Chat With Traders – Episode 286

Jason Shapiro – Overcrowded Trades: What Everyone Else Is Not Seeing

Release Date: August 28, 2024
Host(s): Ian Cox & Tessa Dao
Guest: Jason Shapiro

Episode Overview

In this episode, celebrated contrarian trader Jason Shapiro, featured in Jack Schwager’s Unknown Market Wizards, returns to Chat With Traders for a deep dive into his unique countertrend philosophy. Shapiro walks through how he identifies and trades overcrowded markets using positioning and sentiment data—rather than price action alone. The conversation spans recent examples (notably FX trades), the role of market psychology, the nuances of news failures, and why sticking to process trumps following consensus or popular macro narratives.

Key Discussion Points & Insights

1. Trading “Against the Crowd” – The Contrarian Edge

• Position, Not Price: Shapiro emphasizes that his countertrend strategy is driven by positioning and sentiment, not price alone. Overextended positions on either side (long or short) signal opportunities for reversals, especially when confirmed by “news failure” events.
  • Quote: “I’m a counter trend trader. I don’t counter trend things because of price, I counter trend things because of positioning.”—Jason Shapiro [04:59]

2. Recent Trade Examples: How Crowdedness Drives Markets

• Currency Trades:
  • Notably traded the dollar short, the Swiss franc, and Japanese yen long—driven by extreme positioning (e.g., record short yen and CHF in COT reports).
  • Missed equity market moves but still posted strong results by catching major FX reversals at crowded extremes.
  • Quote: “We started to get some crowdedness... so we were catching sort of dollar short trade really as early as, like early May... then the yen, just before it squeezed higher, got super record level crowded short right on the lows there.”—[05:33]
• Stock Market Inactivity: Chose to “sit out” equities while positioning data was neutral—emphasizing patience and discipline.

3. Mechanics of Overcrowded Trades and Market Squeezes

• What Happens When It's Overcrowded?
  • When the majority of players are on one side, even a small reversal triggers forced unwinds, exacerbating price moves (e.g., short squeezes).
  • LTCM example: A "correct" trade, but excessive leverage and crowding led to a blowout when the trade went against them.
  • Quote: “When positioning gets massively one-sided... when it starts to move the other way, there’s nobody left to sell it and they all just get squeezed out.”—[11:03]
• Who’s in COT Reports:
  • Speculators vs. commercials—extreme deviation between these groups is a key signal.

4. "News Failure" as Confirmation

• The News Failure Effect:
  • Confirmation comes when a heavily positioned market fails to react in the expected direction to price-relevant news.
  • For example, in the Swiss franc: Negative data should push CHF down—if it instead rallies, it signals all sellers are “in” and the market is poised for reversal.
    • Quote: “I do it on what I call a news failure event... Negative news comes out, market closes up. Why? Because everybody's already short. That’s my confirmation.”—[20:31]
• Risk Management:
  • Entry on news failure; stop at the low (for longs), exit at neutral positioning. Risk:reward structures for big wins with small, frequent losses.

5. Process, Psychology, and Edge

• Patience and Process:
  • Most of the time, the best trade is no trade: “Sit back and wait for your process to give you an edge and then pounce.”
  • Strict, mechanical position sizing: risks 70 basis points per trade.
  • Ignores own bias about which trades are “better”—those he dislikes often work best.
    • Quote: “The trades that I hate the most are the ones that usually end up working the best... So I do not listen to my own bias.”—[35:10]

6. Consensus, Euphoria, and Market Sentiment

• Barron's Experts and Consensus:
  • The so-called “experts” often lag because it’s safer to stick to consensus; public calls rarely stray from the herd.
  • Quote: “Those who know, don’t say. And those who say, don’t know.” —[38:56]
• Market Euphoria:
  • Not just about positioning; can be “smelled” via media and anecdotal sentiment (e.g., “no brainer” calls on TV before major tops—copper in May cited as example).
• The Hated Bull Market:
  • Current US market described as the “most hated bull market”—little retail euphoria, many underinvested, driven by bad memories of past bubbles.
    • Quote: “This market has been going up... but I did not see... any of the signs that I saw in those other bubbles.”—[42:53]

7. Bearish Narratives and Psychology

• “Bear Porn” Attracts Attention:
  • Shapiro ran an experiment posting bullish and bearish videos—the bearish one got five times more views.
    • Quote: “People are very much more interested in hearing the bear case than the bull case.”—[47:13]
  • Investing public is often more emotionally invested in bearish scenarios (regret, wanting a chance to “get in” lower).

8. Macro, Money Printing, and the “End Game”

• QE & Systemic Limits:
  • The real crisis comes if/when money printing no longer “works”—if new liquidity fails to arrest declines in equities, bonds, and the dollar.
    • Quote: “Let them print money and let the market react... if bonds and the dollar go down, then we got a problem. That’s the hitting the fan moment.”—[56:55]

9. Key Takeaways on Intellectual Humility

• Edge in Not Overthinking:
  • More information isn’t always better. A simple, robust process outperforms convoluted macro or narrative-driven approaches.
    • Quote: “Sometimes you can overthink it... all I want to know is what is my process saying? That’s all I need to know.”—[58:10]

Notable Quotes & Memorable Moments

• On the futility of predicting news:
  “I have no edge in knowing what the news is going to be... I can’t see the future. So I have to trade based on letting the market tell me.”—[31:55]
• On trading discipline:
  “All my trades are exactly the same... If I’m going to get stopped, I’m going to lose 70 basis points. I have no edge in knowing which will work.”—[33:21]
• On market psychology:
  “Those who know, don’t say and those who say, don’t know... not wanting to lose your job, not wanting to lose your clients. The most simple way is to stay in consensus.”—[38:56]
• On when the Ponzi blows up:
  “Somewhere, obviously there is a limit to how much money can be printed before there is a consequence... What happens if that doesn’t work? ... Now we got a problem.”—[53:23], [56:55]

Important Timestamps for Key Segments

| Timestamp | Topic | |-----------|-------| | 04:59 | Shapiro’s philosophy: contrarian, positioning over price | | 05:33 | Recent FX trades: catching extremes in CHF, JPY | | 09:21 | Reading COT reports: commercials vs. speculators | | 11:03 | Why small moves in one-sided markets trigger big moves | | 20:31 | News failure: How he gets confirmation for entry | | 35:10 | Ignoring emotional bias; same sizing for all trades | | 38:56 | Barron's experts, consensus, and underperformance | | 42:53 | "Most hated bull market"—lack of euphoria | | 47:13 | Why bearish content gets more attention | | 56:55 | The true “end game” scenario for money printing | | 58:10 | Value of process over information overload |

Final Thoughts

This episode is a masterclass in thinking independently and understanding how crowd behavior, sentiment, and positioning drive the markets. Jason Shapiro’s approach underscores that real trading edge often comes from doing less—waiting for the obvious extremes, recognizing the signals in “news failures,” and maintaining strict discipline against one’s own emotional highs and lows.

Resources:

• crowdedmarketreport.com (YouTube, Substack, other info)
• Jason’s Twitter: @crowdedMKT