SteadyOptions is an options trading forum where you can find solutions from top options traders. TRY IT FREE!

We’ve all been there… researching options strategies and unable to find the answers we’re looking for. SteadyOptions has your solution.

Trend Following: An 88 Year look at S&P 500


Many investors have become interested in trend following strategies in recent years due to the scars of living through two major bear markets since 2000. In my firm, we also believe in trend following as a sustainable method for managing the downside risk of investing in risky assets like equity index funds and ETF's. 

A principle of quantitative investing is that the more data you have, the better. Below is an example of trend following the S&P 500 with a combination of 6 to 12 month absolute momentum since 1930. Individuals interested in recreating this simulation on their own can contact me directly at jblom@lorintine.com.  A hypothetical rules-based backtest this long includes the greatest crash we’ve ever seen in US stocks where the S&P declined 80% during the great depression. Some may get distracted by the discussion on how the markets were “different” then vs. now. The objective here is only to see how well a simple model holds up on as much historical data as possible. We’re looking for robustness.

 

Portfolio 1: Momentum (Either in the S&P 500, bonds, or a combination of both based on absolute or "time series" momentum)

 

IVV1930: This is a custom built dataset of S&P 500 total returns where index data is used prior to modern day investable products like the iShares ETF, IVV, which are used when they became available.  

 

Click on all images for greater clarity.

1.png

 

Every statistic is improved, except best year, which is expected, because during positive outlier years the best a single asset trend system can really be expected to do is match the buy and hold return. The most notable improvement is the reduction in volatility and drawdown, which is a common trait of simple trend following systems like this. 35% is still a large and very uncomfortable maximum drawdown, which is why diversification is always recommended and how we actually implement these concepts in our firm for our clients. 

 

I find it interesting to actually zoom in on the great depression period because backtesting does a great job of simulating everything about past performance EXCEPT how it would have actually felt to live through it. Cliff Asness says it well in his description of what he calls time dilation:

 

"Well the single biggest difference between the real world and academia is - this sounds overly scientific - time dilation. I’ll explain what I mean. This is not relativistic time dilation as the only time I move at speeds near light is when there is pizza involved. But to borrow the term, your sense of time does change when you are running real money. Suppose you look at a cumulative return of a strategy with a Sharpe ratio of 0.7 and see a three year period with poor performance. It does not phase you one drop. You go: “Oh, look, that happened in 1973, but it came back by 1976, and that’s what a 0.7 Sharpe ratio does.” But living through those periods takes — subjectively, and in wear and tear on your internal organs — many times the actual time it really lasts. If you have a three year period where something doesn’t work, it ages you a decade.  You face an immense pressure to change your models, you have bosses and clients who lose faith, and I cannot explain the amount of discipline you need."

 

2.png

 

 

Based on my decade of experience in working with investors, I can imagine the fear being so strong during this kind of period that investors would have bailed on the trend system even when it was doing its job of preserving capital. Certainly there was something else in the world that was making money during this period for investors to compare performance to and chase after the fact returns. When it comes to stocks, as prices go lower and therefore future expected returns increase…for some reason investors become less interested.  Perhaps this would be different if stock prices were quoted in yields instead? I don't know, but behavioral biases are actually part of the academic explanation of why trend following has held up for so long, including well after its discovery.

 

In more recent history, we saw a similar stretch in markets from 2000-2009, now referred to as “the lost decade” for the S&P 500. Trend following performed extremely well during this period, probably even better than should be expected during the next bear market due to how relatively stable both the up and down trends were during this period and also how strong the performance of US aggregate bonds was as a risk-off asset. 

 

3.png

 

Trend following does tend to under perform during strong bull markets like we've seen since 2010, so investors must manage expectations accordingly. The only way to get 100% of the upside is to accept 100% of the downside. Also, trend following is going to generate turnover that will make it less tax efficient than buy and hold and should therefore be favored in tax advantaged accounts for high income earners. All of these things are what we can assist clients with in designing a comprehensive asset allocation plan that suits your personalized situation and needs. 

 

Jesse Blom is a licensed investment advisor and Vice President of Lorintine Capital, LP. He provides investment advice to clients all over the United States and around the world. Jesse has been in financial services since 2008 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. Jesse has a Bachelor of Science in Finance from Oral Roberts University. Jesse oversees the LC Diversified forum and contributes to the Steady Condors newsletter. 

What Is SteadyOptions?

Full Trading Plan

Complete Portfolio Approach

Diversified Options Strategies

Exclusive Community Forum

Steady And Consistent Gains

High Quality Education

Risk Management, Portfolio Size

Performance based on real fills

Try It Free

Non-directional Options Strategies

10-15 trade Ideas Per Month

Targets 5-7% Monthly Net Return

Visit our Education Center

Recent Articles

Articles

  • 7 Ways To Avoid Forex Scams

    Forex scams are becoming frequent. Michael Greenberg reports on luxurious expenses, including a submarine bought from the money taken from forex traders. The forex industry is recently seeing more and more scams. Here are 7 ways to avoid losing your money in such scams:

    By Kim,

    • 0 comments
    • 145 views
  • Historical Performance of Selling S&P 500 OTM Calls

    If you’re comfortable owning an S&P 500 index fund, you should also be comfortable with covered calls. For example, CBOE publishes data on a simple covered call strategy with their BXMD index. The description from CBOE is as follows:

    By Jesse,

    • 0 comments
    • 147 views
  • Are Trusts the Best Way to Leave Money to Your Heirs?

    First, this is a general comment. Every person’s situation is different. I could say “95% of people don’t need this,” and you could be in the 5% who do. So, don’t ever make personal investment or estate planning decisions based on an online post, contact an actual investment advisor or attorney - most will have initial conversations for free (I do).

    By cwelsh,

    • 0 comments
    • 128 views
  • Anchor and Steady Momentum update

    As our members know, we introduced a new strategy to our members few months ago - Steady Momentum. The goal is to produce higher risk-adjusted returns than the underlying indexes. We also introduced a new version of our Anchor Trades strategy. This post will provide an update on both strategies. 

    By Kim,

    • 0 comments
    • 197 views
  • GBP/USD: If Boris Johnson Becomes PM, Volatility will Rise

    UK PM May is set to step down and Boris Johnson is the leading candidate to replace her. The erratic former foreign secretary may increase GBP/USD volatility. Despite Johnson's Brexit credentials, he could surprise and be pound-positive.

    By Kim,

    • 0 comments
    • 265 views
  • How Steady Momentum Captures Multiple Risk Premiums

    Our Steady Momentum PutWrite strategy attempts to outperform the CBOE PUT index, which writes cash secured puts on the S&P 500. An investable version of this strategy can be purchased with the ETF PUTW. The historical data for PUT extends back more than 30 years, highlighting how writing puts can be an attractive strategy.

    By Jesse,

    • 0 comments
    • 207 views
  • What Options Traders Need to Know About Dividends

    Higher dividends are better, right? Yes, usually. But not always. Dividends are a fundamental indicator and many options traders are not interested in fundamentals. But as a means for picking stocks on which to trade options, some fundamentals offer great insight.

    By Michael C. Thomsett,

    • 0 comments
    • 304 views
  • BTC/USD Struggles To Maintain Newly Conquered Territory

    The first condition to declare the market is in bullish mode has been fulfilled. Now it is Ethereum's turn to assume its part of the game. XRP/USD keeps a low profile, waiting for its chance. We begin the week of analysis celebrating the bullish behavior of Bitcoin late on Sunday.

    By Kim,

    • 0 comments
    • 291 views
  • Fear of Options Assignment

    One of the most common fears in option trading is one of early assignment.  The fear of having a large number of shares (or a large short position) coupled with a potential margin call (or Reg-T call) causing a sudden shortage of cash in their accounts worries investors.  Investors commonly view assignment as a huge potential risk.

    By cwelsh,

    • 1 comment
    • 435 views
  • The Value of Equity Asset Class Diversification

    This investing lesson is a tale of two time periods that highlight the important role of equity asset class diversification and systematic rebalancing in an equity fund portfolio.  Human nature is a failed investor, when our natural instinct is often to do the exact opposite of what we should do in practice.

    By Jesse,

    • 0 comments
    • 357 views

  Report Article

We want to hear from you!


How donyou backtest your strategy?İt is like portfolio visualizer but more long time period.

Share this comment


Link to comment
Share on other sites


Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account. It's easy and free!


Register a new account

Sign in

Already have an account? Sign in here.


Sign In Now

Options Trading Blogs