Thursday, August 15, 2013

Be late and control your risk

I came across a couple of quotes recently which sum up trend following in its basic form very well:

The first came from fellow trend follower Jon Boorman (follow him @JBoorman). He tweeted the other day how he loves entering a position when a lot of a traders would consider him being late to the party. On the face of it, he may well do, but if a decent trend develops, then it appears that he has entered his position very early in the ensuing move.

Secondly, I got a number of page hits this week from a traders' forum I hadn't come across before. They had linked to one of my previous posts with the following simple comment: "Can't pick tops or bottoms. Can risk manage of course with stops."

These two comments sum up trend following very well. We make no bones about entering a long position after it has shown strength, or entering a short position after it has shown weakness. We stay away from eroding our capital trying to pick the top or bottom of a market.

Psychologically, a lot of traders find it difficult to enter a long position after it has been up a few days in a row - they are looking to get out, for fear of losing profits, when we are looking to get in. A pure trend follower does not view a market as being overbought or oversold - it is either trending or not. And you determine whether there is a trend present by referring to your system parameters and chosen timeframe.

Similarly, as we don't know whether a trend will develop once we've opened a position, we only allocate a small portion of our equity to each trade, and if the trend does not develop, then we simply close the position, take our (small) loss and move on.

NOTE: Jon Boorman was interviewed by Michael Covel for one of his trend following podcasts last week. Go here for a listen.

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