LEAPs options, yes.

What I mean in my last sentence, is that it is how you psychologically deal with drawdowns that define you as a trader.

I am using LNKD as an example.

You might have a stock with enough data where simple crossovers and breakouts give you signal. I do say that LNKD is a bad example because we don’t enough data. Read my post again.

Simple measures such as cross overs and channel breakouts work. But you might end up with very big drawdowns which are very difficult for some to stomach. Which is why, for some, it makes more sense to build a system that takes into account other statistical measures mentioned above and smooth out volatility of returns. Have a look at what Winton, Bluetrend and the likes are doing. They seem to be the funds that allocators look at when considering a CTA investment.

Market wisdom is very important. It is when you know something is wrong and markets are untreatable. A good example is when an exchange decides to shut down, or an impending change in the rules such as margin or the sudden ban of short selling etc…remember you are trading markets that are sometimes regulated by people who are not rational. Market wisdom means experience, and knowing that something makes no sense, and it is better to stay out. David Harding decided to stay out of the markets late 2008, and sure he missed out on another 15%, but he still manages 10 Bio whilst the other CTAs who stayed and made that extra 15% are now out of business…

Systems have nothing to do with market wisdom. That is true. How can you program wisdom? Market wisdom means having enough experience and understanding that sometimes, it is better to switch off your systems and go home.

You put aside a system when there is a risk that the rules of trading are changing. Examples can be the shutting down of an exchange, banning trading for some reason, a sudden change in margins etc…remember as an example, what you are trading is regulated by people who supposedly gave Madoff a clean bill of health. Sometimes the risk does not justify putting your money at risk. In 2008 we nearly got there. And that will not be the last time.

I take your points about guns.

The meltdown was not predicted, but there were sings that the rules were changing. For example in the fall of 2008 banks stopped lending each other in the interbank market. Essentially the heart of the financial system seized up. Libors shot up to levels indicating financial armageddon. If you understand financial markets you would know something was not right. Banks stop lending each other, you might as well switch off your systems and go home.

For the first 7 to 8 months in 2008 if you traded systematically using a sound trend following system you would have made good money. But there was a point where the financial system stared into the abyss. I bet you a lot of people did not see this and kept trading. So they were right and the world was saved by printing money and delaying armageddon. Next time something like this happens, there might not be a short term solution. Wisdom and experience help you realize that its time to switch off your systems and go home.

You can never ever predict. But wisdom and experience help you understand the implications to rules changing.

I agree 2008 was an extreme example. Another example could be trend trading a stock in a foreign market and due to a change in regulations you could see your trend reverse so quickly and you not having the possibility to get out of your position due to, for example, sudden illiquidity. Again experience and wisdom might help you see an impending change in regulations, or even might stop you from trading an instrument that trends amazingly well due to a possible change in trading regulations.

I can only predict that nothing can be predicted. Sometimes a little bit of market wisdom and experience help you survive these markets a little longer.

Michael, 1 example is David Harding who flattened out his positions in the fall of 2008 because of what I described.

He has managed to build probably the most successful trend following fund in the world, in terms of AUM and returns, Winton.

There are others, namely Bluetrend. I would say Bluetrend is the 2nd most successful trend following fund in the world in terms of returns and AUM.

Are you buying now?

Michael you should profile them in your next book and specifically ask them this question.

Yes I know exactly what they did.

I am not arguing for the sake of arguing. I have been trading these markets for over 18 years. I have seen people come and go and believe me Michael, experience and wisdom are relevant.

BTW, trend following is not *dangerous* any more than any other strategy is to make money. It is about risk and controlling the downside.

Where is the drastic switch in Winton’s 2008 performance?

http://www.iasg.com/groups/group/winton-capital-management/program/diversified

Their fall 2008 looks like all of the other trend followers–albeit with less standard deviation of returns–which they were already known for BEFORE 2008.

“For the first 7 to 8 months in 2008 if you traded systematically using a sound trend following system you would have made good money.”.

This was the choppiest part of 2008.

“…1 example is David Harding who flattened out his positions in the fall of 2008 because of what I described.”

Based on your logic, and if what you say is true (although, the data doesn’t support you), David Harding has no experience and/or wisdom. If he “flattened” positions in the fall of 2008, he made a grave error. This was when all the money was made.

I’ve heard of managers (not personally) that would cut their trading if they experienced a 5% drawdown intra-month. The idea (I assume) was to be able to tell potential clients/allocators that they will never experience more than a 5% loss in any given month. Now, I don’t know how this tested (Or, if they tested this idea), but it never made sense to me. That is tantamount to prediction. How would they know their positions wouldn’t have reversed before the end of the month, and finish positive. The same goes for cutting trading in the fall of 2008. Just because you have a 10% gain in Aug 2008, a trader gonna wish they had that extra 15% (if that’s what would’ve happened had they not cut and run) going into 2009.

The market doesn’t know a clock or a calendar. It just is. Trend followers (for the most part) trade for absolute returns. How is that possible when you cut and run because “my wisdom/experience tells me…”?

I think Jad’s opinions show a profound lack of understanding of systematic trend-following and sounds suspiciously like an allocator trying to justify his allocations to the big name CTAs. A number of things you have said which make no sense to me:

1) “Have a look at what Winton, Bluetrend and the likes are doing. They seem to be the funds that allocators look at when considering a CTA investment.” – The ill-informed allocators maybe because they refuse to look outsize the box but also not true, money has flowed into plenty of other CTA programs. Sure, Winton etc seem to win he bigger mandates but that is partly big name bias and perceived security in larger firms (their excellent record notwithstanding). I have met hundreds of allocators who have money in Winton but don’t really know anything about trend-following yet they just love the whole PHD story, nice office etc etc

2) “David Harding decided to stay out of the markets late 2008, and sure he missed out on another 15%, but he still manages 10 Bio whilst the other CTAs who stayed and made that extra 15% are now out of business…” – How do you know this? Are Winton not 100% systematic? Predicting the market goes against what all CTAs generally stand for……Harding himself has said many times that he is “market agnostic”. I work for a CTA and we had our biggest month on record in late 2008. Also, can you name the CTAs who made the “extra 15%” and are now out of business? We aren’t!

You sound like someone who is too impressed by the “we have 100 phds” sales pitch without actually trying to think about what TFs actually do. Did you know some of the larger funds have PHDs working on execution because their vast size is actually becoming a bit of an issue.

This is no slight on the funds you mention, as they all have great records and are all good investments, but to suggest they are the best simply because they are the largest is just ridiculous

I am far from being impressed with Witon’s pitch or Bluetrend’s. I am not an allocator. I have written posts on money allocation and stated how screwed up the whole process is, at the cost of small CTAs. I think people are impressed with the Oxford ressearch unit pitch at Winton, and I agree it is only a pitch and means nothing. But Winton has generated very good quality returns irrespective of their pitch. So have Bluetrend. I think Bluetrend are even better.

To Al: good news that you guys are doing well. But trust me, a lot of CTAs went out of business even though they made double what Winton did in 2008, or have gone from managing sizeable AUMs to tiny amounts. Partly because of perceived security with size, but mostly because of volatility of earnings. And allocators shy away from volatility. Stupidly.

I think this whole conversation has gone off on a far tangent. My initial post was to do with how running a simplistic trend following system can be dangerous in the sense that you will experience big drawdowns, and in theory so what, but in reality, it is pshycologically very difficult to stomach and very hard to raise aum. Which is why the likes of Bluetrend and Winton have done so well, as they have blended their systems to lower volatility.

Anyways it does not matter what I think. You don’t agree with it, no worries. Like I’m not loosing sleep dude.

And I don’t see the point of your comments about me being “suspiciously” an allocator, and frustrated at it, and having a “profound lack of understanding” etc…? How does that add to your argument? Do you see me judging anyone?

Though I did laugh when I read it.

Ha.

To Todd:

You build a system an decide where your weightings are. They don’t change. So you think prior to 2008, I went and out-weighed myself in fixed income because I have a crystal ball? hahahaha

Why is everyone out to get everyone here?

I just got lucky that my systems are overweight in fixed income. It just happens that my backround is fixed income trading.

Yes the CTAs you mention are still in business and they are great traders. But there are many CTAs who did go out of business after 2008.

Anyways, like so what? I really don’t see the point of this going and coming anymore.

To each his own, and kudos to Mike for enlightening people on systematic trend following.

Peace out.

And who are they? I don’t know their story or performance. Trend follower? 2008 sunk them huh? But none of the TFs mentioned in any of my books were sunk? You are blowing some serious nonsense my friend about 2008 and trend following. I am not going to sit here and prove you wrong anymore–everyone with a pulse can look at the performance numbers–its black and white.

Mike they did manage a lot of money in managed accounts. Where you are looking I think they can only show AUM in their funds. They had over 600 Mio, and now they manage less than 50 Mio.

What the blank is my point? You say no vulagarity, but no worries. Why do you get so defensive? Jeezus I am all for trend following, friend.

My point is that you will fail if you build a simple trend following system. Not because you won’t compound well, because you will not be able to stomach the drawdowns. And you will not be able to raise money, because asset allocation is run by people who look at volatility of earnings.

And my initial point was that even if Linkedin looked good, it does not mean it is a trade worth putting on, because sometimes the rules of trading can change.

That is all.

Now I’m off to have a beer.

Cheers.

Maybe people here should learn to breathe and calm down before submitting comments.

ok, you win. I make zero sense.

No worries. Have a nice day.

I appreciate your post Larry.

I think you will find that a lot of traders who start out with a simple systematic TF system give up after a big drawdown. I agree some can take it, and others can’t. There is some amazing work done by Dr. Van Tharp covering the pschycology of trading (Peak Performance Course). It deals very well with the issue of how to handle a drawdown.

Also, it is very difficult to raise money using a simple TF system because of vol of earnings. Which is why many of the very succesful TF firms have developped blended systems which smooth out vol at the cost of absolute returns.

Personally I think this is a shame because their objective is not absolute returns anymore. They seek value by valuing their firms as multiples, or seek more AUM, because they become personally richer. For example compounding 10% on 10 Bio on a 2 and 20 deal equates to 400 Mio to the firm. Whilst a 500 Mio CTA compounding 20% on a 2 and 20 deal equates to 30 Mio to the firm. My point here (and hopefully this is clear) is that raising AUM at the cost of returns is more lucrative to a firm managing money. So a firm has more incentive spending money and energy on marketing to raise AUM then on ressearch and development to enhance absolute returns. The objective is not absolute returns anymore, but how do I become personally rich. So then the firm’s objective is how do I make returns look “attractive”? And we know what allocators look at: vol of earnings etc…

Finally, there is a lot of bull in this industry. And a lot of firms would have you beleive that their trading is 100% systematic, yet, when something they don’t like happens, they pull the plug on their systems. Lets say I just know this. I am sure there also a lot of people who do what they say they do.

I hope this post gets an interesting discussion going instead of people just responding by saying that I make 0 sense, and that everything I say is anti TF and therefore should be ignored.

Jad, forgive the personal attack.

It is just something I feel passionate about that there is a lot of additional value to be found outside the “big 4″ CTAs and being on of those smaller managers, it’s frustrating that allocators are a bit blind-sided by the whole PHD marketing pitch.

I agree that volatility scares institutional investors but also think there is a fundamental lack of understanding of volatility and how it can actually be used to enhance an overall portfolio. If you are comparing two funds, one with 15% annual return and a 15% max DD and the other has 30% return with 30% DD and similar fee structure, institutions will almost invariably go for the first one because it is perceived to be “less risky” even though if the fee structure is the same on both, they can derive similar returns with half the allocation (and therefore half the fees!) with the second fund!!!

There is much misinformation floating around in here–out right just not true stuff.

In his defence MC, I think Jad was just saying that institutions always make the mistake of investing in something seemingly stable such as LTCM or Madoff as opposed to a TF just because they can be volatile in the short term. I don’t think he was referring to them as a TF though.

Mike LTCM have nothing to do with TF.

I was just saying allocators shun TF funds in favor of LTCM and others.

If I have been inconsistent in my arguments, appologies. I’ve been trying to answer each post and maybe I got sidetracked.

No worries, have a nice day everyone.

Al, the 30/30 model will not attract a fraction of the money the 15/15 model will.

Big money doesn’t want gun-slinger like returns. Most say they do until they feel the pain of a big drawdown.

MC has written about Jerry Parker making a business decision to reduce vol, which has helped him get over 1B in AUM, if I remember correctly.

I think the crux of the issue is the statement that Jad made in post 3 that “basic trend following is dangerous”.

Basic TF with a 100% systematic approach which clearly defines position sizing, entry and exit points and risk management, executes trades on every signal given, and has no discretion other than that used to build the system, is far less dangerous than most discretionary trading, buy and hope, and scale down apporaches.

As a broker for many years with ML I saw quite a few people lose 50 – 70% on self-directed 7 figure accounts by over-trading themselves into oblivion between 00 – 02. Thinking you know what you are doing when you really don’t, that is dangerous. Emotional trading is lethal.

Trading a tested system with strict risk controls is far less dangerous.

When I speak of Trend Following, I speak of it in the technical sense as defined in Michael’s books – not “some time” trend-followers, “modified” TF, channel breakouts traders who call themselves TF.

How many TF profiled in MC’s book “Trend Following”
got blown out in the past 5 years? None, that I know of. These are true TF.

No Larry I am not saying when they shut down, that its “bull”.

I am saying that there are a lot of traders who seemingly run systematic TF systems, who shut down their systems when they feel there is a change in the rules of the game. What I say is bull is that they tell people they are 100% systematic, when in fact they are. Appologies if that was not clear. So the “bull” is that they are not really 100% systematic. There are no contradictions in what I say. As a point, most of the traders MC covers are genuinely 100% systematic.

To each his own Larry, and maybe I am wrong, and no worries or any hard feelings, but I subscribe to the view that sometimes you are just better off switching off your systems and going home. I have experienced several situations during my trading career when I did this and in retorspect I felt it was the right thing to do.

I agree with you Larry that even basic TF is far less dangerous than “emotional” or “gut feel” or any discretionary trading.

Maybe I should not have said “basic TF is dangerous”. I was trying to say that baisc TF exhibits high P&L volatility.

A basic TF model using MA cross overs trading the usual liquid futures with equal weighings across asst classes will annually compound around 15% and will have approximately a worst peak to trough drawdown of -30% and an annual standard deviation of 16%. This still beats the hell out of any discretionary trading, but -30% drawdown is not an easy sell to investors, and a lot of traders who start out knowing that this “might” happen bottle out once they go through with this sort of drawdown (I also agree many don’t flinch as well).

Now a basic TF model using channel breakout will annually compound 12% but exhibit a worst peak to trough drawdown of -34%. So an even higher drawdown.

Which goes back to my point on whether your choice is to build a MM business or to trade and generate excellent returns, or a cross between the 2. What furstrates me is that most of the money that flows to TF firms flows to firms who have blended their systems to smooth out vol at the expense of absolute returns.

Going back to my point about experience and wisdom: I am more than happy to explain this in a lot more detail. Please note that I am not talking about switiching off your systems on a triviality; I am talking about when there is a change in the rules of the game and the systems you built cannot trade anymore in such circumstances. But to explain it using MC’s site is unfair and not the best of ideas, as I have seen before.

I hope I was clear, and if I was not, then appologies.

Best

jad

Larry do you not think it is foolish though that the 15/15 model raises more AUM when the 30/30 model? Surely it’s all about their allocation size and they arguably get more value from smaller allocations with the 30/30 model?

TO Larry: Most of the sizeable allocation that flows into the big TF firms (Winton, Bluetrend, AHL etc…) does not really come from “rich” individuals. It comes from endowments, pension funds, fund of funds, private banks who have discretionary allocation on pooled funds etc…

These people abide by monthly / quarterly reporting, value at risk systems, volatility of earnings, all sorts of different ratios to calculate risk etc…what is funny is that they don’t really understand what the manager is doing. They think it is a “black box”. They want to compound on average 15% per annum with an annual standard deviation of less than 5%.

Well, good luck to them. It is just not possible to have high returns without big drawdowns. And they will never understand this. Sometimes they find a fund that has low vol and high earnings, and usually they are funds THAT HAVE NOTHING TO DO WITH TF (that was for Mike). They invest happily until the fund blows up.

My point again: It is just not possible to have high returns without big drawdowns.

The Wintons of this world have understood this, and they will compound less than what they normally can, to smooth out vol, to increase AUM, to generate more fees etc…

I personally disagree with this. I think absolute returns is what matters. You do this to generate the best returns you can, not the biggest fees you can. But I guess to each his own.

Not only that Al, but there are funds that have ammassed amounts like 20 bio in AUM (again not TF funds) and compound arouund 5% with vol around 2% to 3%.

I really don’t get it. How the hell have they managed to build their AUMs to such size?

What sort of (and excuse me for saying this) retard investor shuns a TF fund that might have 30/30 model to invest in a fund that compounds close to 5% ???

What am I missing here? Could it be that these funds have blackmailed investors to invest with them? Or, and that might be a possibility, the investor shares in the fee structure? So a fund of fund is incentivised to invest in a mediocre fund via kick backs from the management fees?

Remember Madoff never charged fees. Which is why he had all these feeded funds built around his fund earning fees from their investors…

There has to be some explanation to this other than the investor being stupid.

Jad, it sounds as though you have never had to explain to a high net worth investor why their account is down 30%…if you have been there, you’d get the picture.

@ Larry

That’s why whenever I’m asked by wannabe traders how to get investors I say, “Dont!”

Jesse Livermore traded his own account and managed to pull in $200 million in one year — about $2 billion or so in today’s dollars. Not saying they can expect Livermore numbers, but it’s possible to make a living…and if you can’t, well the good thing about trading your own account is you always know whom to blame.

Most of the ones who can’t make a living end up at the big firms wearing designer suits, eating exclusive lunches on the firm’s dime, selling managed accounts and pressing shiny computer buttons, almost like real traders!

Those who can, do…those who can’t, sell.

Livermore’s book a must. But there are also some very good books more recent that are not about TF or trading but are also a must if you are to build a TF system. Most of them are on MC’s reading list.

I agree about trading your own money. Have been at it since 1999.

However if your objective is to become seriously rich working in this industry, then you are better off building a MM firm, smooth out vol, generate mediocre returns, cut deals with FoFs and pay them kick backs on management, and employ savvy salespeople. I have seen some make a mockery of this industry, who have milked the system and are now on the Forbes list. All within the boudaries of the law.

You can make a LOT more money on fees than on returns, if that is what you want…

Yes I agree. I have.

Oh well, good for them I guess.