CHAPTER 3

Systematic Trend Following Basics

This chapter is dedicated to taking a closer look at the basic building blocks in a systematic trend following system. The modern approach to trend following has taken the shape of a finely tuned, automated and engineered machine. These trading systems automate trades across a wide range of asset classes. Technological advances and developments in the futures markets have allowed for this transition. The modernization of trend following has increased the efficacy of implementing the strategy but at the cost of increased competition.

A typical trend following system is comprised of the following four core decisions:

1. When to enter a position.
2. How large a position to take on.
3. How to get out of positions.
4. How much risk to allocate to different sectors and markets.

Given these four core decisions, a trend following system is a dynamic system that processes price data inputs, generates trading signals, and outputs automated executable trading decisions. The first section in this chapter addresses the building blocks of a simple trend following system. It is important to understand how the main components come together to create a trading system from both the aggregate and individual trade level. The second section looks at a trend following system from the outside and explains several metrics and methods for classifying trend following systems. This chapter’s main objective is to give a detailed overview in order to provide ...

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