Trend following expert Michael Covel shares his secrets and insights into how to use trend following to prosper in today’s tough markets.
John Nyaradi: Hi everyone, I’m John Nyaradi, publisher of Wall Street Sector Selector, a financial media site specializing in exchange traded funds, global markets and economic analysis. Today, I’m really pleased to welcome our special guest, Michael Covel. Michael, welcome to Wall Street Sector Selector.
Michael Covel: Thank you, John. Thank you for having me.
John Nyaradi: Great talking with you again. Mike is president of TrendFollowing.com, a privately-owned research firm. He’s also the founder of TurtleTrader.com, an internationally recognised website that’s visited by over 10 million users, and he’s a documentary filmmaker. He did the film Broke: The New American Dream that premiered on the Discovery Channel.
Mike, it’s really an honour talking to you today, and we’re going to talk about your new book, The Little Book of Trading: Trend Following Strategy for Big Winnings just published by John Wiley and Sons. I’ve read it. It’s a really useful book, it’s way up on the bestseller list at amazon.com so let’s start with why you wrote it. What do you want people to get out of it?
Michael Covel: You know, ever since August of 1998, we’ve had constant volatility in equity markets, and you know, prior to August ’98, it was kind of the whole idea was just buy and hold. You know, Peter Lynch, he goes to the mall with his daughter and bought some stocks, and they held on for, I guess, a couple hundred years, and so they passed it along, and everything was just rosy.
Well, I think we all know that that day is gone, the idea that you can just buy a stock and set it, forget it, show back up 7 years from now, and then retire in Shangri-La just doesn’t exist. But there’s hope out there. There’s optimism out there, and what I wanted to bring to the audience was that if maybe, perhaps, they got burned by buy and hold or value investing, or index investing, there’s an alternate strategy of making money, something that does much better than mutual funds.
And something at its core, at its heart that is about strategy. You know, it’s not just trusting blindly. And this strategy is called trend following. And so what did I did with The Little Book of Trading was to bring, over a dozen trend following traders who say, “Look, markets are very unpredictable. You know it’s hard to predict anything, so what do you do?” Well, all you can really do is follow trend, and you could follow trends up, follow trends down. And at the heart of it, we can get into this more, but that is the heart of it. It’s a very different way of thinking.
John Nyaradi: I agree. It’s really good. I learned a lot from it. You mentioned several really great traders in the book, and one in particular you returned to over and over, Ed Seykota. Can you talk about Ed’s message and what we could all learn from him?
Michael Covel: Well, Ed Seykota is a trader. He has always kind of been his own guy, his own independent guy. I think he had an affiliation with a brokerage firm very early in his 20s, and quickly broke away from that, and his whole thing went, “Look, I’m a trend-following trader. I’m going to follow markets up. I’m going to follow markets down. I’m going to have a betting strategy,” meaning we all have limited capital.
So, you know, you wake up today, and you know, how much do you bet of your limited capital? We have limited capital. And so Seykota was really strong on pushing people to understand that you can’t bet it all on one trade. You have to be risk averse. So if something doesn’t go your way, you don’t just hold on. You get out. You take your loss. Come back to fight another day. You preserve your capital. Those are some of the big lessons that Ed Seykota has inspired traders over the last 30 years to understand and appreciate.
John Nyaradi: You just touched on risk management there. Can you talk about how you measure risk? How do you do that? How do you control risks for a trend trader?
Michael Covel: Risk is really the only thing you could control. You can manage that risk. You can’t control anything else, OK. You can’t control what the Greeks are going to do. You can’t control what the Germans are going to do. You can’t control what the President is going to do. You can’t control what Bernanke is going to do. But you can control how much you’re willing to lose. You know, am I going to lose $5 today, $500, $5 million? You can control how much you’re willing to lose. And that’s where risk management starts.
John Nyaradi: We’ve heard the trend is your friend. There are all kinds of things, stochastic, trend lines, for determining the trend. What’s your favourite entry, what do you like to look at?
Michael Covel: I think when you look at trend following, probably one of the least important elements is the so-called entry, how you get in. The basics are great, breakouts, moving averages. But then questions you have to be worried about are what portfolio am I going to trade these rules on? How much exactly am I going to bet, you know, my limited capital? And then frankly, when are you going to exit with a win and when are you going to exit with a loss? And those elements are probably far, far more important than what most people get preoccupied with which is, when do I get in?
John Nyaradi: Yeah.
Michael Covel: Which is the basis of a show like a Jim Cramer Show. And I’m not picking on Jim. He’s a very smart guy, but the Jim Cramer Show is all about the entry. It’s all about getting in. That’s just not the way the best traders do it.
John Nyaradi: Towards the end of the book, you brought up a term that I’ve never heard before, capitalism distribution. Can you talk a little about that for our audience? I think that’s a really interesting point, what people can expect as traders?
Michael Covel: Yeah, I think sometimes, we all get caught up in the idea of consistency, and we think, ‘Well, you know, our markets are going to behave consistently. Our portfolio’s going to behave consistently.’ But the reality is, is what trend following traders come to understand is that there are just a few big markets.
There are a few big trends. And those become the core of our performance, the core of our returns. Everything else becomes small losses or small gains. And people say, “But Mike, are you really telling me we’re going to take 10 bets in 10 different markets, and we don’t know really where these markets are going to go, but 7 or 8 of these markets are going to be losers? We’re going to get small losses from them and get out, and two of them, are going to take off and become big trends, and these big trends could be gold, wheat, or Apple stock? We have no clear idea. Are you telling me that’s really how we’re going to have to live our lives, and that’s what the data shows, and that’s what the data shows to be the big results, and how people make the big money?” “Yeah, that’s exactly it.”
John Nyaradi: At the end of the book, you lay out some charts that profile some of these trend traders, and really, it proves that this really works. It’s not hypothetical. It’s not a back tested thing. Maybe just discuss that for a moment.
Michael Covel: I’ve done this across all of my books. If you walk out into the public and you tell people “hey, there’s another way of thinking, another trading strategy beyond the ones that you hear on TV on CNBC and the like,” you tell them there is something different, their first thought is going to be, ‘Oh really? What’s the proof?’
And so I always say , well, let’s take the month-by-month audited track records on file with the government in the back of my books so people can see how these traders have performed literally every month going back decades. It’s interesting.
It’s not my opinion. It’s not Michael Covel trying to convince you of something. It’s the cold hard facts, in chart form, on file with the government, all audited. That’s it. That’s a confidence builder in a strategy whether you’re going to do it yourself or whether you’re going to have someone else do it for you.
John Nyaradi: In addition to being a bestselling author, you’ve got a couple of great websites. I’ve looked at TurtleTrader.com and TrendFollowing.com. The Turtles were famous a few years back. Can you talk about those two websites? What you’re doing there?TurtleTrader.com and TrendFollowing.com?
Michael Covel: Yeah. I’ll give a quick overview of the Turtle story. The Turtle story is an interesting story because it goes back many decades. The original Turtle Trader made his first million by the age of 25. He made $200 million by the age of 37. In the early 1980s, he and his partner went to a movie theatre and they saw the movie, Trading Places with Dan Akroyd and Eddie Murphy, and they walked out, and this guy Richard Dennis who had made all this money said to his partner, “I could teach people how to trade.” His partner said, “No way, man. You’re a savant. You can’t teach people how to do it.” So they made a little bet. They hired a number of students which they nicknamed the turtles, approximately 20 students, young people, below the age of 25 mostly, gave them 2 weeks of training, staked them with some money, put them down the street from their offices in Chicago. Four years later, they had made aggregate $100 million.
20 five years later, after the experiments ended, six of them were still trading for clients. One of them has become a billionaire, all from the answering one ad. It proved – And this is what’s great about trend following. Trend following is not about some kind of innate talent. It’s about following rules.
So the Turtle experiment, Richard Dennis’s turtle experiment proved that if you could follow rules, you could win as a trend-following trader, and the Turtles were just that. They were trend-following traders. And so what I’ve done over the years is help people to understand how they’ve traded, and I’ve done that at my website TurtleTrader.com. I’ve also done that through other types of training at TrendFollowing.com.
John Nyaradi: That’s great. You have some great products on your websites, courses and books that people could buy and learn how to do this. That’s really, I think, a viable service. I always like to end these conversations by asking if there’s anything else you’d like to add. You know, the one thing that’s really on your mind right now that people should watch out for here in the autumn of 2011?
Michael Covel: Yeah, I think the biggest thing is that you really need to think for yourself because if you’re sitting there right now watching the TV, listening to the President – And I don’t care whether the President is a Republican or a Democrat – and you’re thinking he’s going to take care of you, he’s going to solve your retirement, you’re crazy. It’s not going to happen that way.
If you want to get rich, if you want the chance to get rich, there are not many options in this world. If you want to just be average, if you just want to sit back and take it, yeah, you could always call up Fidelity, give them all your money, and trust that that mutual fund is going to end up wherever it’s going to end up, and you know, pray that somehow or other Social Security is still around, but actually, who wants to live a life like that?
I mean turn the news off. Walk away. You know, find that strategy that you can believe in and trust, and go do it whether it’s trend following or something else. Just think for yourself. That’s the most important that I can say today. It’s just not the day and age to trust anybody with your money.
John Nyaradi: That’s great advice. Well folks, we’ve been talking with Michael Covel. He’s president of TrendFollowing.com and founder of TurtleTrader.com, also a documentary filmmaker, and bestselling author, his latest book is The Little Book of Trading: Trend Following Strategy for Big Winnings from John Wiley and Sons. I’ve read it cover to cover. It’s a great book. There is a lot to learn there. It makes a really convincing argument that really, the conventional wisdom is wrong, that normal everyday people like you and I can beat the market and be successful traders.
The book has gotten great reviews from people like Addison Wiggins, bestselling author and executive publisher of Agora Publishing and Dr. Van K. Tharp, president of the Van Tharp Institute. I’d like to add my humble endorsement and say it’s a great way to learn from some of the greatest traders.
To learn more about Michael, just follow the link at the bottom of this interview, and that will take you directly to his website that talks more about The Little Book of Trading as well as Michael’s other work. Michael, it’s been great chatting with you today. Thanks for joining us. I know we’re all looking forward to talking with you again soon.
Michael Covel: Thank you, John.
[interview edited for length and clarity]
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