December 2, 2013
[Editor’s Note: Tim Price, Director of Investment at PFP Wealth Management and frequent Sovereign Man contributor is filling in for Simon today.]
In 1983, commodities trader Richard Dennis set out to show that anybody could trade profitably provided they were taught some simple rules.
His partner, William Eckhardt, disagreed… and a wager was born.
(If this sounds familiar, it should be. It forms the basis of the plot to John Landis’ 1983 comedy, ‘Trading Places’.)
Dennis placed classified ads in the financial press soliciting trainee traders– no experience required. Successful applicants were subsequently taught some basic rules about risk management and trend-following.
These aspirant traders were called ‘turtles’ after Dennis’ experience of seeing a Singaporean turtle farm, and his belief that successful traders could be “grown” just like those turtles.
21 men and two women were hired over the next two years in two separate programmes. Long story short, many of ‘the turtles’ went on to become multi- millionaires.
Not only that, but some of ‘the turtles’ went on to join the ranks of the most successful traders in history.
Richard Dennis believed that a successful trading philosophy could be taught to anybody provided they kept to the rules. Dennis himself borrowed $400 from his father and by the early 1980s had amassed a fortune of $200 million.
As his father famously observed, “Let’s just say Richie ran that $400 up pretty good.”
The basic ‘turtle’ rules involved entering trades on the basis of markets breaking out from previously established ranges. If a given futures market traded at a new 20-day high, then it should be bought. If it traded at a new 20-day low, it should be sold. Stop losses were included for hedging downside risk. Risk per transaction was also carefully controlled.
The turtles were allowed to trade a variety of US futures markets, including interest rates, currencies, energies, metals and commodities (hard and soft). Futures markets were favoured due to their depth and liquidity.
Whereas most fund managers try and predict the future, the turtles simply paid attention to the market price. For as long as price trends persisted and they weren’t stopped out, they would add to their positions (subject to obeying the rules about appropriate position sizing).
If the turtles lost money, they would have to reduce their bet size until they’d brought their account back into the black.
There are really only two ways of looking at financial markets. One of them is fundamental: to take into consideration macro-economic themes, the economy, interest rates, inflation. The other method is technical: what are prices doing?
Richard Dennis recognised that price is the only metric really worth trusting– everything else is a matter of opinion. This trading strategy today goes by the name ‘systematic trend-following’.
Unlike many approaches to trading, it requires no special understanding of any given market– just a healthy respect for the price action.
And there are two specific reasons why we look favourably on systematic trend-following funds.
One is that they have a long history of generating attractive returns.
The second is that whatever their future return streams, those returns can be confidently expected to come with roughly zero correlation to the stock market.
This makes them the perfect investment vehicle to sit within a -properly diversified- portfolio alongside the likes of stocks, high quality bonds, and real assets.