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The Bible of Trend Following

Trend Following Is Not that Complicated?

Trend Following is not that complicated.

This was an email of a friend of mine. I believe in theory he is right…however there are always draw downs and worse extended periods of no profits. I am actually in one and it is one of the longest durations of drawdowns I have ever been in….Read below…and let me know your thoughts…

I believe we all forget to use common sense from time to time. It’s OK. We are all prone to getting wrapped up in our emotions while trading and just living everyday life. Sometimes, we can lose self-awareness, perspective and ultimately our discipline.

The discipline I use to trade and live my life is Trend-Following. The core principles resonate with me. They feel natural. They feel like good old fashioned common sense. And when you test these principles, you clearly see that they actually work.

In case you may not be familiar with Trend-Following, its principles consist of:

1) Trading with the trend
2) Riding winners
3) Cutting losses
4) Managing risk
5) Sticking to the system

Seems pretty basic, right?

You may be tempted to overlook these basic rules because you may think if they’re so simple then why isn’t everyone doing them? Well, simple and basic aren’t synonyms for easy.

Take dieting for example. Everyone reading this knows what a healthy diet is. If I asked you to design a healthy 7-day meal plan, I bet most of you can do it no problem.

Everyone knows sugar, processed carbs and chemical-infused meat are horrific for your body. Yet how many of us still eat them? “Oh but they just taste so good” you may say. Is that what you plan on telling the doctor or your family when you get sick? Is taste, alone, worth the years you’ll shed off your life by eating them?

In trading, when you’re taking a big loss, do you tell yourself that you just love the stock so much that you can’t imagine selling it? This kind of self-talk is example of your emotions attempting to derail your discipline. Selling the stock is easy. You just click a button or two and it’s done.

What makes selling it difficult is the same emotion that comes up when you walk in front of a doughnut shop. You just can’t help it. Knowing the right thing to do is easy. Actually doing it is difficult.

Success in life and trading requires us to follow certain rules. A Trend-Following philosophy can help you lose weight as much as it can improve investing performance. Trend-Following can be applied to all areas of life.

By design, Trend-Followers stick with what works and cut out everything that does not. They do not waste time over-analyzing or second-guessing their rules. They manage risk according to their tolerance and goals. They don’t get greedy or impatient, but stick with their discipline. Above all, they survive during hard times and thrive during good times.

Go with the trends my friends,
Mike

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Jim Cramer Thinks We Could be in a Market Correction- Maybe We Buy!!! $SPY $QQQ $STUDY

“We are in treacherous territory,” says Jim Cramer.

As correct as Jim Cramer has been…Maybe we look to go long?????

cramer

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Buying Oppurtunity or Beginning of a Bear Market $SPX $NDX $Study

With the Nasdaq dropping 2% and the S&P 500 losing 2.1% yesterday is this a buying opportunity or the beginning of something else? No one has a crystal ball nor do they need to know the future. They do need to have a complete trading plan all thought out. I have been safely out of the stock market for some time except for my long position on the VIXY. The VIXY is an inverse of the stock market and it is called the fear index.

There is good reason to fear…yet potentially be optimistic. We are directionless currently ( no clear trend). The stock market’s failure to keep any part of Wednesday’s big gains raises questions and doubts of a recovery. The Nasdaq’s action over the last several weeks has been simply ugly. We are currently under the 50-day line which is an important technical indicator and worse, attempts to retake it have failed ( miserably yesterday). The breadth is very negative with losing stock 6-to-1 on the Nasdaq and by about 7 to 1 on the NYSE.

One must not trade their opinions and must be flexible. At this moment I am preparing a list of stocks to purchase if the market turns around.

ndx

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Learning from Trend Following Experts with Decades of Experience

I was at a conference and met the people behind the website Traders unplugged. They have some of the best interviews. Today on the treadmill I listened to Martin Lueck from Aspect Capital. As I have been trading since 1994, it is always good to be open to ideas of other trend followers. Martin Lueck came out with some very interesting points and suggest any professional or aspiring trader to listen to his podcast.

Podcast

martin

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Resistance at the 50 Day Moving Averages $SWKS $TRN $SLCA Drops

There are basically 2 main schools of thoughts in trading, technical & fundamental. I am of the schooling of technical. Interesting enough my daughter who works for a firm is more bent on fundamental. Regardless the key is to attempt to keep inevitable losses small. Currently the market is not healthy as the way I measure it technically. I am completely out of my longs and have one position which is short based the VIXY. There is currently resistance at the 50 day moving averages. The S&P 500 lost 0.2% after being up and down as much as 0.5% on the session. It tried to get above its 50-day line but failed to close above it. In a worse situation highlighting the inherent current weakness,the small-cap Russell 2000 slumped 0.9%. The index corrected as much as 11% from its July 1 high, more than double the declines of the Nasdaq and S&P 500. Again we have not had a double decline in such a long time. Traders who do not have a plan have been become complacent and have been rewarded to buy the dip.

At some point this will not work and will fail miserably.

Leading stocks have gotten hammered and does not seem to be a rotation at the moment.

Prior leaders such as Skyworks Solutions $SWKS, U.S. Silica $SLCA and Trinity Industries $TRN have cut their 50-day moving averages in big volume. This confirms more greater weakness…

Now is time to have a trading plan. Buy and hold is fine if you want to go through 50% draw downs as we have experienced not once…but twice in the last decade of the 2000s.

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Relief Rally Or Bull Market Continuation? $SPY

Only if I had a crystal ball. As we stand this rally…relief rally or whatever you might want to call it we saw Volume dropped on both the Nasdaq and the NYSE. Advancing stocks led declining issues by a 2-to-1 ratio on the NYSE and the Nasdaq. However it can be easily said there was a lack of conviction on behalf of institution investors. We have not had a follow through day yet…and maybe we will. When investing we must take it day by day and have no opinions yet trade a complete plan.
My trading plan has me completely out of the market until the market proves itself to the upside. We have fallen from the highest high X % over the last 100 days and the 10 EXMA crossed below the 30 EXMA. We have had 8 distribution days which have clustered which has caused a great deal of internal damage to the market.

These reasons have us out of the market. We have not had a significant correction in such a long time I almost can not remember. However as being a trader for decades I know the risks to the down side can be horrific. Too many have forgotten this or maybe they are just a new generation of traders.

ndx

If you are looking for private mentoring I offer one on one sessions…
Andrew@TrendFollowingMentor.com

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How To Tell An Uptrend In Stocks Is Over?

Supposedly no one ever rings a bell…when an uptrend is over.

No one knows how deep and long a correction will go. That is why I am a cautious investor.

The stock market typically signals a recession long before the trouble is obvious. According to the National Bureau of Economic Research, the 16-month recession in 1973-74 began in November 1973. However, the Dow Jones industrial average peaked in January 1973, beginning a series of lower lows 10 months before the recession’s technical start.
The bear market didn’t hit rock bottom until December 1974 — about 47% off the January 1973 high.

How will the individual investor know when to begin selling stocks?

Personally I use moving averages on the SPY and QQQ. More so I count distribution days. Currently we are at 8 on the QQQ. I exited most of my position when we had a clustering of 4 several weeks back. A cluster of distribution days will serve as the signal to start scaling back.

When you trade, you trade your personality. You need to have rules that match your personality and risk tolerances…

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5 year Old Bull – How Much Longer can the Party Last?

How much longer can this bull market continue? Anyway you look at it, this is a time to be cautious. This is an old bull market and markets do not go up forever. With all the QE for ever this will be ending shortly. So what do you do? At this time it is prudent to be cautious. It is not a time to be on margin. Follow a complete trading plan and look to avoid big losses.

Currently we have 7 Distribution days on the QQQ and now 5 on the SP500. These are not positives for the market. In my own trading I am almost out of the market, however this can change on any day. The Russell is beyond struggling.

At times like this one needs a complete trading plan; otherwise they can enjoy having 50% draw downs as in the past 10 years.

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Trend-Following Through the Rates Cycle​​​ Pimco Study

I have a colleague in London who sent me this interesting article. It is from Pimco…all credits to them…

Some investors have been concerned that the historical success of trend-following – a quantitative strategy that seeks positive returns by capturing momentum across major asset classes – might unravel in a period of range-bound or rising interest rates.
•We created a simple, transparent and hypothetical trend-following model that trades 20 markets and back-tested it over the period 1962 to 2013.
•Our results suggest that trend-following strategies have the potential to generate positive returns amid rising rates – and indeed, across all interest rate environments.


Article Main Body
Some investors have been concerned that the historical success of trend-following – a quantitative strategy that seeks positive returns by capturing momentum across major asset classes – would unravel in a period of range-bound or rising interest rates. PIMCO’s New Neutral thesis anticipates that interest rates will remain lower for longer. Eventually, ​however, rates are likely to rise from today’s rock-bottom levels. Even so, history shows that trend-following strategies have the potential to generate positive returns amid rising rates – and indeed, across all interest rate environments.

Most asset classes have benefited from 30 years of falling interest rates, as future cash flows have been discounted at steadily lower rates, boosting present values. Accordingly, passive long-only strategies now face a challenge in generating positive returns in a period of range-bound – or worse, rising – rates, which could partially reverse this discounting windfall.

Trend-following strategies, which take long or short positions across equity, bond, currency and commodity futures markets consistent with trends in these markets, rode the long downward trend in rates and often profited. However, unlike most passive strategies (and many active ones), trend-followers have no fixed directional bias and can short any and all markets that are falling. By their nature, trend-followers will often miss turning points. But whether markets are rising or falling, if trends are persistent and strong, trend-following strategies are designed to seek profits.

Figure 1 illustrates the point. It compares hypothetical excess returns of a simple trend-following strategy model with those of U.S. equities and five-year note futures from 1962 to 2014. The 14 years in which rates fell 100 basis points (bps) or more had the strongest trend-following returns, averaging 10.3%. However, the 12 years in which rates rose 100 bps or more still had a positive average excess return of 4.5%. This should be compared with the -4.9% estimated excess return on Treasury futures during those years. Interestingly, equity markets had excess returns of about 6% in all three interest rate regimes.

Figure 2 shows the asset class breakdown. Contributions were well balanced, especially in the falling rate and range-bound years. This shows that hypothetical trend-following returns during the last 30 years were not driven solely by interest rate positions. In the rising rate years, the contributions from rates and equities were much smaller, but still positive. In the example, currency futures generated the largest returns.

Rising rate years are the most informative to examine further, as these are when generating positive returns is generally most challenging. From 1962 to 2014 there were 12 years in which five-year Treasury yields increased 100 bps or more (see Figure 3). During those years, Treasury futures averaged an estimated -4.9% excess return, while U.S. equity market excess returns varied from -17% (1969) to +32% (2013), averaging 6.1%. Trend-following returns are typically back-loaded: The model tends to lose money initially upon entering a period of rising rates, but once a new trend is identified, positions switch and may profit. The years 1979, 1994 and 2009 were the exceptions over this sample. In each case, whipsaw in the equity market led to losses.

Three periods are worth examining closely. In the five-year period from 1977 to 1981, five-year yields rose 100 bps or more in each year. In 1977, the trend-follower initially lost money, but then profited strongly as the trend persisted. In the second example, 1994, yields moved too fast for the trend-follower to profit, and whipsaws in equity markets led to negative returns. In the third example, 2013, yields again moved too fast for the trend-follower to catch the move and profit, but other asset classes, notably equities, did display significant trends, potentially delivering overall positive returns for the strategy.

Example 1: 1977-1981
The high inflation era of the late 1970s generated significant interest rate volatility and a period of persistently rising rates. From 1977 to 1981, five-year Treasury yields rose a total of 827 bps, generating an estimated -30% excess return on five-year Treasury note futures. The S&P 500 returned a total 9% excess return over this period. Figure 4 shows the five-year yield path and cumulative monthly excess returns of the simple trend-follower. The contribution to the trend-follower return coming from positions in note futures is also broken out. The hypothetical trend-follower initially lost money in 1977, caught on the wrong side as the prior trends reversed. As the year progressed, however, the interest rate trend persisted, and the trend-follower took short positions in five-year note futures and equities, and short dollar positions in the Japanese yen (JPY) and the British pound (GBP), delivering strong excess returns in the latter half of the year.

The next year, 1979, proved more difficult for the model, with high volatility in equity markets, but it again performed well in 1980 and 1981. Overall, the hypothetical trend-follower could have generated an approximate 34% excess return in total over the five-year period.

Example 2: 1994
The year 1994 witnessed the single-biggest one-year increase in five-year yields during the 1962 to 2014 period – from about 5% at the start of the year to nearly 8% at year-end. In this episode, the trend-follower model was caught off-guard at the beginning of the period, likely generating losses across asset classes. However, equity markets, after initially plunging, recovered strongly into the end of the year, whipsawing the trend-follower. Returns of the hypothetical trend-follower model for the full year were -4.2% (although it is worth noting that the model returned +17% in 1995 after the new trend became persistent).

Example 3: 2013
The last example covers the taper-induced rate spikes of 2013. Over the calendar year the five-year yield increased around 100 bps, but the majority of this occurred between May and August. This is another good example of how the trend-follower can be caught positioned the opposite way when rate spikes are wholly unanticipated. The model was profitable up until May, then lost money during May and June before equity markets surged in the second half of the year; the trend-follower profited from this new trend, ending the year +9%. Rate futures trend-followers ended the year roughly flat.

Conclusion
Unanticipated periods of rising rates may have unpredictable results on multi-asset portfolios and on some popular strategies. No strategy can fully mitigate this, but we find that trend-following strategies do have the potential to exhibit fairly robust returns during such episodes thanks to their ability to take short positions in markets that are falling. Trend-following, by its nature, tends to miss market turning points, and may lose money initially on spikes in rates or in periods of volatile but range-bound rate moves. However, our analysis shows that over extended periods, trend-following has the potential to perform strongly in all phases of the rates cycle, with contributions to that performance coming from all asset classes.

For investors, this property, combined with the strong performance of the simple trend-follower model in equity market drawdowns, should warrant consideration of these strategies in portfolio construction as a diversifier with the potential for positive returns.

Appendix: the simple trend-follower model
For the purposes of this analysis we set up a simple, transparent and hypothetical trend-following model. The model trades 20 markets: five each in equity index, bond, currency and commodity futures. The model trades once per week, taking a long position if the current futures price is above the one-year moving average price, and taking a short position if it is below. Each position is scaled inversely to the recent 3-month daily realized volatility of the contract, and the overall model is scaled to target 10% volatility, using trailing 10-year windows to estimate volatility. Some futures markets were unavailable in the early parts of the sample. In those periods, risk allocated to each asset class is kept roughly constant over long periods of time by scaling up the underrepresented sectors. Over short periods, risk can be skewed to some asset classes. Fixed transaction costs, estimated from available market data for each futures market of between 1 bp and 10 bps, are subtracted from returns.

Extended hypothetical futures time series are constructed for S&P 500 futures, five-year note futures and currency futures (JPY, DEM, AUD, GBP) before actual trading in those futures markets began. For S&P 500 futures we use daily excess return data from the Ken French database for the top 30% of U.S. stocks with reinvested dividends. For five-year note futures we use the Gurkaynak, Sack, Wright constant maturity Treasury yield data set to estimate daily returns, including roll down and carry. Delivery option effects are not included in the modelling but would not be expected to bias results. Proxy currency future returns are calculated using “risk-free” rate data from Dimson, Marsh and Staunton and Bloomberg spot rates starting in 1973. ​

Article Disclaimer​​
The “risk-free” rate can be considered the return on an investment that, in theory, carries no risk. Therefore, it is implied that any additional risk should be rewarded with additional return. All investments contain risk and may lose value.

Past performance is not a guarantee or a reliable indicator of future results. Investing in the bond market is subject to risks, including market, interest rate, issuer, credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies are impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and the current low interest rate environment increases this risk. Current reductions in bond counterparty capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. Entering into short sales includes the potential for loss of more money than the actual cost of the investment, and the risk that the third party to the short sale may fail to honor its contract terms, causing a loss to the portfolio. Equities may decline in value due to both real and perceived general market, economic and industry conditions.Managed futures contain heightened risk, including wide price fluctuations and may not be suitable for all investors. Commodities contain heightened risk including market, political, regulatory, and natural conditions, and may not be suitable for all investors. Derivatives and commodity-linked derivatives may involve certain costs and risks such as liquidity, interest rate, market, credit, management and the risk that a position could not be closed when most advantageous. Commodity-linked derivative instruments may involve additional costs and risks such as changes in commodity index volatility or factors affecting a particular industry or commodity, such as drought, floods, weather, livestock disease, embargoes, tariffs and international economic, political and regulatory developments. Investing in derivatives could lose more than the amount invested. High yield, lower-rated securities involve greater risk than higher-rated securities; portfolios that invest in them may be subject to greater levels of credit and liquidity risk than portfolios that do not. Mortgage and asset-backed securities may be sensitive to changes in interest rates, subject to early repayment risk, and their value may fluctuate in response to the market’s perception of issuer creditworthiness; while generally supported by some form of government or private guarantee there is no assurance that private guarantors will meet their obligations. Investing in foreign denominated and/or domiciled securities may involve heightened risk due to currency fluctuations, and economic and political risks, which may be enhanced in emerging markets. The models evaluate securities or securities markets based on certain assumptions concerning the interplay of market factors. Models used may not adequately take into account certain factors, may not perform as intended, and may result in a decline in the value of your investment, which could be substantial.

No representation is being made that any account, product, or strategy will or is likely to achieve profits, losses, or results similar to those shown. Hypothetical or simulated performance results have several inherent limitations. Unlike an actual performance record, simulated results do not represent actual performance and are generally prepared with the benefit of hindsight. There are frequently sharp differences between simulated performance results and the actual results subsequently achieved by any particular account, product or strategy. In addition, since trades have not actually been executed, simulated results cannot account for the impact of certain market risks such as lack of liquidity. There are numerous other factors related to the markets in general or the implementation of any specific investment strategy, which cannot be fully accounted for in the preparation of simulated results and all of which can adversely affect actual results.

The S&P 500 Index is an unmanaged market index generally considered representative of the stock market as a whole. The index focuses on the Large-Cap segment of the U.S. equities market. It is not possible to invest directly in an unmanaged index.

This material contains the opinions of the author but not necessarily those of PIMCO and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission. PIMCO is a trademark or registered trademark of Allianz Asset Management of America L.P. in the United States and throughout the world. THE NEW NEUTRAL and YOUR GLOBAL INVESTMENT AUTHORITY are trademarks or registered trademarks of Pacific Investment Management Company LLC in the United States and throughout the world. ©2014, PIMCO.

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The S&P 500 is up 200% since the March 2009 Lows- What to Do Now!- As per Mike

I have a colleague who sent me this email. I thought to share it as most investors I believe will get it wrong…

The S&P 500 is up 200% since the March 2009 lows.

That’s great if you’ve been fully invested since then, but let me ask you one question…

When do you ring the register?

Now? What if stocks keep going up?

When your buddy at some fancy bank or hedge fund tells you to?

Never because you “believe” stocks always go up and you’re “in for the long-term”? How’d that work out for your parents in 2008 and 2000? Both times, they took 50% drawdowns.

From 2000-2013, stocks went nowhere – earning people no money. None.

What if stocks start falling? Do you sell when they drop 10%? 20%? 30%? 40%? 50%?

Most people have no idea when to sell. Most people never sell. They don’t want to think about it or take the 20 seconds to click the two buttons in their Schwab account to protect their money. So, they get pummeled and frantically watch CNBC for answers.

Don’t be these people. If you have an advisor, ask him what the plan is. If he doesn’t have a good answer, fire him ASAP.

If you invest directly in a hedge fund, ask the manager what the selling procedure of his strategy is. If he doesn’t answer clearly, bust a move outta there. He probably doesn’t have one.

Having a selling plan protects you when the sh*t hits the fan.

It’s that simple.

Best,

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