Question: Wondering your thoughts on some resources I could find to help me build out a trend following account. Do you think a 50k account trading etfs would be feasible? I think the areas I need the most guidance is, how to determine the ~20 markets and managing the weighting?
Great questions. Do I think that a $50K account trading etfs would be feasible? Sure. Why not? Inside an exchange traded fund, or etf for brevity, you have a number of stocks in a sector defined by the etf’s management company. If you have a technology etf like XLK, you will essential own a portfolio of tech companies all rolled into one ticker symbol. With commissions so low these days, it’s easy to buy and sell these things with little cost. Spreading your portfolio over 20 etfs is really like spreading your investments over hundreds of stocks that are included inside the etfs.
Now on to how to determine which 20 etfs to invest in using trend following. I’ll refer readers to one of my previous Substack “Thoughts” for more on this, but essentially use your broker trading platform to screen etfs for sector etfs. That should give you a long list of etfs that focus on specific sectors of the economy. That helps to maximize the diversification of the overall portfolio. You DO NOT want to buy 20 growth stock etfs! They are likely to own a lot of the same names.
As you are selecting the etfs, use some common sense. An agricultural commodities etf is not likely to move up and down exactly like an aerospace etf or a utilities sector etf. Move down the results of your screen and select 20 sectors that seem as diverse as possible.
The last question on weighting is the best part of your question. The simplest way to do this, requiring very little time, is first set a target of 1/20th of the portfolio for each of the sectors. That means you would have $2500 in each sector as a target for a $50K portfolio. Not all of the targets etfs will end up on a trend following buy at any point in time, so you will have some available cash much of the time.
Once per month, I would rebalance your portfolio to the new targets (1/20th of the latest size of the overall portfolio) Re-balancing is one of the “free” ways you can increase your return to risk ratios. See my research paper on rebalancing. If your portfolio grew to say $55K, your new position target would be $2,750. Those positions you have during rebalancing that were more than $2,750, would be sold off back to $2,750 and those below $2,750 and still on a buy signal would get more shares. Schwager called it the Robin Hood allocation scheme. “Take from the rich and give to the poor.”
This would all take very little time and be one of the simplest way to achieve a well run portfolio. However, if you have more time and want to dig in. You could use risk and volatility sizing of each etf position, so that each sector could contribute an equal weighting of risk and volatility to the portfolio. This may not be worth a lot of dollars at a $50K portfolio size, but as your portfolio grows, it will smooth results.
Each position would have an allocation of X% risk/equity to your trend following stoploss or an equal X% volatility/equity (I use Average True Range or ATR for volatility). I run both calculations and take the smaller of the two. In this approach, all the positions have equivalent risk levels and volatility levels to affect the portfolio. I try to think of it as always being in balance. You don’t want one instrument out of 20 having undo influence on results good or bad. I still would rebalance the portfolio monthly on top of the risk and volatility balancing, but would only do it in instances where the trade was significant. I’m not going to bother doing rebalancing if it’s for 1 share of the etf.
The formulas for risk and volatility management of your portfolio in etfs, stocks or futures can be found in the book I wrote on the subject: Successful Traders Size Their Positions - Why and How?
Hope it helps and enjoy the ride,
Tom Basso
This is very similar to how I have my $200,000 team set up. ETFs, Position Sizing, Selling the Losers Quickly, Letting the Winners Run. I think of my Portfolio/Bank Roll as My Team. Each investment/bet is a Player on my Team. Loser Players get Kicked to the Curb Quickly and Replaced with a New Recruit, Winners Get To Stay until they turn into losers. My goal is to build and maintain a winning team. My four rules are - never bet more than 3% on any team player, never lose more than 3% of the 3% bet on a team player, Sell The Losers Quickly, Let The Winners Run! - I built a dashboard tracker using Microsoft Excel to tell me at a glance how everything is doing and highlights potential problems etc... maybe I should add another rule saying there are only two types of stocks/players/bets Winners and Losers
Thanks to Tom Basso for getting through to me about Position Sizing. Game changer for me.
Hi Tom. Great article again!! When the buy engine gives the signal and you enter a position in an ETF- is your initial stop loss position the corresponding 50 day sell signal on the same set of indicators or is it a previous higher low in the ETF? This is the point that I am not entirely sure how to go about. Thanks!