Trend-following explained

Trend-following is one of the oldest and best-documented investment approaches. The idea is simple: own what is rising, step aside from what is falling.

The idea

Prices tend to move in persistent trends, because information spreads slowly, large investors build positions over time and people follow the crowd. A trend-follower does not try to predict the future; it reacts to what prices are already doing.

The evidence

Academic studies of time-series momentum have found trend effects across stocks, bonds, commodities and currencies, going back more than a century. Professional trend-following funds (often called CTAs or managed-futures funds) have run the approach for decades, and they have often done well in major crises.

How a simple rule works

A typical rule checks, once a month, whether a market's price is above or below its own level of some months ago or its long-term average. If the trend is up, stay invested. If it is down, move to Treasury bills. The same rule is applied to every market — no tinkering per chart.

Where it struggles

• Turning points — it always sells after the top and buys after the bottom.
• Sideways markets — repeated small losses when a market goes nowhere.
• Strong V-shaped recoveries — it can be out of the market during the fastest part of the rebound.

Why it is still worth it

The goal is not to beat buy & hold every year. It is to keep most of the long climbs while avoiding the deepest, longest declines — so the ride is smooth enough to stay invested. See the results for 30 markets.

Key takeaways

• Trend-following reacts; it does not predict.
• It is well documented across asset classes and decades.
• It accepts small losses and lag in exchange for avoiding large drawdowns.

By Dr. Harry Hamann · 6 min read