Investors or want to be investors FORGET! Maybe they want to forget 2007 and 2008 if they were stock traders..
Investing is a challenging endeavor due to the fact we are human beings, that are hard wired to make poor decisions when times get tough. Times are VERY tough for Trend following in Managed Futures. All asset classes have their time in the sun and time under the clouds.
Numerous studies on mutual funds and index funds have demonstrated that the rate of return enjoyed by their investors are a fraction of the overall rate achieved by the fund itself. This is due to human behavior and feelings of euphoria or fear that drive investors to buy and sell at inopportune times. It cannot be overstated how strongly our ‘fight or flight’ response negatively impacts decisions especially of a financial nature. There are two effective ways to mitigate the impact of human nature on investment returns. One consists of true diversification in an investment portfolio comprising disparate asset classes and strategies. A portfolio made up of stocks, bonds, and managed futures (currencies, commodities, bonds and precious metals) since 1986 has achieved a compound rate of return of 9.02% with a standard deviation of 8.95% and a maximum peak to trough loss (Max DD) of -26.61%. Compare that to owning the S&P 500 outright which compounded at 10.14%. Yet that additional 1% of return was accompanied by nearly twice the risk, a standard deviation of 14.99% and a peak to trough loss (Max DD) of more than 50%. It’s one thing to see returns on paper but something entirely different to experience them in real time. It’s no wonder investors are unable to keep up.
All too many have forgotten the 50% + draw downs in the Stock market. Warren Buffett had 2 long periods of time in which he was down approx 50%. It was inferred he was a has been or senile or whatever terrible comment. Investors want it now. Now does not always exist.
The second way to mitigate the impact of behavior on investment returns is through utilizing a rule based systematic process. Most managed futures trendfollowing are systematic. However this has not been a savings grace. It has been UGLY. 2015 and 2016…rather poor….then include 2011,2012,2013 it is easy to see why so many have quit.
By following predetermined rules in making investment decisions, one is prepared in advance for all market environments. Even with that said….it is not the depth of the draw down rather the duration of the draw down.
Instead of making discretionary decisions under fire in times of stress, having rules allows you to benefit from these occasional dislocations. In addition, a systematic approach allows investors the ability to implement a statistical edge that works over time not all the time. Finally, through disciplined risk management a rules based approach determines the exit point of an investment before it is entered, preventing unprofitable positions from causing lasting damage to a portfolio. Rules allow an investor to remove what is often their worst enemy when it comes to investing; themselves. Even with all of the above…Trend Following takes mental stamina. This morning I woke up to my long Gold position going the opposite way….along with the grains…and bonds….( typical)…Just one position gapped up….French Stock Market…That could have easily been the opposite. In trend following we just do not know. We have to try to put on small trades and see if they work…
PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS. THE RISK OF LOSS IN TRADING COMMODITY FUTURES, OPTIONS, AND FOREIGN EXCHANGE (“FOREX”) IS SUBSTANTIAL.