Trend Following. Ritholtz Barry

      Nothing has changed during the 21 years [over 40 years now] we’ve been managing money. Government regulation and intervention have been, are, and will continue to be present for as long as society needs rules by which to live. Today’s governmental intervention or decree is tomorrow’s opportunity. For example, governments often act in the same way that cartels act. Easily the most dominant and effective cartel has been OPEC, and even OPEC has been unable to create an ideal world from the standpoint of pricing its product. Free markets will always find their own means of price discovery.

      He who lives by the crystal ball will eat shattered glass.

      Whenever we get a period of poor performance, most investors conclude something must be fixed. They ask if the markets have changed. But trend following presupposes change.

      With the possible exception of things like box scores, race results, and stock market tabulations, there is no such thing as objective journalism. The phrase itself is a pompous contradiction in terms.

      One of our basic philosophical tendencies is that change is constant, change is random, and trends will reappear if we go through a period of non-trending markets. It’s only a precursor to future trends and we feel if there is an extended period of non-trending markets, this really does set up a base for very dynamic trends in the future.

      Our ace in the hole is that the governments usually screw things up and don’t maintain their sound money and policy coordination. And about the time we’re ready to give up on what usually has worked, and proclaim that the world has now changed, the governments help us out by creating unwise policy that helps produce dislocations and trends.

      Ultimately, it is the dollar-weighted collective opinion of all market participants that determines whether a stock goes up or down. This consensus is revealed by analyzing price.

      Now walking into client meetings we hardly ever have a discussion around why trend following works – the battle has been won.

      It is not the strongest of the species that survive, nor the most intelligent, but the ones most responsive to change.

      Investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go to Las Vegas.

      The trend is your friend except at the end when it bends.

      Defining a trend is like defining love. We know it when we see it, but we are rarely sure exactly what it is. Fung and Hsieh’s paper goes a long way to doing for trends what poets have been trying to do for love since time immemorial. They give us a working model that quantitatively defines their value for us. Traders will not be surprised to learn that trend following advisors performed best during extreme market moves, especially during bad months for equities. 72

      Change is not merely necessary to life – it is life.

      The people who excel in any field are people who realize that the moment is there to be seized – that there are opportunities at every turn. They are more alive to the moment.

      The four most expensive words in the English language are: this time it’s different.

      They are like surfboard riders, who study the movements of the waves, not in order to understand why they behave as they do, but simply in order to be on hand whenever they surge, to catch them at their crest, or as soon thereafter as possible to ride them as far as they possibly can, and to dissemble before they change direction.

      Markets don’t move from one state to another in a straight line: There are periods of countertrend shock and volatility. We spend most of our time trying to find ways to deal with those unsettling but inevitable events. That being said, it is really not difficult to put together a simple trend following system that can generate positive returns over a realistic holding period and there are many, many commercial systems that have been generating strong, albeit volatile, returns for a long time. So there are definitely firm grounds for believing in Santa Claus.

      By honest I don’t mean that you only tell what’s true. But you make clear the entire situation. You make clear all the information that is required for somebody else who is intelligent to make up their mind.

      Warren Buffett says in the long run the stock market is a weighing machine and in the short term it is a voting mechanism. He exploits the weighing machine and we exploit the voting mechanism.

      Ed Seykota is a genius and a great trader who has been phenomenally successful. When I first met Ed he had recently graduated from MIT and had developed some of the first computer programs for testing and trading technical systems… Ed provided an excellent role model. For example, one time, he was short silver and the market just kept eking down, a half penny a day. Everyone else seemed to be bullish, talking about why silver had to go up because it was so cheap, but Ed just stayed short. Ed said, “The trend is down, and I’m going to stay short until the trend changes.” I learned patience from him in the way he followed the trend.

      Be less curious about people and more curious about ideas.

      The wisest trend follower I know has said that every five years some famous trader blows up and everyone declares trend following to be dead. Then, five years later, some famous trader blows up and everyone declares trend following to be dead. Then, five years later.. was the problem trend following or the trader?

      Trend following is similar to being long options because the stop loss creates a limited downside, and the continuation of the trend creates the large upside. This is why the phrase for this approach to trading is to cut losses and to let profits run. Of course, if trends continually fail to materialize, these limited losses can accumulate to large losses. This is also true for any option purchase strategy. For trend followers, the option premium is paid for after an unsuccessful trade is closed when a stop loss has been reached. The premium can also be paid after markets have moved a great deal, profits have been made, and a reversal causes a trailing stop to be hit, and some of the profits reversed.