INTRODUCTION
Trend following is one of the classic investment styles. “Find a trend and follow it” is a common adage that has been passed on throughout the centuries. The concept of trend following is simple. When there is a trend, follow it; when things move against you or when the trend isn’t really there, cut your losses. Despite the simplicity of the concept, the strategy has roused substantial criticism among neoclassical economists. For decades, trend following has been shunned as the black sheep of investment styles. In the classroom, in research, and even in the popular press, many have preached the word of efficient markets, touted the value of the equity premium, and asserted the importance of buying and holding for the long term. Figure I.1 presents the performance for trend following and equity markets. Figure I.2 presents the drawdown profile for trend following and equity markets. Over the past two decades, equity markets have experienced rather severe boom and bust cycles. Although trend followers follow trends across markets, the approach is seemingly uncorrelated with this dramatic boom and bust cycle. The drawdown profile for equity markets is akin to a high-speed roller-coaster ride. Although there are many benefits to long-term investing, this simple example demonstrates that the ride may be a bumpy one. In comparison, trend followers have a rather persistent drawdown profile. Despite a history of criticism, there is clearly something to following the trend. ...
