3 Simple Trading Systems That Beat the 'Buy & Hold' Approach.
Updated: Mar 26
An Introduction to Buy & Hold
Let me start by introducing what 'buy & hold' is and why it sucks butt.
As defined by Investopedia:
Buy and hold is a passive investment strategy in which an investor buys stocks (or other types of securities such as ETFs) and holds them for a long period regardless of fluctuations in the market. An investor who uses a buy-and-hold strategy actively selects investments but has no concern for short-term price movements and technical indicators. Many legendary investors such as Warren Buffett and Jack Bogle praise the buy-and-hold approach as ideal for individuals seeking healthy long-term returns.
Don't get me wrong, this approach does work over time. But aside from the fact that any monkey with half a brain cell can make a slow buck using buy and hold, here is one massive reason that you might not want to settle for this passive investment strategy.
You'll have to endure +40-50% drawdowns every time there's a market crash.
Why anyone would be content to watch their investments plummet is beyond me, but if you think you could hack it, let me paint a picture for you:
You diligently bust your balls for 40 or so years of your life (probably more than half the one life we all get). You're currently just 1 year away from retiring and cashing in your pension fund that you've been slavishly piling your money into month-in month-out. You can't wait to retire, access your hard-earned savings to enjoy the remainder of your life to the max! Unfortunately, for some bizarre reason, many pension funds or similar savers employ this buy & hold approach, and wouldn't you know it, the sodding market crashes again, just as it did in 1997, 2000, 2008, 2020 ... and as with many of these historical crashes, your savings have just taken yet another 30% hit. You've literally just watched a third of your life's savings disappear. Let that sink in. It can happen in the space of a month.
How would you feel?
Now ask yourself, especially fellow Brits, how many of you know someone who when they retired ended up selling their house and downsizing because they couldn't afford to live on their pension alone? They eventually ended up running out of money and needed support from their younger family in some way. Sadly, it's almost considered the norm now. A time of your life where, if anything, you should be buying your dream house, travelling the world, spoiling yourself (and your family) and enjoying the fruits of your labour.
But, more often than not, it's the total reverse.
One of the main reasons for this is generally poor financial education (or lack therof) instilled from an early age at schools. We're told to just whack all our money into a managed ISA, buy bonds and pay into your standard pension where you pay another company fees to essentially buy and hold for you.
Sure, the markets eventually recover, but it's not that simple. All the time it takes to claw back those lost profits is costing you money in fees, and sunken opportunity cost (missing out of making money from the market crashing, or investing elsewhere).
Finally, to get back on track after a drawdown you need to make more than you lost. The reason for this is because you now have less equity, but you still need to risk the same % amount to ensure good risk management. This means that making 5% return on an account with 500,000 in it, is not going to return the same as an account after a drawdown with 350,000 in it.
Which means, if you lose the following (see left side of the table below) then you'll have to achieve the following gain (see right side of the table) in order to reach breakeven again. This might not be a quick process!
So if you get whacked with a 50% drawdown 5 years before retiring, then you're going to have to make 100% again in order to get back to where you were before that drawdown.
Yes, you could argue that 'Buy & Hold' has worked well for Mr. Warren Buffet - as Investopedia suggests. But the everyday buy and hold investor paying into their pension is not comparable to Berkshire Hathaway (Buffet's fund). They don't have a team of expert analysts, traders and risk managers, they're hand selecting stocks that provide an edge. They're sitting down with the board of these companies and doing their research, hearing their plans for expansion etc etc.
He's a trend follower in disguise, let's not kid ourselves! Even so, the man, although an oracle, still has massive drawdowns and is a prolific trader of derivatives, just like us spread bet pros! Don't believe me? Have a read of this research post put together by Michael Covel on his website TrendFollowing.com
“Unless you can watch your stock holding decline by 50% without becoming panic-stricken, you should not be in the stock market.” - Warren Buffet
If you want to buy and hold, then be my guest, but please at least hear me out first and test the following simple, low maintenance systems, to see if these will be more appealing:
- The 200 Day End-of-Month Strategy
- The Index Trend Tracker
- The Double MACD With Cheese
The 200 Day End-of-Month Strategy
Made popular in recent decades by the trader Paul Tudor Jones, this system is as simple as they come, and is an approach that I'd recommend to anyone in place of buy and hold.
It's a trend following system that keeps you in the market in the prevailing direction of the crowd. When the market is down then it takes you out of the market, where you can sit on the sidelines in cash until the time is right to get back in!
Here's how it works:
- Add a 200-day moving average to your charts
- Only place a trade at the end of the month. One trade per month MAX.
- It's a long-only system where all you do is buy, never sell.
- At the end of the month, if the price closes above the 200 day moving average, then buy!
- Check at the end of each month, if it's still above the 200d MA then do nothing.
- Only close out the trade when at the end of the month the price is below the 200d MA.
- If the price moves under the 200d MA during the month then sit on your hands and do nothing until the end of the month. It's important to give the trend room to fluctuate up and down in its journey northwards. But if it's going to crash then it'll get you out of the market and mitigate any damage.
Check out this video to see a fantastic breakdown of how this system works, and also how it performs against other similar systems.
This system takes around 2-minutes a month. It's bloody easy to manually backtest for yourself too, so go and open some charts, add that 200d moving average and make a note of how many pips your make in the market.
The Index Trend Tracker
This is a system that I've used more recently on the Dow Jones, I've even automated it for MT4, MT5 and ProRealTime, so you can just set it and forget it.
This system looks to get into the market when the short term trend bias has turned bullish, and gets out quickly when the price reverses. It also uses confluent time frame analysis to give you a further edge and limit drawdowns.
-The system uses the 5 and 20 exponential moving averages (EMA) on the 1 minute charts (to keep you in the market as much as possible), but only when the price is above the 200 ema on the daily charts.
- It enters when the 5ema crosses over the 20ema on the 1-min charts.
- It uses a trailing stop-loss order of 200 pips on IG (ProRealTime), the step for the trailing stop should be 1. So it moves up 1 each time the price moves up 1 (this is the most reactive way to lock in profit).
- I have the system set to only place trades during the UK and US sessions, but it can hold trades for as long as the position is still running.
If you want to apply this system to any other market then it works pretty well, but you'll need to experiment with the optimum value for your trailing stop loss. As a rule 1.5x ATR on the 4hr charts keeps your losses small, but remember to set the default timeframe that the system executes on to the 1-min chart. Don't be put off by the use of 1-min charts, I'm not a fan of short term day-trading either, especially not on 1-min charts, it's pure noise and gambling! This system uses 1-min charts just to get you into the market as soon as possible on the first sign of very short-term momentum. The rules to exit the trade are based more on a 4hr chart basis. We're trying to beat buy and hold here, this does that by keeping you in the market as much as possible, but unlike buy and hold you're taken out of your trades whenever the market is trending down - so we miss out on the crippling drawdowns.
Let's have a look at some of my backtesting results, as you can see, I take backtesting very seriously, and so should any trader:
For the purpose of this set of backtesting results I used a sample account size of £50,000 and risked £200 per trade (0.4%). These are the results...
NB: This does take into account the spread on every trade as well.
NB again: This doesn't compound, it just has the same stake size of £1pp per trade. So in reality the results would be WAY more over time! Still this does show the system's performance well over a 6-month period through 193 trades.
Run-up vs. Drawdown
Notice that the system stops trading when the Dow Jones is trading below the 200-daily EMA.
Monthly Results Sep 2020-Mar 2021
Monthly Performance Heat Map
Detailed Statistics of the System
Recent Closed Trades
You can see that the big winners make up for the smaller losing trades. You can expect this system to lose 6 consecutive trades in a row at some points, and give you a drawdown in a flat/down market, but for the most part it does well as US indices move upwards more than any other asset class.
So there we have it, if you'd like to run this system on ProRealTime then I recommend signing up for an account at IG Index.
Activate ProRealTime on your chosen account, then on the Wall Street (DJI) chart click this icon:
...then create an automated trading system and enter the following code to test the system for yourself:
//Definition of code parameters DEFPARAM CumulateOrders = False // Cumulating positions deactivated // Prevents the system from creating new orders to enter the market or increase position size before the specified time noEntryBeforeTime = 080000 timeEnterBefore = time >= noEntryBeforeTime // Prevents the system from placing new orders to enter the market or increase position size after the specified time noEntryAfterTime = 180000 timeEnterAfter = time < noEntryAfterTime //Check for trend on higher timeframe timeframe(1 day,updateonclose) emaHTF200 = ExponentialAverage C1= (close > emaHTF200) // Conditions to enter long positions timeframe(default) indicator1 = ExponentialAverage indicator2 = ExponentialAverage C2= (indicator1 CROSSES OVER Indicator2) IF CountOfPosition < 2 AND(timeEnterBefore AND timeEnterAfter)AND C1 AND C2 THEN BUY 1 PERPOINT AT MARKET ENDIF // Stops and targets SET STOP pTRAILING 200
You will need to update the stake size depending on your risk per trade. The minimum stake size per point when automating a system is £1pp. So to automate this system you need a minimum account size of £10,000 I would say. That would be 2% per trade, which for me is too much (I personally risk 0.5% per trade on automated systems), but on the brink of acceptable, just don't trade any other strongly correlated markets with a similar approach, otherwise you'll have too much exposure and will be over-trading!
The Double MACD With Cheese
This is not a system that I've previously traded myself, nor have I backtested this myself, but I wanted to provide something a bit different. So here's a system I came across on a favourite YouTube channel that I follow - Financial Wisdom:
This can be used for Bitcoin, but it would also work on Gold and potentially even standard indices such as the Dow Jones, FTSE and DAX etc.
If you do try-out this system, or you backtest it then please let me know what your findings are. It seems like a very low-maintenance system that's easy to implement, but as with all systems they require you to be disciplined and stick to them consistently.
Always do your own backtesting, and when trading them, manage risk immaculately, as this is the biggest edge in trading! I hope that this post has opened your eyes to how dangerously inefficient a passive investing approach can be, and how easy/lucrative a managed trend following system can be.
Remember there are thousands of ways to successfully trade the markets, there's no single holy grail, or magic system that's perfect all the time. So don't waste your time trying to search for the perfect equity curve in your backtesting, it doesn't exist. If you find one that looks perfect, let me save your the sorrow and madness and shatter you by saying that it's been retro-fitted to look perfect, so much so that in real live markets it'll get decimated quickly - so walk away!
These systems are all proven, tested and traded over decades and will stand the test of time. So I feel confident in recommending them to you as a starting point to consider as an alternative to buy and hold.
Good luck traders.