Jesse Livermore is known to several as the ultimate speculator Wall Street has ever heard about, rivaling perhaps even Gann. Livermore is said to have engaged in all the most significant stock and commodities moves from 1910 to 1940. He needed to be doing something right to only have survived financially for three decades.
Livermore should be an excellent model for today’s computer futures trader. In the Livermore era there was no tv, no computers, and no online world. Even if were able to afford to pay a staff to chart stocks and commodities you would not have had 24×7 immediate access to financial data to keep those stock charts up to the minute. Any successful stock trading system that could withstand the test of time had to use easily accessible data, be easy to understand, and be simple to apply. Modern technical analysis tools like stochastics and the elliott wave oscillator were not possible.
His strategy was based on a trend following system. Livermore only took positions in the direction of the major trend. He opened up his position with a minor stake and added onto it as the trend persisted in its expected direction. Jesse Livermore asserted “Just recognize that the movement is there and take advantage of it by steering your speculative ship along with the tide.”
In or out. Long or short. No matter how many gigabytes you have for your cutting edge, computer-based trading system it all comes down to those two choices. He set objective stop loss levels and bailed out immediately from his entire position whenever a stop was hit. Livermore did not feel obligated to trade every day, neither did he try to catch every jiggle in stock prices. He followed only the major, cyclical trends.
The Livermore System defines the stock trading ticker in terms of trend and swing. An upswing, for example, is a sequential series of higher pivot highs and higher pivot lows. An uptrend is a consecutive series of upswings. A downswing is a consecutive series of lower pivot lows and lower pivot highs. A downtrend is a consecutive series of downswings.
Trends and swings are determined by two filters. A larger swing filter and a penetration filter that is one-half the size of the swing filter. A change in trend is a retrace of swing filter size from the last up or down swing. A pivot is the high or low point of each swing. Time is not a consideration in the Livermore System or in the making of a swing trading chart.
Livermore employed hand drawn swing charts that looked somewhat like a point and figure chart. As compared to Xs and Os and box sizes, a Livermore swing chart is a vertical line drawn when prices have moved by a fixed number of points in the opposite direction from the previous high or low pivot.
Livermore used penetrations of the pivot points to either increase new positions when they happened in the direction of the trend, or as stop-loss levels when they occurred in a direction opposite to the trend. The Livermore System is somewhat unique because of the role of the penetration filter. Many other swing trading systems use any breakout of a prior pivot high pivot or low pivot as the signal to add positions or as a stop loss level.
All positions were liquidated at the first penetration of a stop-loss level. A second penetration of the next occurring pivot in the direction of the new trend confirmed the new trend. A new trend “failed” when the second confirmation did not occur. In those cases Livermore would reenter in the direction of the prior trend when prices exceeded the size of the swing filter from the failed trend’s highest high or lowest low.