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Trends Can Be Unfriendly to Trend Followers [Premium Insights]

Large variations in the performance of trend-following strategies in 2020 illustrate that trends are not always friendly to all trend followers. In fact, in the same market one trend-follower may realize gains while another may suffer losses. Access to full article requires Premium Insights subscription.

“Trend-following” does not automatically imply success even if there are trends because trends and trend-following are not the same thing. Anyone who broadly associates trend-following with trading success is either in marketing or lacks skin-in-the-game.

Trends always develop in price series but to profit from trends a suitable strategy is required and this is actually the problem because there is unlimited supply of strategies and it is difficult to know which ones will work well forward; “Past performance is no guarantee of future success.” In the case of trend-following, non-stationary price series behavior translates into varying trend durations and volatility. A general model to profit from non-stationarity does not exist, a.k.a. Holy Grail, and selection of a strategy must be made in advance to maximize expectation and probability of success. This is a hard problem.

Note that some authors of trading books and articles have attributed failure of trading strategies to non-stationary price series while not realizing that it is non-stationarity that actually delivers the alpha. Without non-stationarity, profits would be impossible as everyone would use statistical methods to maximize expectation and probability of success. Therefore, non-stationarity penalizes some market participants and rewards some other participants who are better at modeling price action. The objective is not to remove non-stationarity but to take advantage of it to realize profits when it is even at extreme levels.

Below we introduce six simple trend-following strategies and then compare their performance in 2020 for trading SPY ETF. The results are illuminating especially when compared to recent performance and support our thesis that trends and trend-following are not the same thing. When someone claims vaguely to be a trend-follower, actually no useful information is provided and that someone can be successful or a big loser.

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Specific disclaimer: This report includes charts that may reference price target levels determined by technical and/or quantitative analysis. No updates to charts will be provided if market condition changes occur that affect the levels on the charts and/or any analysis based on them. All charts and analysis in this report are for informational purposes only. See the disclaimer for more information.

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