Editor's note: Don't go into the market blind...
For investors, there are few things more satisfying than building an investment strategy, executing when the opportunity presents itself, and profiting by sticking to the plan.
That's why Marc Chaikin – founder of our corporate affiliate Chaikin Analytics – emphasizes the importance of having the right tools in place to manage risk, no matter what the markets are doing.
In today's Masters Series, adapted from the December 26 issue of the Chaikin PowerFeed daily e-letter, Marc explains why proper risk management and stock exposure are essential...
What a 'Winning' Strategy Without Risk Management Looks Like
By Marc Chaikin, founder, Chaikin Analytics
Brian Hunter made more money in a single month than most folks make in their lifetimes...
But he also caused one of the biggest hedge-fund blowups in history.
You see, Hunter was a commodities trader. But he wasn't the typical, brash Wall Street type.
He grew up in farm country near Calgary in Canada. He was quiet and kept to himself.
But Hunter loved crunching numbers. And he was good at it.
In college, Hunter majored in physics. Then he got a master's degree in mathematics.
That gave him a major advantage over his future colleagues in the financial markets.
Soon after he graduated, he put his educational background to work. He joined the natural gas futures trading desk at a Calgary-based company called TransCanada (now called TC Energy) in the late 1990s.
At the time, TransCanada was an emerging player in the energy transmission business. It focused on transporting natural gas across North America.
Hunter quickly learned the fundamentals of the natural gas market. His experience at TransCanada prepared him to become one of the most profitable energy traders in the world.
In 2001, Hunter joined the natural gas trading desk at financial-services giant Deutsche Bank (DB). And he took off...
During his first year, he made the bank $17 million. The next year, he tripled that figure to bring in $52 million. By 2003, he headed the natural gas trading desk.
His division was poised to have another big year, but disaster struck...
In December 2003, natural gas prices went in the opposite direction of his bet. They went higher instead of lower.
It cost his desk – and the bank – more than $51 million in losses in a single week.
Hunter blamed the losses on Deutsche Bank's electronic-trade-monitoring and risk-management software. He claimed it stopped him from exiting bad trades early, which could have mitigated the losses.
The next year, Hunter left Deutsche Bank. It didn't take him long to find a new job.
But at his new firm, poor risk management and bad speculating eventually led to another colossal blowup...
A former natural gas trader at Goldman Sachs (GS) hired Hunter to work at the energy desk at a Connecticut-based hedge fund called Amaranth Advisors.
At first, Amaranth kept Hunter on a tight leash. The firm was well aware of his big swings at Deutsche Bank.
But Hunter was a pro. He and his group steadily brought in 20% to 40% annual returns. So Amaranth gave him more leeway to make trading decisions.
In 2005, Hunter saw an opportunity in his main market – natural gas...
Oversupply had driven natural gas prices down, which he thought was unsustainable. And he expected prices to rise. So he bought millions of dollars' worth of options at bargain prices.
Then, Hurricane Katrina slammed into the southeastern U.S. Hurricane Rita followed not long after.
Both storms devastated America's oil and gas production and transportation in the Gulf region. As a result, natural gas prices soared.
Hunter's bets on natural gas paid off massively. He made $1 billion for Amaranth that year. That earned him a nine-figure bonus.
Hunter's hot streak continued into 2006. By April of that year, he helped Amaranth amass a roughly $2 billion profit.
He was so "bullish" on natural gas prices for the winter that he made huge leveraged bets. And he managed to get around Amaranth's position-size limits. He used swaps and derivatives to hide the true size of his positions.
Since Hunter had brought in so much money for Amaranth, the firm didn't closely watch him. Amaranth also allowed him to move to his own office closer to home in Canada.
Then, things unraveled...
An unexpectedly warmer winter sent natural gas prices plummeting.
Hunter was sitting on billions of dollars' worth of options and derivatives on natural gas. And these were bleeding millions every time natural gas prices fell by even a single cent. He made such big bets that they were too large to get out of if the market turned.
Eventually, Amaranth was in the hole for $6.6 billion – all thanks to Hunter. The firm imploded.
Hunter single-handedly caused the collapse of one of the world's largest and most successful hedge funds. Put simply, it was because of his overleveraged, one-way bet on natural gas in 2006.
Spectacular busts like Amaranth aren't a regular thing on Wall Street. But they teach us a valuable lesson...
Losses like this can happen if money managers don't have the tools they need to manage risk and exposure in the markets. That's true for individual investors, too.
So make sure you have the proper tools – and a plan – to manage risk.
The Power Gauge makes it clear when a trade has turned against us. And that means that unlike Hunter, we won't be riding our portfolios to zero.
Good investing,
Marc Chaikin
Editor's note: Marc just finished creating his 2026 battle plan... It's based on his own 50 years in the markets and his powerful Power Gauge system.
On Thursday, January 8, he will host a FREE online event to share it with the public for the first time. Plus, he'll draw your attention to an unsettling "trigger" that could be just days away – one that has predicted the year ahead with 100% accuracy since 1950.
