Systematic trading allows you to test and evaluate your trading ideas before risking your money. By formulating trading ideas as concrete rules, you can evaluate past performance and draw conclusions about the viability of your trading plan. Following systematic rules provides a consistent approach where you will have some degree of predictability of returns, and perhaps more importantly, it takes emotions and second guessing out of the equation. From the onset, getting started with professional grade development and backtesting of systematic strategies can seem daunting. Many resort to simplified software which will limit your potential.
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He manages alternative investment funds for institutional and qualified investors. To listen to Episode on iTunes, click here. To listen to Episode on Stitcher, click here. To listen to Episode on Google Play, click here. To stream Episode , click here.
Comments or suggestions? Interested in sponsoring an episode? Email Justin at jb cambriainvestments. Summary: In episode we welcome our guest, Andreas Clenow. Andreas discusses running trend following as a portfolio strategy, not something that is optimal to run on a single market. Meb then asks Andreas to get into some detail about risk management and position sizing. Andreas defines the way he thinks about risk, and goes back and forth with Meb about the reality of return expectations and compounding.
Meb follows by asking what has changed with his approach over the years. The conversation transitions into how trend following can fit into an investment portfolio. Andreas offers that the strategy can serve as a core building block of a larger portfolio. He talks about some of the environments where trend following has done particularly well, and the challenge of diversification in equities.
Andreas describes the book as a guide for readers to build backtests and strategies in the programming language, Python. Join us as we discuss the craft of investing and uncover new and profitable ideas, all to help you grow wealthier and wiser. Better investing starts here. Disclaimer: Meb Faber is the co-founder and chief investment officer at Cambria Investment Management.
All opinions expressed by podcast participants are solely their own opinions and do not reflect the opinion of Cambria Investment Management or its affiliates. For more information, visit cambriainvestments. Meb: Hey, podcast listeners, the year is winding down. The decade is winding down but we got a great show for you today.
You wanna give me a proper piece of meat if you want me to get out there. And you put this out…when did this come out? How did you come to the appreciation or interest in trend following? A lot of people kinda stumble upon it in different ways, and many have also abandoned it over time. But how is it something that popped up in interest for you? Andreas: Yeah, I mean, starting to write the book was, well, a bit of a hobby to begin with.
I mean, not the trading per se, I was doing that for quite a while before. I was running some CTA funds back then, but the topic of writing a book about that came about when I was searching for good books on the topic. Nobody who actually explained the details of, what is this saying, and how does it work? How do you build the strategies, how do they behave, and why do they behave the way they do?
And I just had a crazy idea one day to start writing something. I think part of the inspiration from that came from a short research paper, I think it was three pages or something, from one of the greats in the business, Nigol Koulajian, they were at Quest Partners in New York.
He wrote a paper, like, three, four pages, something like that, just explaining trend following. He just explains the whole business in a couple sentences.
I think you can do something properly with this. I think you could do something longer. I was surprised as anybody over that. Andreas: Yeah, I guess the entire business was very much misunderstood for a lot of reasons, especially after the stellar year of I say stellar year because the strategy, per se, performed really, really well that year.
As anybody who remembered that year would say that even for those of us who actually had good performance that year with these kind of strategies, it was nightmare years. Nobody wants that year again, but it was a horrible year. But afterwards there was a lot of myths that came out, kind of, about what this is, and how it behaves, why does it perform, when does it perform or not?
I tried to build a, what I call a middle-of-the-road model, something average. And then I spent the entire book just explaining, what is this thing, how does it work, why does it work?
When does it work and not? I did a reverse engineering chapter. And so basically I took this very simple trend model that I built in the book. Nothing this simple could be used in the hedge fund space. Then I used that model and I correlated it against the largest and most successful futures hedge funds in the world. And I showed that if you just toggle minor changes, just minor, minor changes back and forth, like you raise the risk, lower the risk, gear a bit more towards commodity or more towards financials, and you hit some 0.
And these are very successful shops run by brilliant people. You can explain the performance using a simple model. But what was the response from a lot of the funds?
Did they love you for writing this book, or hate you, or send you bottles of champagne, or what? Andreas: Actually now in retrospect I can talk about it. It was a bit amusing at the time. After I finished writing the book I had a publishing contract. I had an offer on the table and not signed yet from an American publishing house. I gave it another thought. I looked through what I wrote, I named funds, I did all of this reverse engineering where I basically show that some of these billion-dollar hedge funds do very simple stuff and charge too much money for it.
And of course, you guys know, America is somewhat litigation happy at times. I think I gotta take some steps to protect myself just in case. And I kind of hardened my structure. I made sure that I was very difficult to sue, and then I changed my legal structure on the book contract. I signed with a British publishing house to further protect myself.
In retrospect, it turns out all of this was all in paranoia. And we had a great call. But I think everybody took it great. I had no negative comments from any of the hedge funds, and I was paranoid at the time but it turned out well. But maybe talk a little bit about a trend following portfolio in general, what that looks like to you as both practitioner and an allocator.
Andreas: Yeah, I mean, the most important thing to understand is that trend following is very much a portfolio strategy. In my view, to run trend following model on a single market is [inaudible ] is just begging to get hit badly. Trend following is basically about taking a lot of bets on very the large number of markets independently. So you see something starting to move in one direction, you jump on [inaudible ] in that direction.
You see gold going up, for instance. I mean, obviously you have to formulate mathematical rules about this, but the logic is more or less that you see something moving, gold, oil, something starts moving. If it moves up, you buy. If it moves down, you [inaudible ] short. And now you just wait. If it turns around, it goes against you, you close out. You have a small loss. That happens almost all the time. Once in a while you get the big move, and that big move is gonna pay for a lot of the losers.
And the problem there is that if you do this on one or two markets you can have this period for a long time where you just keep losing, and you can keep losing until your portfolio is gone. But if you do this on a lot of different markets, and especially a diversified market that is you trade everything from gold, to soybeans, to bonds, to currencies, equity markets, trade everything in the same way, with the same rules, there will, or historically anyway, there will almost all the time be something that keeps moving and that pays for the losing trades.
You have to repeat experiment over and over again. You have a slightly higher probability than average, and you just keep rolling the dice. Meb: And the nice thing you do in the book, which I think is really interesting, useful for a practitioner is you do, sort of, a year-by-year walkthrough. And you kinda walk through that year by year and show how these trades play out. It was, like, the simplest rule on the planet.
But do you remember the, kind of, strategy design from the book? Andreas: Yeah, the one you mentioned, I published it much later, first on my website I believe, but I also wrote about it in my latest book. There is an example in there. But the trick, as I explained in the book, is about diversification. The trick is not in the rules themselves.
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For example, when he discussed trading parameters in the book he was completely honest saying that the parameters were not exact but good enough. Many so called experts try to sell you the exact recipe to investment success — but as you know it does not exist. What does exist is a lot of time tested strategies that work — over the long term in a lot of different markets. And if you apply these in a good enough way you will have great returns. Andreas Clenow: I started out trading tech stocks in the s.