Lessons From The Great: George Soros Teaches You How to Trade

In Summary:

• George Soros is an investor and a speculator famous for his outsized bets on currencies
• He became a household name in trading when he “broke the bank of England” in 1992

Lessons From The Great – Who Is George Soros?

George Soros is a pioneer in the hedge fund industry and one of the most-recognized financiers of all time. A man of many hats, Soros describes himself as “a financial and philosophical speculator.”

Others describe him as an investor, currency manipulator, and even a puppet master and the protagonist of many conspiracy theories. Besides his trading career, he is also one of the most philanthropic people in the world. Throughout the years, he has donated more than $30 billion to charitable causes through the Open Society Foundations.

Born on August 12, 1930 in Budapest, Hungary, George Soros survived the Nazi occupation as his father arranged fake passports for his family. He emigrated to England in 1947.

Soros rose to fame in a dire time for the UK. An inevitable currency collapse was threatening the UK economy in 1992 and it was a matter of time before chaos arrived. Soros, and his hedge fund partner Stanley Druckenmiller, would bet everything on a short position in the British pound.

Today, George Soros is 92 years old and is worth about $8 billion.

How Soros Broke The Bank Of England

George Soros became a household name in forex trading in 1992 when he opened a short position in the British pound.

Back then, the UK was part of the European exchange rate mechanism (ERM). In order for the UK to remain in the ERM, they had to support the value of the pound above a certain level. George Soros, and Stanley Druckenmiller, who was leading Soros’ hedge fund at the time, spotted an opportunity. They recognized the UK’s central bank would not be able to uphold the pound for much longer and began piling a short position against it.

“The fund at the time was $7 billion, and I wanted to put everything in a short position on the pound,” Druckenmiller says in an interview. “I went to his [Soros] office and explained my reasoning to him, which I thought was very sound. He looked at me with the most disgusted look and I was getting angry by just the body language feedback. He said we shouldn’t put 100% of the fund, we should put 200% of the fund.”

A Currency Bet That Returned $1 Billion In A Day

At the time, the Bank of England was desperately trying to buy as many pounds as it could in order to boost the exchange rate. Efforts were, however, futile. On September 16, 1992, known as the Black Wednesday, a collapse in the pound forced the UK to leave the ERM.

Soros and Druckenmiller had already bet more than the entire fund and waited for the pound to drop in value. Their position, over $10 billion, resulted in one of the greatest currency speculations in history; George Soros netted $1 billion that day and was declared “the man who broke the Bank of England.”

Soros: A Contrarian At Heart

“The prevailing wisdom is that markets are always right. I take the opposition position,” Soros says in his book, “Staying Ahead of the Curve”. “I assume that markets are always wrong.”

In that sense, the 92-year-old speculator is considered a market contrarian, betting on trend reversals right at their inflection points.

“Most of the time the trend prevails; only occasionally are the errors corrected. It is only on those occasions that one should go against the trend. This line of reasoning leads me to look for the flaw in every investment thesis.”

His contrarian trading style would be responsible for his biggest wins alongside significant losses. “Most of the time we are punished if we go against the trend. Only at an inflection point are we rewarded.”

Lessons From The Great – What Is The Trading Style Of George Soros?

The trading and investment style of George Soros is somewhat a mystery. In his many books, he often says he relies on instinct and a certain level of guessing when he goes into the market. Still, he is one of the most informed fund managers and closely follows fundamental analysis, economic trends, charts, and prices.

Besides this, his trading style is unique in the sense that he would retreat from a big position based on what he describes as “animal instincts.”

“When I was actively running the fund, I suffered from backache. I used the onset of acute pain as a signal that there was something wrong in my portfolio. The backache didn’t tell me what was wrong –you know, lower back for short positions, left shoulder for currencies – but it did prompt me to look for something amiss when I might not have done so otherwise.”

With this in mind, the trading strategy of George Soros will be hard to replicate. There is, however, one big insight into his trading – the theory of reflexivity.

The General Theory Of Reflexivity

In his early days as a trader, Soros discovered a theory that interprets how markets operate. More specifically, the theory of reflexivity, as he has called it, aims to find how thinking and reality affect each other. This was in stark contrast with the prevailing paradigm, the efficient-market hypothesis. Traditional economists view markets as “efficient”, meaning prices are unbiased and they estimate fundamental value; Soros’s theory disagrees.

He introduced a new concept for financial markets which postulates that they are “reflexive”. In markets, he explains in one of his lectures, there is a feedback loop between market participants’ thinking and the reality they observe, and this circular relationship is called “reflexivity.” Soros believes there is a great element of uncertainty in trading and natural sciences cannot give a realistic depiction of the market state.

This was how he came up with the title of his book, “The Alchemy of Finance.” There is, he says, a “two-way reflexive connection between perception and reality which can give rise to initially self-reinforcing but eventually self-defeating boom-bust processes, or bubbles”.

Can You Apply Soros’s Trading Rules Today?

By using Soros’s theory of reflexivity, you would be able to identify and explain how trends form and when they may reverse. Moreover, going to fundamental analysis may help you understand when trends may reach an inflection point and change course. Looking at the market, price models, and charts may show you the reality that participants have not yet seen; on the other hand, following news and developments can give you an edge in trading if you interpret them correctly.

Soros found his greatest trades and profited the most when market trends first supported the “prevailing bias.” Once the “biased” move was exhausted and the market participants’ thinking would shift, reality would change. That’s when the trend reaches an inflection point and reverses.

“Stock market bubbles don’t grow out of thin air,” he says. “They have a solid basis in reality, but reality as distorted by a misconception.”

Summary

Still, his trading rules can only get you so far. As Soros notes, “in the final analysis, you must rely on your instincts for survival.”

George Soros is one of the most influential investors in the world. He is also “a stateless statesman,” involved in policy-making, a philosopher, and a philanthropist. His legacy, and his trading success, continue to inspire people from every walk of life to join the financial markets. He  set up and led his business from the dawn of the hedge fund industry, and throughout his career, his returns have been among the greatest.

For over four decades, Soros has returned more than 20% a year to investors. In other words, a $10,000 investment with him would now be worth more than $10 million. Even though his fund stopped accepting outside money, and is now operating as a family office, the Soros Fund returned almost 30% in 2020. His fund, led by Dawn Fitzpatrick, manages nearly $30 billion in 2022.

Many of today’s successful investors are inspired from his teachings and new traders continue to pore through his work. To this end, Gann’s methods are still applicable today and they continue to influence modern-day traders and investors. Like George Soros, other historical traders have a lot to teach us all about the simplest and also the most sophisticated ways to invest and trade. WD Gann and Jesse Livermore are two such names that certainly deserve your attention.