Turtle Trading

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Turtle Trading: A Comprehensive Guide for Beginners

Introduction

Turtle Trading is a financial trading strategy popularized by Richard Dennis, a highly successful commodity trader, in the 1980s. Dennis, believing that anyone could be a successful trader with the right rules and discipline, conducted an experiment, known as the "Turtle Experiment," to prove his point. He recruited and trained a group of amateur traders, dubbed the "Turtles," and provided them with a specific set of trading rules based on price action and trend following. The results were astounding; many of the Turtles went on to achieve significant profits, demonstrating the potential effectiveness of a systematic, rules-based trading approach. This article provides a detailed overview of Turtle Trading, its core principles, rules, and how beginners can implement it. We will cover the historical context, the key components of the system, risk management, and potential challenges.

The Turtle Experiment: A Historical Overview

In 1983, Richard Dennis placed an advertisement in the *Wall Street Journal* seeking individuals to participate in a unique trading training program. He wasn't looking for people with prior trading experience, but rather individuals with specific personality traits: disciplined, skeptical, and competitive. Dennis believed that trading skills could be taught, and that success depended more on following a system rigorously than on innate talent or market intuition.

From a large pool of applicants, Dennis selected 14 individuals – the "Original Turtles." These individuals came from diverse backgrounds, including a lifeguard, a poker player, and a farmer. Dennis and his trading partner, Bill Eckhardt, provided the Turtles with $100,000 each in trading capital and a comprehensive set of trading rules.

The Turtles were initially given small accounts and gradually increased their trading size as they demonstrated profitability. The system focused heavily on trend following, using simple technical indicators to identify and capitalize on emerging trends in various commodity markets, including soybeans, corn, wheat, and crude oil. Over a five-year period, the Turtles generated substantial profits, with the average Turtle achieving an average annual return of over 80%. This success solidified the principles of Turtle Trading and established it as a respected and widely studied trading methodology. A further group, known as the "Second Turtles" were also trained, with similar, though slightly less dramatic, results.

Core Principles of Turtle Trading

Turtle Trading revolves around several key principles:

Systematic Approach: Trading decisions are based on predefined rules, eliminating emotional biases. This is arguably the most important aspect. Systematic trading minimizes impulsive actions and promotes consistency.
Trend Following: The strategy focuses on identifying and riding established trends, assuming that trends tend to persist for a period of time. Understanding trend analysis is crucial.
Risk Management: Strict risk control measures are implemented to protect capital and limit potential losses. This includes position sizing and stop-loss orders. Risk management in trading is paramount.
Discipline: Adhering to the trading rules, even during losing streaks, is crucial for long-term success. Trading psychology plays a significant role.
Diversification: Trading across multiple markets helps to spread risk and increase the probability of finding profitable opportunities. Portfolio diversification is a key component.
Objectivity: The system uses objective criteria for entry and exit points, removing subjective interpretations of market conditions. Technical analysis provides the objective data.

The Turtle Trading Rules: A Detailed Breakdown

The Turtle Trading rules are broadly categorized into entry rules, exit rules, and risk management rules. Here's a detailed breakdown:

1. Entry Rules: Identifying Breakouts

The core of the Turtle Trading system lies in identifying breakouts. The Turtles primarily used the following methods:

55-day Breakout: This was the primary entry rule. A trade was initiated when the price of an asset broke above its 55-day high. This signals a potential new uptrend. The 55-day high is calculated by finding the highest price reached in the past 55 trading days.
20-day Breakout: A secondary entry rule involved breaking above the 20-day high. This was considered a more aggressive entry point, potentially offering quicker profits but also carrying higher risk. Swing trading often utilizes similar breakout strategies.
10-day Breakout: The most aggressive entry, used sparingly. A breakout above the 10-day high indicated a very short-term trend.
Breakout Confirmation: The Turtles generally required a close *above* the breakout level for at least one day to confirm the breakout. This helps to filter out false signals, known as false breakouts.

2. Exit Rules: Managing Profits and Losses

Trailing Stop-Loss: The Turtles used a trailing stop-loss order to protect profits and limit losses. As the price moved in their favor, the stop-loss order was adjusted upwards (for long positions) to lock in gains. There were different variations:

   *   N-day Trailing Stop:  The stop-loss was placed a fixed number of days (e.g., 10, 20) below the highest high reached since entering the trade.
   *   Percentage Trailing Stop: The stop-loss was placed a certain percentage below the highest high reached since entering the trade.

Reverse Signal: If the price broke *below* the lowest low reached since entering the trade, the position was closed. This signals a potential trend reversal. Trend reversal patterns are important to recognize.
Time Stop: If a trade didn't reach a predetermined profit target within a specified timeframe, it was closed, regardless of whether it was profitable or not. This prevents capital from being tied up in losing trades.

3. Risk Management Rules: Protecting Capital

Position Sizing: This is arguably the most critical aspect of the system. The Turtles risked a fixed percentage of their capital on each trade, typically 1-2%. This means that the maximum potential loss on any single trade was limited to 1-2% of the total trading account. Kelly Criterion is a more advanced method of position sizing.
Maximum Risk Per Market: The Turtles limited the amount of capital they allocated to any single market. This prevented a catastrophic loss if one market experienced a significant downturn.
Stop-Loss Orders: As mentioned above, stop-loss orders were used to automatically exit trades when prices moved against the Turtles' positions. Stop-loss order types vary in their execution.
Diversification Across Markets: Trading in multiple markets helped to reduce overall portfolio risk.

Implementing Turtle Trading: A Beginner's Guide

Here's a step-by-step guide for implementing Turtle Trading:

1. Choose a Market: Start with one or two markets that you are familiar with. Commodities like soybeans and crude oil were the original focus, but the system can be applied to stocks, forex, and other financial instruments. Forex trading and stock trading are popular choices. 2. Gather Historical Data: You'll need historical price data to calculate the 55-day, 20-day, and 10-day highs. Many charting platforms provide this data. Charting software is essential. 3. Set Up Your Charting Platform: Configure your charting platform to display the necessary indicators:

   *   Simple Moving Average (SMA): While not directly part of the original rules, an SMA can help visualize trends. Moving averages are fundamental to technical analysis.
   *   High/Low Indicators:  Mark the 55-day, 20-day, and 10-day highs on your chart.

4. Identify Breakouts: Monitor the price action for breakouts above the specified highs. 5. Enter Trades: When a breakout is confirmed, enter a long position (buy). 6. Set Stop-Loss Orders: Immediately set a trailing stop-loss order based on your chosen method (N-day or percentage). 7. Manage Trades: Adjust the stop-loss order as the price moves in your favor. 8. Exit Trades: Exit the trade when the stop-loss order is triggered or when the reverse signal is activated. 9. Backtesting: Before risking real capital, backtest the strategy using historical data to assess its performance. Backtesting strategies are crucial for evaluating profitability.

Variations and Modern Adaptations

While the original Turtle Trading rules provide a solid foundation, many traders have adapted and modified the system to suit their individual preferences and market conditions. Some common variations include:

Using Different Timeframes: Some traders use shorter or longer timeframes for identifying breakouts.
Combining with Other Indicators: Adding other technical indicators, such as the Relative Strength Index (RSI), Moving Average Convergence Divergence (MACD), or Bollinger Bands, can help to filter out false signals and improve trade accuracy.
Adjusting Position Sizing: Some traders use more sophisticated position sizing methods, such as the Kelly Criterion.
Optimizing Stop-Loss Placement: Experimenting with different stop-loss techniques can help to maximize profits and minimize losses.
Incorporating Volume Analysis: Analyzing trading volume can provide additional confirmation of breakouts and trend strength. Volume analysis is a powerful tool.

Potential Challenges and Considerations

Turtle Trading, while effective, is not without its challenges:

Whipsaws: In choppy or sideways markets, the system can generate frequent false signals, leading to whipsaws (small losses).
Market Noise: Short-term market fluctuations can trigger stop-loss orders prematurely.
Discipline Required: Strict adherence to the rules is essential. Emotional trading can quickly erode profits.
Adaptability: The system may need to be adjusted periodically to account for changing market conditions.
Brokerage Fees: Frequent trading can generate significant brokerage fees. Trading costs should be considered.
Slippage: The price at which an order is executed may differ from the expected price, especially during volatile market conditions. Slippage in trading can impact profitability.
Black Swan Events: Unexpected events can disrupt established trends and lead to significant losses. Black swan theory highlights the importance of risk management.

Resources for Further Learning

The Complete TurtleTrader: How 23 Savage Traders Became Millionaires: By Michael Covel. A comprehensive account of the Turtle Experiment.
Trading in the Zone: Master the Market with Confidence, Discipline, and a Winning Attitude: By Mark Douglas. A classic book on trading psychology.
Technical Analysis of the Financial Markets: A Comprehensive Guide to Trading Methods and Applications: By John J. Murphy. A thorough guide to technical analysis.
Investopedia: Turtle Trading
Babypips: Turtle Trading Strategy
StockCharts.com: Turtle Trading System: A Detailed Overview
TradingView: Turtle Trading Strategy (TradingView script example)
Trend Following: How to Make a Fortune in Bull, Bear and Black Swan Markets: By Michael Covel.
Market Wizards: Interviews with Top Traders: By Jack D. Schwager. Provides insights into the strategies of successful traders.
Fibonacci Retracements: [1]
Elliott Wave Theory: [2]
Candlestick Patterns: [3]
Ichimoku Cloud: [4]
Parabolic SAR: [5]
Average True Range (ATR): [6]
Chaikin Money Flow: [7]
On Balance Volume (OBV): [8]
Donchian Channels: [9]
Keltner Channels: [10]
Heikin Ashi: [11]
VWAP (Volume Weighted Average Price): [12]
Point and Figure Charting: [13]
Renko Charts: [14]
Harmonic Patterns: [15]

Technical analysis Trend following Risk management Trading psychology Systematic trading Position sizing Stop-loss order Breakout trading Commodity trading Backtesting ```

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