40 In, 20 Out, The Hedge Fund Trend Strategy Still in Use Today

TL;DR

• "40 In, 20 Out" is a simple yet powerful trend-following strategy.

• Long trades on the S&P 500 are profitable over decades; short trades consistently fail.

• Long lookbacks yield higher profits but fewer trades.

• Shorter lookbacks offer more trades but at the cost of lower profitability.

• Diversifying multiple breakout lookbacks can increase robustness.

Would you trust a trading strategy so simple it feels like a joke? Well, billion-dollar hedge funds do. "40 In, 20 Out" is a classic trend-following system that's been around for decades, and it's still winning.

In this article, we break down how this strategy works, what happens when you apply it to the S&P 500 since 1960, and why going short just doesn’t cut it. You’ll also see how modifying lookback periods impacts trade frequency and profitability.

What Is the "40 In, 20 Out" Strategy?

Visual chart of the S&P 500 showing the 40-bar highest high for entry and 20-bar lowest low for exit with annotated labels.

The "40 In, 20 Out" strategy gained popularity through the Turtle Traders experiment, where everyday people learned to trade trend-following systems and made millions. The idea is straightforward:

• Entry (Long): Buy when price closes above the highest high of the last 40 days.

• Exit (Long): Sell when price closes below the lowest low of the last 20 days.

The inverse is true for short trades:

• Entry (Short): Sell when price closes below the lowest low of the last 40 days.

• Exit (Short): Buy when price closes above the highest high of the last 20 days.

It’s price-action only. No indicators. No forecasting. Just reacting to momentum.

 Why Trend Following Still Works

Momentum isn’t a modern concept. Researchers have shown that price momentum has existed since as far back as 1100, including rice and wheat markets. As Michael Covel outlines in Trend Following, this behavior persists because human psychology, fear and greed, remains unchanged.

These strategies are:

• Simple and repeatable

• Fully mechanical (great for automation)

• Applicable across markets

Case Study: S&P 500 Results Since 1960

In the early decades, the classic 40/20 breakout setup performed well on the S&P 500. But as institutional participation and algorithmic trading increased, so did market noise. This shift has made short-term breakouts less reliable. Today, longer-term lookbacks provide better signal-to-noise ratios. Among the optimized variations tested, the 110 in / 60 out version stands out for its stronger risk-adjusted returns on the index.

Equity curve chart of the 110 in 60 out strategy on the S&P 500 from 1960 to 2025, showing strong upward growth.

We tested the long side of the 40/20 strategy on the S&P 500 from 1960 to 2024:

• Net Profit: Significantly positive

• # of Trades: Relatively low (~2–4 per year)

• Average Trade Profit: High

• Drawdown: Acceptable for long-term traders

Note on Data Accuracy:

This strategy is tested on the S&P 500 index price data going back to 1960. While the SPY ETF (which tracks the S&P 500) was launched in 1993, we use the historical index level as a proxy for earlier performance. Since the index reflects actual market pricing and adjusts for changes in its constituents over time, there is no survivorship bias in this approach.

Below is an example of the last trade on the S&P500

This 2024 trade on SPX shows a clean entry on a 110-bar high and exit on a 60-bar low, consistent with the long-only trend logic.

Detailed performance metrics table for the 110 in 60 out strategy, including profit, drawdown, and return ratios.

Despite being simple, the strategy consistently outperforms buy-and-hold during certain market regimes and offers a structured exit during downtrends.

Long vs Short: The Asymmetry on the S&P 500

Optimization results showing negative net profit for all short trades using the 40 in 20 out strategy on S&P 500.

Here’s the catch: short-side trend following doesn’t work on the S&P 500.

"If you optimize all the short-side values, nothing works" Ali Casey

We ran a full optimization of all lookback combinations for short trades on the S&P 500 daily timeframe—and none produced a positive net profit. Not one. This confirms that trying to short equities using daily breakout logic is a dead end. It's a long-only market by behavior.

Testing Timeframes: More Trades vs Better Trades

We compared three timeframes on S&P 500 futures:

• Daily Bars: ~41 trades, highest average profit

• 12-Hour Bars: ~97 trades, slightly lower average profit

• 6-Hour Bars: ~184 trades, much lower profit per trade

If you want more trades, go shorter. But if you want better trades, stick with the daily timeframe or 12-hour bars.

Performance Across Lookback Periods

Two strategy optimization tables for long trades on the S&P 500 using the 40 in 20 out strategy, sorted by Ret/DD and Net Profit.

We tested a range of entry breakouts from 5 to 150 days. The results showed:

• Short Breakouts (5–15): More signals, smaller profits

• Medium (30–50): Balanced

• Long Breakouts (60–100): Fewer trades, bigger profits

This confirms a trend-following truth: the longer you wait, the more powerful the breakout.

Decade-by-Decade Optimization: What the Data Reveals

We optimized all entry and exit values by decade and sorted the top 10 strategies based on Return/Drawdown. The early decades like 1960–1970 show an average entry of 24 and exit of 14—suggesting the S&P 500 was less noisy and more responsive to short-term trends.

Decade-by-decade table showing the top 10 optimized lookback values for entry and exit on the S&P 500 from 1960 to 2026.

By contrast, from 2010–2026, the top strategies needed much longer breakout periods: average entry at 70, and exit at 40. This reflects how current market is very noisy and require more patience and wider filters.

Bar chart comparing average entry and exit lookback values plus standard deviation across six decades of S&P 500 performance.

👉 See the chart image for full breakdown of each decade's top optimized values.

Hedge Fund Trick: Use Multiple Breakouts

Institutions rarely rely on a single system. Instead, they split capital across multiple breakout levels.

Example:

• Entry breakouts of 5, 10, 15, ..., 50

• Exit breakouts of 30,40,50, ..., 80

This creates many different systems, each running in parallel. As a retail trader, you can use micro contracts to replicate this structure and gain:

• Better robustness

• Smoother equity curves

• Diversification within the same market

Limitations of the Strategy

Even solid strategies have drawbacks:

• Short-side fails on upward-biased markets

• Chop kills momentum (sideways markets)

• Slippage and commissions matter, especially on shorter timeframes

That’s why it’s critical to focus on the long side for stocks and apply short-side strategies elsewhere (e.g., Natural Gas).

 Enhancements and Filters (Optional But Useful)

Want to boost results? Try:

• Directional Filters: e.g., only go long if price is above a 200-day MA

• Volatility Filters: skip trades during low ATR periods

• Time-Based Exits: exit if no profit after X bars

• Position Sizing: use different position based on favorable regimes

• Volume Filters: skip trades during low volume periods

• Portfolio: build a portfolio of different time frame, lookbacks, markets.

That said, the long-only strategy works surprisingly well on its own.

A Portfolio Approach

This (or any other) strategy can’t be your entire trading plan. Use it as one component in a strategy portfolio.

No single strategy dominates in all environments. A portfolio of systems, each with a unique edge, helps reduce volatility, improve resilience, and shorten drawdowns.

For example, when a trend-following system underperforms during range-bound markets, a mean-reversion system can pick up the slack.

The key isn’t finding the “perfect” system, it's combining uncorrelated strategies that work in different regimes.

Combine Trend Following with:

• Mean reversion strategies (e.g., RSI2)

• Volatility strategies

• Seasonal systems

For best results, make sure your systems are uncorrelated.

“Momentum persistence is real, it’s been observed for 100s of years” Ali Casey

Final Thoughts: Simplicity Wins

The 40 In, 20 Out strategy proves that trading doesn’t have to be complex to be effective. Especially on the S&P 500, where the long-only version holds up over decades.

Add it to your portfolio, tweak the lookbacks, or run multiple systems in parallel. Don’t mistake simplicity for weakness, the real edge is consistency over time.

FAQs

1. What markets does 40/20 work best on?

• Futures, forex, ETFs, especially those with strong trends like gold, crude oil, or currencies.

2. Why does the short side fail on the S&P 500?

• The S&P 500 has an upward drift. Most breakdowns are false or recover quickly.

3. Can I improve the system?

• Yes, using filters or combining multiple breakouts can help.

4. Is it better than RSI or moving averages?

• It's not better, just different. RSI shines in mean reversion. 40/20 excels in momentum.

5. Can I trade this on SPY or ETFs?

• Absolutely. It works well on SPY, QQQ, or sector ETFs.

6. Is this good for beginners?

• Yes. The rules are clear, mechanical, and easy to automate.

7. Should I optimize the 40 and 20?

• You can, but stability is key. Avoid chasing the "best" combo.

8. Can I automate it?

• Yes. Any charting platform with scripting (TradingView, MultiCharts, etc.) can handle this logic.