A Drawdown Decline in Your Investment: How to Recover Loss

Consider the following table:

 Loss of capital (%) Gain to recover (%) 5 5.3 10 11.1 15 17.6 20 25.0 25 33.3 30 42.9 35 53.8 40 66.7 45 81.8 50 100.0 55 122.0 60 150.0

Bear in mind that consecutive runs of losses are not merely possible, but will ultimately occur over time, given enough trades. However, when they do happen, this is the point when it is crucial to have a strong money management plan to keep you in the game.

Notes on How the Turtles Dealt with Drawdowns and went about Recovering from Losses

Aggressive pyramiding of more and more units had a downside. If no big trend materialized, then those little losses from false break-outs would eat away even faster at the Turtles’ limited capital. How did Eckhardt teach the Turtles to handle losing streaks and protect capital? They cut back their unit sizes dramatically. When markets turned around, this preventive behavior of reducing units increased the likelihood of a quick recovery, getting back to making big money again.

The rules were simple. For every 10 percent in drawdown in their account, Turtles cut their trading unit if they were trading a 2 percent unit and if an 11 percent draw- down happened, they would cut their trading size from 2 percent to 1.6 percent (2.0 80%). If their trading capital dropped down 22 percent, then they would cut their trading size by another 20 percent (1.6 80%), making each unit 1.28 percent.

When did they increase their unit sizes back to normal? Once their capital started going back up. Erle Keefer remembered one of his peers saying, “Oh my God, I am down so much that I have to make 100 percent just to get back to even.” But that Turtle ended up the year with a nice bonus, because the markets finally started clicking (and trending). Keefer added, “When the statistics finally all work and all those markets start moving, those ‘hot wires’ can start pulling you up pretty fast from a drawdown.”

For example, let’s say you are at \$10,000 and you keep losing, then you win a little, then you lose a little. You are now down to \$7,500. You are probably trading 40 to 50 percent of your original unit size. All of a sudden everything goes back up to \$7,800. It goes up to \$8,000, and you start restoring unit size. The Turtles could be down eleven months and one week into the year and then in the last three weeks of the year go from being down 30 or 40 percent to up 150 percent. Look at their month-by-month data from 1984 to 1988 (see Appendix). When the markets kicked in, it was a wild ride.

By reducing positions when they were losing money, the Turtles countered the arithmetic progression toward “ruin” effectively. Dennis and Eckhardt’s logic makes good conceptual sense, even for non- math novice traders.

Eckhardt did not want the Turtles to worry about linear decreases in their accounts. The slightest exponential curve from a big trend would eventually surpass the steepest linear curve they saw while losing. Dis-cipline, money management, and patience were the only ways it would work.

This day-to-day routine, however, was mundane. Every day they would come in and there would be an envelope with their name on it. That envelope would have their printouts with their positions. It included updated “N” values, too. That’s right, the Turtles did not have to worry about the basics of calculating “N.” Of course, they learned the hows and whys of “N” from Eckhardt, but the time-consuming calculations were done for them. The Turtles simply picked up their envelopes and checked to make sure their positions and orders were all as they were supposed to be.

There were two basic “stops” or exits to get Turtles out of their trades:

1. The 2N stop.

2. The S1 or S2 breakout exits.

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