Legend of Jesse Livermore

Jesse Livermore

Who is Jesse Livermore?

Jesse Livermore is the most famous trader of modern times.

Like most notable traders, he is most known for his big calls, shorting the stock market prior to the Panic of 1907 and the 1929 Great Depression.

Livermore is the subject of Edward Levefre’s partly-fiction novel Reminiscences of a Stock Operator, which is pretty much the trader’s bible.

Livermore was gifted with numbers and desired a life outside the farm on which his family grew up and worked, but his father had other plans.

He wanted Jesse to work the family farm, not allowing him to pursue a career. In his early teens, Jesse’s mother helped him run away from home with just $5.00. Livermore survived on his own from there on out. 

Mostly by luck, Livermore’s first job was operating a ticker tape for a local brokerage firm. While working this job, he wrote down price patterns he noticed in a ledger and gained the confidence to put real money on the line.

Because he was too young to open a real brokerage account, he started trading at local “bucket shops.” 

Imagine a bucket shop as an old school-version of those scammy offshore Forex brokers.

There’s no real liquidity, you trade against the house, and there’s a huge spread. There’s no exchange guaranteeing your positions and hardly any recourse at all should you be screwed over.

Trading is enough of a zero-sum game already, but it seems impossible to profit when you add in frictions like these.

However, Livermore was so adept at spotting and executing on price patterns that he was blacklisted from almost every American bucket shop, forcing him to skip town. 

Having graduated from bucket shops to Wall Street, Livermore had a bumpy start adjusting to real-time stock quotes instead of the “stated quote” that bucket shops would post on a bulletin board.

As such, he adjusted his trading style to hold trades for much longer. What he once held for minutes or hours, he began to hold for days, weeks, or months. 

Livermore said of his adjustment, “Disregarding the big swing and trying to jump in and out was fatal to me. Nobody can catch all the fluctuations. In a bull market, your game is to buy and hold until you believe that the bull market is near its end. 

The rest is history.

Livermore’s story of excess and the whipsaws of stock market success influenced countless millionaires and billionaires to enter the financial markets.

If you work on a trading floor and haven’t read Reminiscences, you’re probably in the minority. That’s how much this book has shaped the trading community. 

Livermore’s Biggest Trades

Jesse Livermore garnered credit on Wall Street for predicting market drops, earning the nickname “the Bear of Wall Street.”

Among his two most massive trades were during the Panic of 1907 and the Great Depression. He positioned himself to profit immensely from both of these events.

The Panic of 1907

A bubble was slowly expanding in the mid-1910s US stock market following the “Rich Man’s Panic of 1903.”

Livermore saw no reason to fight the trend and was trading the long side until he had an epiphany in spring 1906 on a trip to Atlantic City. 

Livermore reported having an overwhelming feeling that Union Pacific’s stock was going to tank. This feeling was at complete odds with his trading style, as he usually trades with the trend and waits for price action to confirm his thesis.

Despite this, Livermore shorted Union Pacific. By luck or intuition, he saw a $300,000 profit just two days later when an earthquake struck San Francisco.

Although this trade didn’t make logical sense, and any modern trading educator would (rightly) recommend against this type of trading, Livermore credits these types of trades with building his fortune.  

Over the following months, Livermore began to aggressively short a variety of stocks as the market crumbled, eventually pocketing around $300,000 from the trades. 

He reversed his position and began buying at the behest of John Pierpont Morgan.

Cornering The Cotton Market

On two occasions, Livermore cornered the Chicago cotton market. 

The first time he did it, Livermore saw that one of his peers in the trading world, Percy “Cotton King” Thomas failed to corner the cotton market and went broke.

This gap left cotton in a severe bear market. Livermore noticed the opportunity and quickly acted, buying 120,000 bales of cotton, months after the Cotton King’s bankruptcy. 

Of course, Livermore’s aggressive buying pushed the price up, but not enough to entirely close his large position in the illiquid cotton market.

Consequently, Jesse Livermore used a now-illegal market manipulation tactic called “painting the tape.” Markets were much less regulated in Livermore’s time, and things like these occurred without much question. 

Livermore made several large buy orders at the market close, knowing that the aggressiveness would carry over to further sessions, allowing him to liquidate his position at a profit. The next morning’s New York World newspaper headline read “July Cotton Cornered by Livermore.”

Of course, the market soared at the open, allowing Livermore to sell for a tidy profit. 

The second time that Livermore cornered cotton is undoubtedly more interesting, albeit less profitable. As the first World War wrapped up, Livermore projected that cotton prices would be weak.

After all, the military demand for cotton would dry up, and the economy would be slow to recover from the war. 

Instead of selling cotton short in this situation, as most traders would, Livermore began buying. He told his son that he used hundreds of brokers worldwide to build positions in Chicago cotton futures quietly. Within 18 months, he owned most of the cotton. 

The US government, specifically President Woodrow Wilson, took notice of this and called Livermore to the White House to discuss the matter.

Reportedly, when asked why he cornered the market, he responded with “to see if I could, Mr. President.” 

Jesse Livermore reportedly sold the position at roughly breakeven as a favor to the United States because he didn’t want to cause harm to the economy.

The Great Depression

It was 1929. The stock market was red hot, the bubble expanding.

Everyday retail investors were fully involved in the market, parking most of their wealth in the cycle’s hot stocks.

Much like in the dotcom bubble, the leading stocks of the day received unsustainable valuation multiples that simply didn’t jive when weighing interest rates against the risk of holding a hot stock. 

A natural contrarian, Livermore was looking for the first sign of weakness to sell his long positions. At that point, he could wait for the appropriate time to short the stocks he viewed as the most overextended.

Just as he liked to own the leading stocks when the trend is strong, and up, he looked to those same leading names to fall the deepest, as they had deviated furthest from fair value.

When the leading stocks failed to ‘lead’ the market and make new highs, Livermore knew that the market was weak. 

Over the following several months, Livermore had sold his long positions into strength and was sending small, probing short bets into the market.

This was his way of going against the trend. Instead of taking on full size on the “front side,” he would take small trades and cut losses quickly until the small bets worked in his favor. 

Not before losing about a quarter of a million dollars in his probing positions, the third time was the charm. This was his narrow window of opportunity to build a sizeable short position while the market was still strong. 

Livermore didn’t fully expect what was to come, Black Tuesday, arguably the worst day in American financial history. By the numbers, the third.

Those ebullient retail investors lost their hats investing on margin, and the national newspapers began writing scathing hit pieces on short-sellers like Livermore. 

After closing the trade, Livermore reportedly made $100 million on his Great Depression short.

Jesse Livermore’s Trading Rules

Have Rules

Livermore is often cast as an eccentric character who traded based on his whims at the moment and happened to be a genius at it. While it’s true that Livermore did stray from his rules from time to time, he followed his rules strictly the vast majority of the time.

He credits his fortune to having the discipline to act according to his own trading rules.

Scale Into Positions

Livermore was staunchly against establishing an entire position at once. Of course, this was during a time when the stock market was much less liquid. Livermore was also trading significantly more size than the average trader.

Regardless, the principle stands. Livermore called it “probing,” as he did while shorting the market prior to the Great Depression.

Had he taken a full-sized position initially, he would have lost two trades on full risk before finally getting it right the third time. 

Markets are imperfect and exhibit a high degree of randomness at times, so it might not make sense to get hitched to your initial entry point, which is probably arbitrary in the first place.

Don’t Let a Position Go 10% Against You

In the modern era of trading, we hardly frame our risk in terms of a percentage, but instead in some volatility-adjusted style like ATRs or simply ‘R’ (one unit of risk).

We take for granted the tools we have readily available at our fingertips, mostly for free. 

The main point Livermore is trying to get across is to not hold onto losing positions. You should give your losers room to breathe, and as Livermore says, you need a reason to sell a position.

But that doesn’t mean refusing to take a loss. Livermore’s “uncle” point was 10%. Yours can be 2x your average risk per trade, or anything else. Just figure it out and stick to it.

Trade Leading Stocks

Livermore doesn’t bother with “junkyard” stocks that aren’t near the top of their sector or industry group. After all, stocks within the same sector or industry are highly correlated, so why not just go with the strongest one, unless you have a compelling reason to do otherwise? 

Livermore defines a leading stock as one that is in a strong trend, is the strongest amongst its industry or sector, and consistently makes new highs.

Follow The Trend

If Livermore were around today, we’d call him a momentum trader.

He finds the stocks going up the most, the fastest, and tries to get a piece of that action, much like a Mark Minervini type. Perhaps the cornerstone to Livermore’s success was simply being in tune with the prevailing market trend.

He was staunchly against buying on declines and selling into rallies.

Bottom Line

According to reports, Livermore’s peak wealth would have been roughly $1.5 billion in today’s dollars. By today’s standards, that’s your average hotshot hedge fund manager.

But consider the fact that the “first” hedge fund wasn’t even opened until 1949. Making a fortune just from trading stocks and commodities is a relatively new career, and Livermore was one of the first to really hit it big, in a public way. 

Unfortunately, the world lost Jesse Livermore on November 28, 1940. He shot himself in a New York City hotel. Reports say that he was nearly bankrupt at the time of his death.

Many speculate that his financial standing played a role in his death.

In a way, Livermore’s life, great and inspiring as it was, could serve as a cautionary tale as to how the whipsaws of his volatile style of trading might affect someone.

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