On Trend Following

Mark Wolfinger on

Hello Juan,

I'm pleased to hear you are enjoying the book.

First of all, I congratulate you on your acceptance of the sad fact that it's extremely difficult to predict the market. I readily admit that I am also unable to do it. You are correct to have serious doubts that Wall Street's experts can predict the market, because the evidence tell us they cannot.

Most managers of actively traded mutual funds - these are the pros who are paid to manage money - underperform the benchmark indexes. To me that's all the evidence I need to avoid allowing any of those 'pro's to manage my money.

But, your question is difficult to answer. You want to know if I believe a trend following strategy is better than a mechanical system based on technical analysis. Here is what I believe:

Trend following works. It's not necessary to get in at the beginning of a large move, nor is it important to get out before that move starts to reverse. All that's important is to be on board for the majority of the ride. But, how are you supposed to know when to jump on board and jump off? To do that, you must be able to recognize that a trend has started or ended. To me, that is predicting the market. It is just as difficult to predict that a trend has started as it is to predict anything else about the market.

In theory trend following is great. But for me, I never know when to buy or sell. Thus, I don't try. If you believe you have a reasonable chance of being correct about half the time, then go for it. If you get it right about half the time, you gains should easily provide more profits than you lose with the trades that fail.

One reason I use the option strategies outlined in the book (covered call writing and uncovered put selling) is that my chances of success are high. I don't have to be right about market direction to make a profit. If the stock I choose moves in my favor, holds about steady, or moves against me by a small amount, I win. Those are pretty good odds. Of course, I am unable to ever catch a huge win (like trend followers do), but I'll take many small wins when I know I cannot consistently predict the market.

What strategy is best for you? I really cannot answer except to say this: Trade in a manner that makes you money over time. If it's trend following, great. Trade with a methodology that leaves you comfortable and able to sleep at night. You may have to practice with paper trading to find your trading niche, but there is one that's right for you. And this final thought: When you find what works for you, don't remain married to it - markets change, people change, and you might want to try something different as time passes. Just keep your risk reasonable and protect yourself from large losses.

Mark

Hi Mark,

I'm currently reading "Create your own Hedge Fund..." which I'm enjoying very much.

I would like to know your opinion on Trend Following Systems who are often criticized for buying high and selling low, but I'm a convinced that a mechanical trading system is better for someone like me that has realized that is not able to predict the market, and I have serious doubts that Wall Street's "experts" are also incapable.

Kind regards,

Juan Highland

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