In this article, we analyze the impact of dynamic stops on the performance of a trend-following strategy with futures contracts. Our backtests did not find any significant performance improvement.
We used Norgate data for our analysis. We highly recommend this data service (we do not have a referral arrangement with the company.)
Strategy Name: TFDLS
Timeframe: Daily (continuous back-adjusted contracts).
Markets: 23 futures contracts (We also tested the strategy with 39 futures contracts).
Strategy type: Trend-following based on breakouts, stop, and reverse.
Maximum positions: 23, long and/or short.
Position size: Based on stop-loss and maximum risk per position.
Stops-loss: Based on ATR.
Trade entry: All trades are executed at the open of the next bar.
Backtest range: 01/3/2000 –05/15/2023
The strategy is not optimized for the highest annualized return. The entries and exits are based on price breakouts. The breakout lookback period is not optimized but based on the popular length used by trend-following CTAs.
Static stop: It is calculated before entry based on ATR and stays constant until exit.
Dynamic stop: It is updated after every close based on ATR changes
Static Stops: Equity Curve, Drawdown Profile, Yearly Returns, And Daily Returns Histogram
Dynamic Stops: Equity Curve, Drawdown Profile, Yearly Returns, And Daily Returns Histogram
Performance Summary and Comparison of Static and Dynamic Stops
|Static Stops||Dynamic Stops|
|AVG. BARS IN TRADE||78.7||79.9|
Summary of the results
There is no significant difference in performance when transitioning from static to dynamic stops, even after the higher complexity. The gain in annualized return is 50 basis points and mostly due to turning a losing 2001 to flat. In our opinion, the high complexity of monitoring the trades and updating the stops is not justified for the small performance improvement, at least in the case of futures trading. We also increased the number of futures to 39, and we observed even less impact on performance. We suspect that as the number of markets increases, the impact of dynamic stops diminishes, due to smaller position sizes.
Rules of the strategy
The rules of the strategy TFDLS are available for sale. Contact us for details.
The rules included below are sufficient for implementing the strategy in a backtesting or trading platform. The futures contracts used are also included. This is a fundamentally simple strategy.
Risks of Trend-following Strategies
Trend-following strategies target outlier trades in markets. The win rate is usually low because the trades hit a stop-loss more frequently than an outlier is caught. This style of trading can easily lead to a loss of discipline. Trend-following strategies are fundamentally simple and any alpha comes from their systematic approach to trading the markets.
In addition, trends and trend-following are not the same things and many confuse the two. A trend-following strategy will not find trends where there are none. From 2004 to 2016, or for 13 years, the annualized return of the top 20 CTAs was 2.4%. The dispersion in CTA returns is high and not reflected in the averages. There is a high specific risk in choosing a CTA or a trend-following strategy.
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Disclaimer: No part of the analysis in this blog constitutes a trade recommendation. The past performance of any trading system or methodology is not necessarily indicative of future results. Read the full disclaimer here.
Charting and backtesting program: Amibroker. Data provider: Norgate Data
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