Trend Following Introduction

So what is trend following trading exactly? Author Van Tharp offers:

"Let's break down the term 'trend following' into its components. The first part is 'trend.' Every trader needs a trend to make money. If you think about it, no matter what the technique, if there is not a trend after you buy, then you will not be able to sell at higher prices ... 'following' is the next part of the term. We use this word because trend followers always wait for the trend to shift first, then 'follow' it."

Some other expressions of systematic trend following from pro trend traders:

"Systematic managers trade by following non-emotional sets of trading rules often based on mathematical models of market behavior. Systematic managers use their judgment and intuition in designing their market models and trading systems. Discretionary managers, on the other hand, apply judgment and intuition in making every trading decision."

Another view:

"[Name's] trading approach comprises a number of technical, primarily trend-following trading systems; money management rules...They are not based on analysis of fundamental supply and demand factors."

Another view:

"A trend follower attempts to identify developing price patterns with this property and trade in the direction of the trend if and when they occur. They use only the current and historical price of the asset to make trading decisions and the approach can be summarised by the expression follow the herd."

Another view:

"[Name's] approach is aimed at exploiting trends in financial and commodities markets and is entirely based on quantitative analysis of typical price behavior in these markets. [Name's] trading strategies have no directional bias and can go long or short in their attempt to benefit from price patterns that represent good profit expectancy over time."

Another view:

"[Name's] investment technique consists of trading a portfolio of around 60 contracts on major commodity exchanges and forward markets worldwide, employing a totally computerized, technical, and broadly trend-following trading system developed by its principals. This system tracks the daily price movements from these markets around the world, and carries out certain computations to determine each day how long or short the portfolio should be to maximize profit within a certain range of risk. If rising prices are anticipated, a long position will be established; a short position will be established if prices are expected to fall."

There are many ways to describe trend following, but they all come back to the same strategy.

Trend following trading is reactive by nature. It does not forecast or predict markets or price levels. Prediction is impossible. Trend trading demands self-discipline to follow precise rules (no guessing or wild emotions). It involves a risk management system that uses current market price, the equity level in your account and current market volatility. Trend traders use an initial risk rule that determines position size at the time of entry. This means you know exactly how much to buy or sell based on how much money you have. Changes in price may lead to a gradual reduction or increase of your initial trade. On the other hand, adverse price movements may lead to an exit for your entire trade. Historically, A trend trader's average profit per trade is significantly higher than the average loss per trade.

Trend trading is not a Holy Grail. It is not a passing fad or hyped-up secret black box either. Beyond mere rules, the human element is core. It takes discipline and emotional control to stick with trend trading through inevitable market ups and downs. Trend following seeks to capture the majority of a market trend, up or down, for profit. It aims for huge profits in all major asset classes -- stocks, ETFs, LEAPS® options, bonds, currencies, futures and commodities.

Think of it this way: trend following is the only strategy that you could trade on a desert island. As long as you have market data each day, everything else is useless (i.e. CNBC, news, fundamentals, broker opinions, talking heads, etc.) for making the big money.

A Trend Following Story

When the first edition of my book 'Trend Following' hit the streets I had hoped to assemble the first comprehensive look at trend following trading. That goal was realized. How did I know? Since the first edition of 'Trend Following', I have met literally dozens of trend following traders managing collectively billions. Their feedback is validation. I never could have expected that a then obscure book would lead me to the likes of Nobel Prize winner Harry Markowitz and hedge fund managers Boone Pickens and David Harding, but it did.

October and November 2008 were the most historic market months since the Great Depression. Most people, most mutual funds, and most hedge funds lost huge. It has long been said that "genius is leverage in a rising market," and when the bubble popped in 2008 people positioned as genius weren't so smart after all. While the rest of the world was creamed in 2008, trend followers made fortunes. Performance numbers for top trend following traders in October 2008 alone ranged from +5 percent to +40 percent. Making that much in one month, when the rest of the world was losing on a grand scale, was noteworthy to say the least.

Bottom line, forget stock markets only going up. When the Fed rigs rates to boost stocks to unsustainable levels, bubbles, bubbles and more popped bubbles are normal. So can you really stomach your advisor telling you to, 'just hang in there'? Mutual fund managers and financial advisors charge huge management fees and deliver no return. Let's face it, mutual funds' buy and hold (hope) scheme will leave you underwater 20 years from now just like Japan. Guaranteed. Even during bull markets 90% of mutual fund managers fail to beat index averages. A child guessing could have beaten the overpaid suits. It is crazy to stick with a manager, broker, or any other sort of 'professional' who just takes your money to churn fees.

Read more about our thought process.

Read more about our trend following training.