The Trend Following Bible

by Andrew Abraham

  CHAPTER 10

  My Trading Journal

  To give you the full realistic picture of trend following, I am including my proprietary trading results in a diary fashion. I do not trade that often. A good trading day is a day in which I do not put on a trade. On average in both models I only trade 100 times a year. This keeps my slippage and commissions to a minimum. My trading programs are systematic without any discretion used and tested over the years. Prior to the fall of 2009 I primarily had one account and all of my trading programs were put in this one account. I decided to segregate my trading in order to build my proprietary track record. Even though I have been trading the same methodologies over the years, I have added filters based on my experiences and mistakes. I was not searching for the holy grail; rather, I have added risk filters over the years.

  I have been trading in real time two models that are very close to being identical in the rules and thought processes of the trading plan I have presented above. These trading programs are based on unit sizes.

  One unit is based on an account size of $150,000 Global Diversified and the other account size is $300,000 Diversified. Both accounts trade the liquid futures markets. I believe when we trade the futures markets we trade and make ourselves available for every aspect of our human existence. What I mean by this is, we wake up in the morning. We eat cereal, wheat. We drink coffee. We get dressed, cotton. We get in our cars to go to work. We put gas in our cars. We pay for the gas with a credit card (interest rates). We invest in the stock market (stock indexes). We heat our homes, heating oil. We eat chocolate, cocoa. You get the concept. Each and every one of these is a market. They go up and they go down. Some of the time they trend. I look to ride these trends in these various markets.

  Some of the markets in which I look to take trades are the following:

  Australian dollar Eurodollar Soybeans

  Soybean oil Gold Sugar

  British pound Copper Swiss franc

  Corn Heating oil Silver

  Cocoa Japanese yen Soymeal

  Canadian dollar Lean hogs S&P 500

  Crude Live cattle 10-year bond

  Cotton Nasdaq Wheat

  Dollar index Natural gas 30-year bond

  They are all liquid and highly traded. I have no opinion on any of these markets. As in the rules I delineated in the prior chapters, I look to buy the strongest based on the average rate of change and sell the weakest based on the average rate of change. The difference between the two models is the risk I am willing to take, anticipated returns, and anticipated drawdowns. The $300,000 Diversified unit model size is built to be less volatile (at least try to be) with lower returns and lower drawdowns. The $150,000 Global Diversified unit model size is slightly more aggressive, anticipates greater drawdowns, and trades fewer markets due to its size. These models are based on the rules expressed in the prior chapters. I have been researching and testing with my passionate programmer for approximately one year to come up with a model in which the returns are very modest and with lower volatility than the current two models. The attempted goal is not how much we can generate but with the focus (attempt) to keep the draw downs, very low.

  The $150,000 Global Diversified model takes on slightly more risk. It risks 1.25 percent maximum on any trade. However, many of the trades end up losing less than this. In reality, as we are dealing in uncertainty, some trade losses have exceeded 1.25 percent. There are a few trades in which even though I had stops in the market, which were placed immediately upon my entry, the price gapped above or below. More so, there are periods when there will be limit moves in which one cannot exit. We are dealing with risk and uncertainty. I have accepted the risk and try to mitigate as much as possible, but it is not completely possible. Another slight variance of the model is that I am willing to take on only a maximum risk of $2,000 per contract regardless of total account size on the Global Diversified unit. What is ironic to investors is that these slight differences have produced dramatically different real-time results. It truly exemplifies the realities of what I have expressed.

  The $300,000 Diversified unit size model maximum risk is .75 percent. This is less than 1 percent. I built the model in order to try to smooth out returns. Future results will be interesting to see if this is the case. As we all know, past performance is not indicative of future performance. More so, I am willing to risk $2,500 per contract.

  I will chronicle the real-time results of both starting from January 2010 to March 2012. I will demonstrate the realities of what possibility you might encounter.

  Figure 10.1 shows what transpired with the $300,000 diversified unit model.

  FIGURE 10.1 Equity Curve

  Right off the bat I started experiencing a drawdown. As I stated I opened the separate proprietary account in the fall of 2009. Actually from that point all I experienced was a drawdown. At the end of July 2010 while I was on vacation with my family, for whatever reason several markets started to move. I did not do anything special other than make myself available and they took off. My account for this unit jumped to the $410,000 range in approximately October 2010. That is the good news. The reality is that I have been in a drawdown since then, 17 months and no profits. This is the reality of trend following. Do not think this is easy or retirement in a box. One trade after the next I have put on. I have been waking up at 5 a.m. every trading day and not seen a profit for 17 months. I have not nor will I quit. This is trend following. Trend following is a marathon.

  For My Proprietary Account: $300,000 Diversified:

  2009 (September–December) –2.73 percent net of fees

  2010 +11.64 percent net of fees

  2011 –2.10 percent net of fees

  My $150,000 Global Diversified unit model equity curve in Figure 10.2 is from January 2010 till March 2012, the time of this writing.

  FIGURE 10.2 Real Time Equity Curve of Diversified Program

  What you need to notice is the long periods when nothing has happened. Nothing has to happen when trading. I had a very short run up and then for 17 months I have been in a drawdown. Welcome to the reality of trend following.

  For My Proprietary Account

  2009 (November–December) –1.12 percent net of fees

  2010 +34.27 percent net of fees

  2011 –11.46 percent net of fees

  There are only 4 possibilities when trading. One can have big losses, small losses, small profits, and rare large profits. The above demonstrate this. In my $300,000 unit size, Figure 10.3 shows some of the trades.

  FIGURE 10.3 Example of Small Losses and small profits

  Actually all that transpired for the first several months were small losses and small gains up until the end of March 2010 (Figure 10.4). I had a Eurodollar breakdown trade. Ironically the immediate trade before to go short ended in a small loss. Each trade is statistically independent and the prior trade has no bearing.

  FIGURE 10.4 Eurodollar Trades

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  The short Eurodollar was a trade that lasted for approximately three months with 2 percent gain. Nothing to get excited about, but it offset some of the other trades that did not work. I went short March 22, 2010, and covered the short June 21, 2010. What is interesting is as always, I did not get out at the bottom. I gave back some of my open trade equity. My trailing stop allowed the trade to work and when the Eurodollar hit my stop, I exited. Remember, only liars get out at bottoms and at tops. Trend followers try to take a piece out of the move. We give it enough room to work but many times Murphy's law steps in and just as we exit, the trade turns around. The only solution to this is not trade. There is nothing perfect about trading. We try our best to catch trends when and if they are present. In the interim there were more small trades that I lost money on and some on which I made a small amount. Continuing, I stumbled into a nice interest rate trade in the beginning of May 2010. Trend followers do not know the future, all we try to do is follow our plan and be consistent. I
n the beginning of May 2010 I had a signal to purchase the 30-year bonds. That was on May 5, 2010. That trade lasted until September 10, 2010. What I want to point out on this trade was the proverbial let your winners run. You need to have patience when trend following. You cannot panic and hit the cash register prematurely. If you cannot have the patience to be in the trade for such a long period for whatever reason—greed, boredom, or fear—you need to change your thought processes. If you do not have the patience to let your winners run, you will not be in this field that long. You really need the winning trades to make up for all the inherent losses when trading.

  The trade shown in Figure 10.5 returned 4.2 percent or $11,925. One day after this trade there was a signal for the 10 years. I took that trade because I did not supersede more than a 5 percent correlation in my interest rate sector. This was the last trade for the interest rate sector. I filled my quota. This is an important issue not to miss. No matter how good a trade looks, follow the plan. Make sure the plan includes the proper risk management. The 10-year trade was a good trade at a return of 2.2 percent or $6,331.

  FIGURE 10.5 30 Year Bonds

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  That was the good news. However, after these two unique nice trades that worked, I experienced three months of nothing but typical small losses and small profits. An example is the loss I had in corn of –$2,100 or –.7 percent. The key is to keep the losses small (Figures 10.6 and 10.7).

  FIGURE 10.6 10 Year Bonds

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  FIGURE 10.7 Corn

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  There were small profits but in general I was just treading water waiting for something to trend either upward or downward.

  The trade on soymeal that worked was not outstanding; rather, a 1 percent profit of $2,885. Prior to this trade there was a trade that did not work. Examples like the soymeal trade prove that one has to take every trade. We cannot pick and choose our trades. We do not know the future and we must be consistent (Figure 10.8).

  FIGURE 10.8 Soymeal

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  Toward the end of the three-month period in the end of July there was a beginning of a nice trend. On July 30, 2010, I entered a soybean trade. When I put this trade on I had no idea it was going to work. I ended up staying in the soybean trade until November 17, 2010. This trade highlights why you need to be patient and let the trades work (when they work). I did not get nervous or anxious to take a profit. I simply followed the tenet of good trend following—let your profits run. This trade returned $10,488 or 3.8 percent. Again, what is very important to emphasize is that the prior trade for soybeans did not work (Figure 10.9).

  FIGURE 10.9 Soybean

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  What is interesting with the period of July 2010 was that I was on vacation with my family in Greece. I remember vividly maintaining my stringent routine of waking at 5 a.m. in order that my trades could be entered the night before in Chicago. On average throughout the year there is an eight-hour time difference. There are no vacations when we are trend followers. I do my work regardless wherever I am in the world. I was in Bangkok on holiday and due to the time difference I was able to sleep in slightly. Actually, if I had not taken the soybean trade or the upcoming cotton trade, my 2010 trade returns would have been greatly impacted.

  Point in fact—you must take every trade. You never know which ones will really work.

  Cotton was one of those trades you step back from and say to yourself “Can you believe that? Wow.” I remember watching the only TV show I might watch, Bloomberg, and seeing analysts stating that cotton will never go over 100. Well, they were so totally wrong (as analysts and all other gurus). Cotton knocked on the door of almost 200. I got in cotton on August 2, 2010, and patiently stayed with it till November 22, 2010. It was a huge profit, 7.5 percent or $21,730. In every trade you can learn. What can be learned from this trade is that yes, it was a unique rare trade; however, you never get out at the top or the bottom. Mr. Murphy stepped on this trade. Not that I am complaining or feel I left money on the table. I was taken out of this trade and almost immediately cotton continued on its trajectory into the stratosphere. Due to the volatility and risk I could not take the trade. I did not chase it or feel that I missed out. I thanked God for what I was able to take out of the trend. Cotton climbed and peaked slightly lower than 200. I want to emphasize this point. Anything can happen when we trade. You do not want to listen to the news or any so-called experts. No one knows any more than you. You must follow your exact plan. You must take every trade. You must have the patience to let them work. I followed them with my trailing stop and respected the stop once it was hit (Figure 10.10).

  FIGURE 10.10 Cotton

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  During the following weeks, there were the typical small losses and small profits. Exemplifying this, I had a small loss with crude. I entered on August 16, 2010, and held on till September 13, 2010. This trade resulted in a small loss of –$663 or –.2 percent. Trades like this crude prove you should cut your losses quickly before they get out of hand. All the trades are following exactly the same plan. I am seeking a breakout, either on the upside or downside. I measure my risk, watch my correlation, watch my open trade equity, and if I can take the trade, I use my two stops as a safety precaution. Over and over again I perform the same actions (Figure 10.11).

  FIGURE 10.11 Crude Oil

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  I experienced some more small losses during the month. On August 25, 2010, I had a gold trade. I am not a gold bug and believed that as much as gold could go to $2,000 as so many were calling for, I also believed that gold could fall to $200. Either way I was willing to take the trade. The important issue as a trend follower is not to trade your opinions; rather, trade the market. Listen to what the market is telling you. I stayed with the gold till January 7, 2011. I followed the trade with my average true range trailing stop. When the stop hit, I exited. All of my trades are done without any pressure or fear. Just take the trade, let's see what happens. I know what I am trying to risk, in the case of this model .75 basis points of my core equity. I ask myself, “How much is this going to cost me to see if this trade will work?” I know statistically most of my trades do not work. There is no high win rate nonsense. Just being consistent and doing the same thing over and over again, letting the odds work over time.

  The gold trade shown in Figure 10.12 returned +2.7% or $8,275. What also helped on this trade was that I was able to take advantage of position sizing. I was able to put on two contracts as opposed to one. This enhanced my profit.

  FIGURE 10.12 Gold

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  On August 26, 2010, I had a silver trend breakout trade. Silver was coming out of a quiet period. Actually, some of my best trades come out of times when the markets are quiet and break out. I was fortunate to have again the opportunity to put on two contracts for the same risk as a one-lot. I was in silver until January 7, 2011. This was a nice trade. This trade returned +6.1 percent or $18,420. As one could easily get frustrated, after I was taken out of this trade silver continued. I did not chase the trade. I did not feel I missed out. I appreciated what I was able to take out of the market. I received another signal a month later for silver and took another bite out of the apple (Figure 10.13).

  FIGURE 10.13 Silver

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  The month of September continued with more small losses and small profits. An example is a British pound trade where there was a breakdown short sale. I entered the short British pound on September 7, 2010, and stayed with this
trade until September 15, 2010. Cut your losses quickly and let your profits run. This short sale was a small loss of –$1,725 or –.6 percent of my proprietary account. I have had and will have countless trades like this small British pound loss. I was taken out of the trade by the protective average true range trailing stop (Figure 10.14).

  FIGURE 10.14 British Pound

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  On September 13, 2010, I had a trend breakout trade on the Nasdaq 100 futures contract. I stayed with this trade until I was taken out by the trailing average true range stop on March 10, 2011. I let my profits run. This trade generated $7,530 or +2.5 percent. As much as I had personal opinions regarding the stock market I took the trade shown in Figure 10.15. I learned over the years that my opinions do not make me any money.

  FIGURE 10.15 Nasdaq

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  A couple days later on September 17, 2010, I had a trend breakout signal for the S&P 500. I held this trade until March 10, 2011. This was one of the last profitable trades I would see for months. This trade returned +2.9% or $8,688. However, this was the end of the profitable trading period. Until the end of the year all I had were small losses and some small profits. These small losses ate into the profits that were generated on a handful of the “rare” big profits (Figure 10.16).

  FIGURE 10.16 SP 500

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  An example of the multitude of small losses are exemplified by natural gas. I had a trend breakout to the short side on December 22, 2010, and by a short six days later I was out on December 31, 2010, with a loss of –.7 percent or –$2,700. I had trade after trade like the ones shown in Figure 10.17. I did not quit. I did not get upset. I know that as much as I get lucky at times with some big trades, the nature of trend following is to have numerous small losses.