Turtle Trading Rules: Trend Following Investing based on 20 & 55 Day Highs

In Brief

A mechanical trend-following trading system  based on Price Momentum signals, specifically the 20 and 55 Day Highs. In 1983, commodities trader Richard Dennis bet with his business partner Bill Eckhart that he could teach a random group to be great traders.

"We're going to raise traders just like they raise turtles in Singapore".

Background

After taking out an advert in the Wall Street Journal, Dennis & Eckhart narrowed over 1,000 applicants to 21 men and 2 women. Dennis trained his Turtles, as he called them, for only two weeks. They were taught a simple trend-following system, trading a range of commodities, currencies and bond markets, buying when a market broke above the top of its recent range (and vice versa if it broke below). After they proved themselves, Dennis funded most of the trainees with $1 million to manage.

In summary, the Turtle Trading system is a trend-following system where trade initiations are governed by price channel breakouts, as taught by Richard Donchian. The original system consisted of two mechanical trading strategies, S1 and S2 with S1 being far more aggressive and short term than S2. 

Mechanics of Turtle Trading

The Turtles traded only the most liquid futures markets:

System 1: 

• Go long (short) when the price exceeds the high (low) of the preceding 20 days. This breakout signal would however be ignored if the last breakout would have resulted in a winning trade (but an entry would be made at the 55 day level to avoid missing major market moves). The System 1 exit was a 10 day low for long positions and a 10 day high for short positions.  he System 1 exit was a 10 day low for long positions and a 10 day high for short position.

System 2:

• Buy (sell) when the price exceeds the high (low) of the preceding 55 days. All breakouts for System 2 would be taken whether the previous breakout had been a winner or not. The System exit was a 20 day low for long positions and a 20 day high for short positions.

The rules also taught Turtles specific rules about position size, the use of stops, and to pyramid aggressively - up to a third of total exposure. A former Turtle, Curtis Faith, apparently improved the performance by adding a further filter, namely that the 40-day moving average is greater than the 200-day moving average, to guard against "bear traps" (i.e. prevented the strategy from entering trades on breakouts that occured in bearish markets).

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Does it Work?

When Dennis’ experiment ended five years later, his Turtles reportedly had earned an aggregate profit of $175 million (80% CAGR). Some of those turtles went on to enjoy careers as successful commodity trading managers. However, a money management firm, Acceleration Capital, set up by former Turtle, Curtis Faith apparently imploded, although there appears to be some debate about how strictly this firm was applying the Turtle Rules.

Such a method of trading will apparently generate losses in periods when the market is range-bound, often for months at a time, but can see huge profits during large market moves. It can also apparently lead to major drawdowns - Faith alludes to this in the book when he describes how nine months profits were immediately erased in the wake of the '87 stock market crash.

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Watch Out For

According to Curtis, the Turtle System Exits were apparently the single most difficult part of the Rules. Waiting for a 10 or 20 day new low can often mean watching 20%, 40% even 100% of significant profits evaporate. "There is a very strong tendency to want to exit earlier. It requires great discipline to watch your profits evaporate in order to hold onto your positions for the really big move”.

The Source

For more information on Turtle Trading, a free PDF written by Curtis Faith is available outlining the original Turtle Rules. His book, The Way of the Turtle, is available on Amazon. There’s also The Complete TurtleTrader: How 23 Novice Investors Became Overnight Millionaires.

See also:

• Curtis Faith's website
• Powerstocks'  implementation for the JSE 
• T2W Discussion thread on the Way of the Turtle