We look at the historical volatility of the underlying asset to get an idea of how much it usually moves in any given week and try to get the same risk across all positions. So if an asset is really volatile our position size is smaller. If it is trending smoothly our position size is larger.
Over the last year one of the best performing, smoothest trends has been the S&P futures trend. Every week it moved up, with very little volatility. Consequently, our position in the ES was long and grew in size as the volatility decreased.
Of course, this all came to an end in February when the S&P 500 dropped 10% in just days. We weren't exempt. The position we had on in the S&P futures contracts took a big hit. And yet, we had one of our best performing months to date, with the system delivering a positive 8.2%.
See, while our position in the S&P took a hit we also had positions in treasuries, oil, natural gas, precious metals and many others. All of those trades followed the same exact process as the S&P trade. What direction is the contract moving and what is its volatility? Place a trade; follow the process. And last month when the S&P crashed we had big winning positions in oil, gold, treasuries and cattle that made far more than we lost on the one S&P trade. In fact, February was one of our best months to date. Our other similar month? August of 2019 when the S&P dropped as well and our system made 13%.
This behavior in trend following systems is one of the great reasons to allocate to the strategy. These systems often (not always) out-perform in periods of market turbulence. This isn't an idea we discovered. Michael Covel's classic "Trend Following" has the tagline "How to Make a Fortune in Bull, Bear, and Black Swan Markets". In his book Covel describes the performance of some of the great trend-followers. Their performance is amazingly consistent with examples dating back to David Ricardo in the 19th century through multi-billion hedge fund managers today. These traders performed well over the long-term in part because they are employing a strategy that doesn't just survive when the unexpected happens, it thrives.
There's always a trade-off though. If trend following is great why don't more people do it? I think you can get some hints from how the system performs week to week and month to month. If there are no trends the system usually generates a small loss. This can happen for months in a row interspersed with moderate returns. Then you have a month with great returns. This is a characteristic of these trading systems. They tend to have periods of many small losses followed by large spikes in returns. That can make it tough for people to follow it. But if you can stick with it, you will not only get great long term returns, you often get those returns at a time when the rest of your portfolio is taking a hit.
Lumpy, non-smooth returns, can make it tough to follow a trend system. One of the ways we mitigate that is standardizing the trade entry and calculations. Every Thursday night our system runs and kicks out the new positions long or short, and what the size of the position should be. If the signal is the same week over week we just check to make sure our long options haven't moved too far into the money. If they haven't we let them ride. If they have we roll them up to ATM. If the signal switches we close our open position and go the other way. This simple process allows us to maintain the trend portfolio on a large number of contracts with just a few minutes of work every Friday. We don't have to analyze charts to find the right set-up. We just follow the system.
Trend-following has a long-term performance that makes it attractive on its own. The fact that it often performs better during bad periods for other strategies makes it attractive as part of a larger portfolio of strategies. And automating the system allows you to trade it on a large number of contracts while having a very predictable trade schedule. There’s no guess work, no struggling to get fills; this system could be traded just as effectively on a 7 figure account as it has been in our 50k portfolio. We strongly suggest any trader allocate at least a small percentage of their portfolio to trend following. February was a perfect example of the value our system provides and unlike most CTA, you don’t need 500k-1MM to get access to managed futures system with a strong track record.
You can join our Steady Futures service for only $59/month. The subscription rates will go up once we have a longer track record. Similar systems usually cost few times more.