Every now and then there’s a day like yesterday. Nearly every market carried through on the trend that it was already on. Large, outsized moves were everywhere. Many times when this happens, the next day or the day later, every market you trade goes the opposite way, resulting in a large losing day. You’ve carefully diversified. You checked for non-correlations, but all of sudden everything is correlating and red on the screen seems to surround you.
This happens frequently during times of world crises. All the markets move in “Lockstep”, a term we had at Trendstat to describe when markets seemed to move in lockstep with each other. I am not talking about moving in the same direction. You might have stocks crashing, bonds and gold skyrocketing, the Euro down and oil making new highs. The next day you could see stocks rallying, bonds and gold falling, the Euro strengthening and oil taking a pause. In other words, every market is either 100% positively or 100% negatively correlated. Almost nothing in the portfolio is non-correlated. Even carefully constructed diversification falls apart.
A trader could find these periods tough to handle. However, we found that these periods historically lasted for 3 to 5 days and usually broke apart into non-correlation and trading became more “normal”. To some who might see their account go up a ridiculous amount one day and get hammered the next, if might be intimidating, but here’s an interesting statistic on one study we ran at Trendstat using our own strategies as the Buy/Sell engine that drove the decision-making. About 80%+ of the days spent in Lockstep over time we were profitable, because, we theorized, these emotional days usually happen after trends are already in place and many are trying to get in on the action. Panic or euphoria are more likely to be the emotional state of the day.
The trend followers are already in and enjoying the ride.
Helpful insight. Thanks Tom
Those certainly are perhaps the most challenging times for TF once in operational mode. The type of system one is trading will likely impact the result at the end of autocorrelation. Shorter swingers may have stopped out while the low n slow team just shrugs. Thanks for sharing!