Altucher J. Trade like a hedge fund: 20 successful uncorrelated strategies & techniques to winning profits
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77
TECHNIQUE 6
Stocks Less
Than $5
I
nvestors as a rule shun low-priced stocks (stocks trading for less than
$5). Using a Google search for “stocks less than 5” and “low-priced
stocks,” I came across dozens of articles, newsletters, advisory services,
and so on that stated that buying low-priced stocks was the quickest way to
ruin. Some of the common reasons include:
• Stocks never come back once they go below $5.
• Stocks are more easily manipulated below $5.
• Stocks go below $5 “for a reason.”
However, this is all good news for the hedge fund trader. The fear that is
spread throughout the marketplace about low-priced stocks translates into
a higher-risk premium and, as a category, these low-priced stocks tends to
do well and are important trading vehicles.
EXAMPLES
OVER, 12/21/01
OVER was still called GoTo.com in late 2001, and the dot-com backlash was
still happening big-time across the market. GoTo.com could not figure out
its business model (Was it a search engine? Was it a collection of high-
traffic sites selling advertising?), and the market was not tolerating its in-
decision. The stock slid all through December (“tax selling,” the message
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board posters on Yahoo! tried to claim in defense), and it seemed like there
was no hope for the stock—until it hit 5 bucks a share to make a 52-week
low on December 21, 2001 (Figure 6.1). Buying at $5 and holding for one
month would have allowed you to sell on January 24, 2002, at 12.19 for a 143
percent profit.
INFT, 9/30/02
INFT, Inforte, describes itself as “a customer and demand management
consultancy,” which seems to be an obscure way of saying they are an in-
formation technology (IT) services company. Demand for IT services had
fallen for two straight years, and the environment was not getting any bet-
ter. Many of the companies that had gone public around the same time as
INFT had gone bankrupt or had been bought for pennies. INFT crossed
below $5 on 9/30 and then hit a 52-week low on October 3, 2002, when it
went as low as $4.75. Nevertheless, the company had $50M cash in the
bank, no debt, and was trading at a $50M market cap at that price. And was
profitable! Buying at $5 a share, holding for one month and selling on Oc-
tober 29, 2002, would have allowed you to book a 56 percent profit (see Fig-
ure 6.2).
However, not everything is so rosy in low-priced land as the following
example shows.
WCOM, 4/10/02
WCOM basically disintegrated overnight as a company. I remember reading
an interview in the spring of 2002 with a fairly prominent value investor
who was saying “people are just now starting to realize WCOM is a value
stock. We can easily see it double or triple from here.” Within months peo-
ple realized that WCOM had committed billions of dollars worth of fraud. It
is hard to make money on the long side in the face of massive fraud. (Al-
though Technique 3 on bankruptcies describes how you could have made
money shortly after WCOM filed for Chapter 11.)
On April 10, 2002, WCOM hit below $5 for the first time that year (Fig-
ure 6.3, page 83). Within a week it looked like there might be a chance at re-
covery as the shares went as high as $7. Nevertheless, holding for one
month would have cost 60 percent of your investment as you would have
sold at 2.01 on May 9, 2002.
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Stocks Less Than $5 79
Volume
14.50
14.00
13.50
13.00
12.50
12.00
11.50
11.00
10.50
10.00
9.50
9.00
8.50
8.00
7.50
7.00
6.50
6.00
5.50
5.00
13.19
1,000K
800K
600K
400K
200K
FIGURE 6.1 OVER on December 21, 2001.
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80 TRADE LIKE A HEDGE FUND
Volume
8.20
8.00
7.80
7.60
7.40
7.20
7.00
6.80
6.60
6.40
6.20
6.00
5.80
5.60
5.40
5.20
5.00
4.80
7.95
600K
500K
400K
300K
200K
100,000
FIGURE 6.2 INFT on September 30, 2002.
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Stocks Less Than $5 81
Volume
6.80
6.60
6.40
6.20
6.00
5.80
5.60
5.40
5.20
5.00
4.80
4.60
4.40
4.20
4.00
3.80
3.60
3.40
3.20
3.00
2.80
2.60
2.40
2.20
2.00
1.80
1.60
1.40
1.20
1.65
600M
500M
400M
300M
200M
100M
FIGURE 6.3 WCOM on April 10, 2002.
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BUY LESS THAN $5
The WCOM example clearly shows the risk of playing low-priced stocks.
And, INFT aside, the difficulty in differentiating between the potential
WCOMs and the potential OVERs makes it hard to justify buying any stock
from a fundamental or technical perspective. That said, the following sys-
tem produces some interesting results:
• Buy when the 52-week low of the stock is greater than 5 or buy the mo-
ment the stock crosses below $5.
• Sell one month later.
For results, see Table 6.1, which shows an average return of 11.2 per-
cent per trade versus an average monthly return of approximately 0 percent
across the universe of stocks since 1998.
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TRADE LIKE A HEDGE FUND
TABLE 6.1 Data on 7000 Stocks Including All NYSE, Nasdaq,
AMEX Stocks Including Deletions, January 1,
1998 to January 1, 2003
All Trades
All Trades 1,886
Average Profit/Loss % 11.2%
Winning Trades 1110 (58.85%
Average Profit % 33.25%
Maximum Consecutive Winning Trades 23
Losing Trades 776 (41.15%)
Average Loss % –20.21%
Maximum Consecutive Losing Trades 17
CONCLUSION
The key is to use very small amounts of equity per trade. Since so many
trades are generated, there is no shortage of ideas for putting money to
work.
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83
TECHNIQUE 7
The Slow
Turtle
P
robably no trading system in existence has produced as much cult-
like fervor as the Turtle trading system originally developed by
Richard Dennis and William Eckhardt and now being used by possi-
bly hundreds of hedge funds to manage currencies, stocks, and commodi-
ties. The original story goes that Eckhardt was convinced that trading
couldn’t be taught and Dennis was convinced it could be. They made a bet
and then used very minimal criteria to select a group of students to teach.
These students became the original “turtles” (named after the Turtle system
that they were taught) and most of them went on to manage fairly impres-
sive funds. All of them were sworn to secrecy about the details of the orig-
inal system. However, I doubt at this point any of them use that original
system and if they do, it is certainly not the version we want to be using, the
Turtles trade trends.
Basically, if a commodity or stock is breaking to new highs, the idea is
that that momentum should continue and you should just ride the asset
until it is no longer making new highs. By trading a basket of uncorrelated
markets, you can take advantage of the fact that at any given point, some-
where in the financial universe, something is in a bull market.
Trend-following can offer huge returns. If you catch close to the begin-
ning of a huge bull move in a market, the returns on that trade can be mul-
tiples of 100 percent. Similarly, the drawdowns can be enormous. Dennis
himself has gone in and out of the hedge fund business several times, most
recently closing shop in 2000, primarily because his drawdowns have been
immense and clients have withdrawn money. The key to success in a trend-
following system is not in picking the right entries and exits, but merely
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staying in the game to be able to withstand the drawdowns. That said, if one
chooses a basket of assets carefully so that they are as uncorrelated as pos-
sible, it may be possible to smooth out drawdowns. We will see a simple
example of that possibility in a bit.
MY VERSION OF THE TURTLE SYSTEM
As for the system itself, there are many variations of the basic Turtle system
and its trend-following cousins. The version presented here is based on
one told to me by a manager of a multibillion-dollar trend-following fund. Al-
though most of the systems presented in this book are short-term coun-
tertrend systems, I do think a properly diversified trading strategy should
include some trend-following component. This is the system I currently use:
• Buy if an asset’s 22-week closing simple moving average crosses over
its 55-week closing moving average; buy at the market open the next
Monday.
• Sell if an asset’s 22-week closing simple moving average crosses under
its 55-week closing moving average; sell at the market open the next
Monday.
Note the simplicity of the method. The more complicated a system is,
the more likely it is to suffer from severe curve fitting. Basically, I am not
as interested in using complicated methods from quantum mechanics to
identify trends. If an asset is moving up so that its slow- and fast-moving av-
erages are moving up, then I am happy to say it is trending.
Why no shorting? As we have seen in Technique 5, shorting is not nec-
essarily the opposite of going long. Along with the fact that the markets
have a natural bias to move upward over the past one hundred years, your
upside is also capped at a 100 percent. When following a long-term trend-
following system, it is possible to have trades that make well over 100 per-
cent. Also, if you choose your basket of assets correctly, you can be going
long some assets, while other assets are on their downtrends.
EXAMPLES
S&P 500, June 1958 to June 1961
The lowest line in Figure 7.1 represents the 55-week moving average. The
line directly above it represents the 22-week exponential moving average.
On June 23, 1958, the lines crossed, and we bought at the open of the next
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The Slow Turtle 85
Volume
68.00
67.00
66.00
65.00
64.00
63.00
62.00
61.00
60.00
59.00
58.00
57.00
56.00
55.00
54.00
53.00
52.00
51.00
50.00
49.00
48.00
47.00
46.00
45.00
44.00
43.00
42.00
64.81
61.76
250K
200K
150K
100,000
50,000
64.86
FIGURE 7.1 S&P 500, 1958–1961.
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week holding until the bottom line crossed under on May 2, 1960, when we
closed out the trade for a 19.6 percent profit. The market seesawed for a
year or so afterwards before we bought again on January 3, 1961, at the
start of the next bull market that lasted throughout the 1960s.
S&P 500, July 1987 to May, 2003
Of course, no trend-following system would be worth its weight in salt if it
did not capture the trend that occurred throughout the 1990s as shown in
Figure 7.2. As seen in the figure, the system was long the market from Feb-
ruary 19, 1991, right after the Gulf War, until December 11, 2000, for a 271
percent return. (Also see Table 7.1, Table 7.2 (page 88), and Table 7.3 (page
89).)
You can, of course, run this system on stocks. Table 7.3 shows the re-
sults of the system on Nasdaq 100 stocks, starting with $1M and using 2 per-
cent of equity per trade.
The system was almost always in the market and had, of course, its eq-
uity peak at the peak of the bull market in 2000 (see Figure 7.3, page 90).
Figure 7.4 shows the annual returns of the system.
Using the Turtle system on stocks, you would have been able to maxi-
mize the advantages of the bull market while keeping drawdowns some-
what low in the bear market even though they existed. Notably, despite
being a horrible year for the broader market, 2001 was up 8 percent in this
system. The annual returns are shown in Table 7.4, page 93.
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TRADE LIKE A HEDGE FUND
TABLE 7.1 Results for the Turtle System on the S&P 500,
1950 to 2003
All Trades
All Trades 16
Average Profit/Loss $29,217.51
Average Profit/Loss % 29.26%
Average Bars Held 123.63
Winning Trades 12 (75.00%)
Average Profit % 41.14%
Average Bars Held 158.5
Maximum Consecutive Winning Trades 10
Losing Trades 4 (25.00%)
Average Loss % –6.39%
Average Bars Held 19
Maximum Consecutive Losing Trades 2
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