Trend Following with Managed Futures

CHAPTER 17

Dynamic Allocation to Trend Following

Trend following strategies take dynamic exposures across asset classes over time. The next logical question is whether market timing of trend following is possible. In other words, is it prudent for an investor to dynamically allocate to a dynamic trading strategy like trend following? During a significant drawdown, should an investor redeem, reduce, or increase an allocation? In the case where investors actively attempt to time an investment in trend following, their total performance will then be highly dependent on when they invest and divest. This chapter presents several simple approaches for dynamically allocating to trend following over time: momentum seeking, mean reversion, and buy-and-hold. The profitability of these approaches depends on the underlying distribution that governs trend following performance. To measure profitability empirically, the serial autocorrelation of trend following returns is shown to be negative. Negative serial autocorrelation implies that mean reversion or buy-and-hold are prudent approaches for allocating to trend following across time. This also means that momentum seeking approaches will reduce performance over time.

■ A Framework for Dynamic Allocation

In most cases, the allocation to a particular strategy can be considered passive or active. Dynamic allocation includes active decisions regarding investment and divestment. There are several approaches for dynamic investing: passive ...