Famous Investors and Tips (+)

"Winning traders may be made, not born"

 

The Experiment

In 1983, Richard Dennis and William Eckhardt started the “Turtle Experiment” to prove that anybody could be taught how to trade successfully. After placing an ad in The Wall Street Journal, thousands of novice traders applied but only 14 would make it through the first "Turtle" program. The program proved very successful. By the end of the experiment, the novice traders had generated tens of millions of dollars.

The Turtles used a trend-following system focusing on entry and exit rules, position sizing based on market volatility, and risk management.

 

Highlights of the Trading Rules followed by the "Turtles"

• Identifying and following strong long-term trends by using technical indicators such as moving averages
• Buying breakouts and selling on weaknesses
• Trades were triggered when the price of an asset made a new 55-day high and closed when there was a new 55-day low
• Planning your exit as planning your entry and knowing when to take profits and when to cut losses
• Using the ATR (average true range) to calculate volatility and accepting larger positions in less volatile markets and smaller positions in high-volatile market conditions
• Risking no more than 1-2% of your account on any single trade
• Having flexibility in setting the parameters and testing different setups for different markets
• Be ready to accept losses and drawdowns

 

The Book TurtleTrader by Michael W. Covel

The TurtleTrader by Michael Covel is a resourceful trading book and a bestseller. The book tells the story of the 23 'Turtle' traders trained by Richard Dennis and William Eckhardt. This is what we have learned from the book: “The Complete TurtleTrader - The Legend, the Lessons, the Results”:

 

 

Answering these questions at all times

The Turtles had to be able to answer these questions at all times:

1. What is the state of the market?

• What is the price that the market is trading at?

2. What is the volatility of the market?

• Daily how much does any market go up and down?
• If Microsoft (on average) trades at $50 but typically bounces up and down on any given day between $48 and $52, then the volatility of that market was $4
• More volatile markets generally carry more risk

3. What is the equity being traded?

• Every rule learned must be adapted to the given account size

4. What is the system or the trading orientation?

• In advance of the market opening, you must have a battle plan set for buying and selling

5. What is the risk aversion of the portfolio?

• Small betting (for example, 2% of the initial capital) keeps a trader in the game to play another day, all the while waiting for a big trend

 

Participating in a Zero-Sum Trading Game

Richard Dennis and William Eckhardt wanted the Turtles to understand that speculation had no external limits, however, if the Turtles didn’t protect their scarce capital, sooner or later the probabilities would catch up with them. Furthermore, as trading is a zero-sum game, the Turtles learned that they must win money from other market participants.  They also learned that they must use different methods than everyone else.

As the investment strategist Michael J. Mauboussin commented: “Great investors conceptualize problems differently than other investors. These investors don’t succeed by accessing better in formation; they succeed by using the information differently than others.”

A ‘good’ trade is not necessarily a profitable one, and not all losing trades are ‘bad’ trades. A negative month, a quarter, or even a year does not mean much in the grand scheme. The most important thing is to have a sound trading approach tested in the real world.

Richard Dennis commented: “Trading has taught me not to take the conventional wisdom for granted. What money I made in trading is testimony to the fact that the majority is wrong a lot of the time. The vast majority is wrong even more of the time. I’ve learned that markets, which are often just mad crowds, are often irrational; when emotionally overwrought, they’re almost always wrong”.

Mr. Denis also argued: “How much of a role does luck play in trading? In the long run, zero.  Absolutely zero. I don’t think anybody winds up making money in this business because they started out lucky.”

William Eckhardt commented on the subject: Many outstandingly intelligent people are horrible traders. Average intelligence is enough.  Beyond that, emotional makeup is more important. This is not rocket science. However, it’s much easier to learn what you should do in trading than to do it.

 

Calculating the Expected Return or else the Trading Edge

In trading, the higher the expectation, the more you can earn. All other things being equal, a trading system with an expectation of $150 per trade will make you more money than a system with a $120 per trade expectation. The 'Turtle rules' themselves had a positive expectation per trade because their winning trades were many multiples larger than their losing trades.

 

Calculating the expected return per trade

The edge or else expected return can be calculated by using the following formula:

■ ExpReturn = (PW x AW) - (PL x AL)

Where:

PW = Winning Percent

AW = Average Winner

PL = Losing Percent

AL = Average Loser

Example

Assuming, a trading system shows a 50% winning ratio, which means half of all trades are winners.  If the average winning trade is $500 and the average losing trade is $350, then this is what we should expect for trading with this system:

■ ExpReturn = (PW x AW) - (PL x AL) = (.50 x $500) - (.50 x $350) = $75

The expected average gain is $75 per trade (expect to gain that much from this system)

You need to calculate your edge for every trading decision you make because you can’t make “bets” if you don’t know your edge. It’s not about the frequency of how correct you are; it’s about the magnitude of how correct you are.

 

When to Enter the Market (Waiting for a Breakout)

The Turtles were taught to enter trades after identifying key breakouts. A breakout occurs when a market breaks through a crucial high or low.

 

Focusing on the 55-day Breakout

• The Turtle would buy if a stock made a fifty-five-day (55-day) breakout to the upside. Meaning that its current price was the highest price of the last fifty-five days
• The Turtle would sell if a stock made a fifty-five-day (55-day) breakout to the downside

 

Two (2) Variant Breakout Systems

The Turtles learned two breakout variants or “systems.”

• System One (S1) used a 4- week price breakout for entry and a two-week price breakout in the opposite direction of the entry breakout for an exit
• System Two (S2) was the Turtles’ longer-term trading system. It used an 11-week breakout (fifty-five days) for an entry signal and a 4-week breakout in the opposite direction for an exit.

 

Testing and Practicing with Variant Values

The advice here was to not fixate on specific values experiment, but to practice on breakout lengths. The key will be to accept a breakout value and stick with it consistently.

• Testing and practice breakout lengths, trust, but verify

 

Exiting the Market - Liquidations matter more than initiations

As William Eckhardt argued, liquidations are vastly more important than initiations. Eckhardt witnessed many systematic traders spending a great deal of time searching for the “good” places to enter. He cautioned against it.

• Eckhardt commented: “It just seems to be part of human nature to focus on the most hopeful point of the trading cycle. Our research indicated that liquidations are vastly more important than initiations. If you initiate purely randomly, you do surprisingly well with a good liquidation criterion.”
• Stop worrying only about how you enter a trade. The key is to know at all times when you will exit.

 

 

Risk Management, Volatility, and ATR

As mentioned in the beginning, the Turtles learned from day-one the importance of protecting their scarce capital. These are some key concepts to keep in mind.

 

The 2% Rule

To calculate the maximum accepted value of any trade, multiply your trading account’s balance by 2%. For example, a $100,000 account would risk 2% or $2,000 per trade. It is always better to bet a small amount initially on any trade in case you are wrong—which can easily be greater than 50% of the time.

 

Daily Ranges -The measurement of daily market volatility

Turtle risk management starts with the measurement of daily market volatility. The Turtles were taught to measure volatility in terms of “daily ranges.” It was nicknamed “N” and refers to ATR or else the Average True Range.

They were taught to take the maximum of the following for any market to derive “N”:

1. The distance from today’s high to today’s low
2. The distance from yesterday’s close to today’s high
3. The distance from yesterday’s close to today’s low

• If the result is a negative number, it is turned into an “absolute value.

The maximum value of the three choices is the “true range,” or technically the absolute distance (either up or down) the market traveled in a given twenty-four-hour period. The Turtles then took a 20-day moving average of true ranges. This gave them a sample volatility for the last few weeks for each market traded.

You can determine the average true range for any stock or futures contract. Take the last fifteen true ranges, add them up, and divide by 15. Repeat each day, dropping off the oldest true range. Many software packages will do this automatically. Assume you are trading Google stock and its ATR is 20. A 2ATR (2N) stop would be 40. If you lose 40 points on Google, you must exit, no questions asked. On the other hand, a small “N” allowed Turtles to trade a larger position or take on more units.

 

Sources/Links:

1. https://www.turtletrader.com
2. https://www.eckhardttrading.com/about-us
3. https://www.amazon.com/Complete-TurtleTrader-Investors-Overnight-Millionaires/dp/0061241717

 

■ The Turtle Experiment by Richard Dennis and the book: “The Complete TurtleTrader - The Legend, the Lessons, the Results”

 G.P. for CarryTrader.com (c) September 2024