Dispelling misconceptions about trend following

A good example? A reader of my blog thanked me recently for my writings, but he
wanted more. He wanted me to acknowledge, and this is his term, the elephant in
the room of trend following. He lamented that performance has not been good over
the last two years for trend following.

I responded that trend following firms had this year mostly been right back at
their all-time performance highs. I was not buying where he seemed to be going.
He just kept coming back and telling me that, ‘he can’t believe I don’t see the
elephant in the room.’

He did not respond back to my performance retort or other questions I threw his
way such as:

1. Are you saying trend following is no longer valid?

2. Are you saying the last two years means something new?

He just kept telling me how “bad things are”. He then told me that he had lost
all respect for me because I won’t see this ‘elephant’ with him — one that he
refused to define. What do I make out of the interchange? Not much. But I think
it offers a candid voyeur view into the mind of someone still struggling with
the whole concept of being patient until the next big trend arrives.

Ups and downs are part of the game for highly volatile trading approaches such
as trend following. You say you can’t stomach volatility? You say you are only
comfortable being long only in stocks? That’s safer you say? I bet you will tell
me next it’s less risky.

Six years after the Spring 2000 NASDAQ crash, from a buy and hold perspective,
the index is still in a -57% drawdown. That’s a long time to sit back and just
trust buy and hold. Then again, as I have said often, the Japanese surely don’t
believe in buy and hold. Their stock index, the Nikkei 225, is still in the
middle of a -60% drawdown spanning 16 years. That’s tough sledding for buy and
holders.

By comparison trend followers have a plan — a strategy. They hunt for big
trends and incur small losses during trend-less periods.

“Traders who make money in the market as both bulls and bears know how to hunt
for market food. They understand how to smell weakness and devour fear. They
have an acquired gut instinct that makes them the hunter, not the hunted. It’s
that simple. It has been said, “Successful people do the things that
unsuccessful people are unwilling to do.” The key word is “unwilling.” Most are
unwilling to do what it takes to find success. In some cases, things “can’t” be
done, but most often failure comes as a lack of willpower.”1

An old pro trading friend summed up that needed willpower for me: “Sometimes in
trading there just aren’t many trophies to be found – a trophy in the sense
being a trending market. These times separate the great traders from the not so
great traders. Over my 30 plus year career I have witnessed numerous “times like
these”. The good news is that they don’t last forever and my bet is things are
about to change. Trend followers have had a tough time lately but tough times
don’t last, but tough people do.”

Michael Covel

Footnote: (1) Remap Your Mind: Methods Are Important, David S. Nassar, SFO
Magazine, November, 2003