Two centuries of trend following
Dr. Jacques Saint-Pierre, Adjunct Professor of Finance at Laval University & Board Advisor
Wednesday, January 7, 2015
“The existence of trends is one of the most statistically significant anomalies in financial markets. When analyzing the trend following signal further, they found a clear saturation effect for large signals, suggesting that fundamentalist traders do not attempt to resist “weak trends”, but might step in when their own signal becomes strong enough.”
“In the list of long-known anomalies, the existence of trends plays a special role. First, because trending is the exact opposite of the mechanisms that should ensure that markets are efficient, i.e. reversion forces that drive prices back to the purported fundamental value. Second, because persistent returns validate a dramatically simple strategy, trend following, this amounts to buying when the price goes up, and selling when it goes down. Simple as it may be, this strategy is at the heart of the activity of CTAs (Commodity Trading Advisors) an industry that now manages (as of Q4, 2013) no less than 325 B$, representing around 16% of the total amount of assets of the hedge fund industry, and accounting for several percent of the daily activity of futures markets. These numbers are by no means small, and make it hard for efficient market enthusiasts to dismiss this anomaly as economically irrelevant. The strategy is furthermore deployed over a wide range of instruments (indices, bonds, commodities, currencies...) with positive reported performance over long periods, suggesting that the anomaly is to a large extent universal, both across epochs and asset classes. This reveals an extremely persistent, universal bias in the behaviour of investors who appear to hold “extrapolative expectations”, as argued in many papers coming from different strands of the academic literature.” The Journal of Investment Strategies (2014)