Markets running you ragged? A rules-based approach to trading can help by removing the emotional element and allowing you to focus on the numbers.
Editor’s note: This is the final part of a three-part series on Richard Dennis and his “turtle traders,” and what traders can learn from the 1980s experiment. Part 1 tells the turtle traders’ story and offers a few tips on how to trade like a turtle. Part 2 explains how turtle traders follow the trend.
Richard Dennis's now-famous experiment with teaching a group of traders known as the “turtles” back in the early 1980s demonstrated a number of things. First, that trading can indeed be taught and that trend-following can be a profitable approach. Another critical element that investors today can learn from the turtles is that developing a rules-based trading approach could help you achieve better results.
It’s important for investors to follow a plan, or a set of rules, says David Settle, curriculum development manager for Investools from TD Ameritrade Holding Corp. Of course, there is no one system out there that will make money for everyone. Yet, some investors find that that success may depend on probabilities—managing risk on losing trades and letting winning trades run as long as possible.
“Some of the most successful investors or traders are those who develop their own set of rules that they are emotionally capable of executing consistently, whether those rules are dictated by fundamental inputs such as value investing, dividend growth investing, or technical price patterns like momentum trading,” Settle says.
A rules-based trading approach can remove some of the emotional impact that can affect trading decisions, often in a negative fashion. “Most traders can look back to their ‘worst trades’ and see that most of the time they were breaking their rules because they saw opportunity for bigger profits—greed—or worried about taking losses—fear,” Settle says.
Investors looking to take their market approach to the next level may want to consider crafting some rules around entries, exits, and risk management. There can also be rules that dictate how and when to move and exit order, such as a stop-loss order, from where you may have originally placed it.
One example of a rules-based trading approach is taught in the Stock Investing Course. This is based on trading in bullish markets, focusing on outperforming industries that are receiving institutional support. The approach identifies companies whose stocks are in uptrends and bouncing off new levels of technical support. “Once in a position, the exit rules allow for the stock to continue its upward trend for as long as possible until support is broken,” Settle says.
The course outlines a system of position sizing based on stop-order placement and overall portfolio risk for each individual position. “When you have multiple stock positions, it’s important to take steps to avoid having all of your trades stopped out at once,” Settle says.
Within the course, the instructors also provide sample investing plans that include examples of entry, exit, and risk management rules. For example, “In the sample investing plan for our Stock Investing course, the entry and exit signals are based on specific signals from three different indicators: 30-day simple moving average, MACD, and stochastic indicators. We also have a rule that suggests an investor’s position size so they don’t lose more than 2% of their active trading portfolio on any single trade,” Settle says.
Such rules help to take the emotions out of any individual’s trading. Plus, rules help traders protect themselves from major unexpected market moves that can impact their entire portfolio negatively, Settle says.
Just as the group of original turtle traders found, following a specific and detailed set of rules can help improve your trading odds. “Traders can’t eliminate the risk of loss completely, but they can try to keep their accounts alive in the worst-case scenarios, so to speak,” Settle says.
Do Not Sell or Share My Personal Information
Content intended for educational/informational purposes only. Not investment advice, or a recommendation of any security, strategy, or account type.
Be sure to understand all risks involved with each strategy, including commission costs, before attempting to place any trade. Clients must consider all relevant risk factors, including their own personal financial situations, before trading.
A stop (“stop loss”) order will not guarantee an execution at or near the activation price. Once activated, they compete with other incoming market orders.All investments involve risk, including loss of principal.
Market volatility, volume, and system availability may delay account access and trade executions.
Past performance of a security or strategy does not guarantee future results or success.
Options are not suitable for all investors as the special risks inherent to options trading may expose investors to potentially rapid and substantial losses. Options trading subject to TD Ameritrade review and approval. Please read Characteristics and Risks of Standardized Options before investing in options.
Supporting documentation for any claims, comparisons, statistics, or other technical data will be supplied upon request.
This is not an offer or solicitation in any jurisdiction where we are not authorized to do business or where such offer or solicitation would be contrary to the local laws and regulations of that jurisdiction, including, but not limited to persons residing in Australia, Canada, Hong Kong, Japan, Saudi Arabia, Singapore, UK, and the countries of the European Union.
TD Ameritrade, Inc., member FINRA/SIPC, a subsidiary of The Charles Schwab Corporation. TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank. © 2024 Charles Schwab & Co. Inc. All rights reserved.