Andreas Clenow - Trend Following Is…About Taking A Lot of Bets On A Very Large Number Of Markets | #188

Episode Summary

Executive Summary: Meb Faber interviews Andreas Clenow about trend following, portfolio construction, and systematic trading. Clenow explains why trend following works as a diversified, portfolio-level strategy, why most trades lose but a few large winners drive returns, and why risk management matters more than entry/exit rules. They also discuss momentum in stocks, the limitations of market-cap-weighted indices, the business of asset management, alternative lending, and Clenow’s new Python backtesting book.

Main Topics: Trend following as a diversified portfolio strategy (Priority: 5/5): Clenow argues trend following should be applied across many markets, not as a single-market bet, because diversification is what allows small losses to be offset by occasional large trends. Risk management and position sizing (Priority: 5/5): A major theme is that risk is misunderstood by retail traders; Clenow emphasizes risk as value change per unit time and says portfolio construction and sizing matter more than entry/exit rules. Books and pedagogy: explaining systematic trading (Priority: 4/5): The conversation revisits Clenow’s books, especially Following the Trend, which aimed to explain how trend following actually works, and Trading Evolved, which teaches readers to build and test strategies in Python. Trend following vs. momentum in equities (Priority: 4/5): Clenow distinguishes futures trend following from stock momentum, arguing stocks require different treatment because equities are highly correlated and index construction is flawed. The business of asset management (Priority: 4/5): Clenow says strategy quality and business quality are separate; trend following has become commoditized, so managers must differentiate at the business/marketing level as much as in the trading model. Alternative investments and niche credit opportunities (Priority: 3/5): He discusses non-traditional opportunities such as private equity-style lending to medium-sized U.S. businesses, which he sees as attractive and relatively uncorrelated. Market regimes, macro risks, and common-sense overrides (Priority: 4/5): The discussion closes with lessons from the Swiss franc peg break, negative yields, Brexit, and trade wars, stressing that mechanical systems can fail in artificially constrained markets and that common sense still matters.

Key Arguments: Trend following is fundamentally a portfolio strategy: it works because many small losses are offset by occasional large moves across a diversified set of markets. Most trend-following trades lose; that is expected and acceptable because the payoff distribution is highly skewed. Entry and exit rules are less important than diversification and risk management in long-run performance. Retail traders often misunderstand risk; it should be defined in terms of potential value change over time, not simplistic 'risk per trade' ideas. Long-short trend following can improve risk-adjusted returns even if the short leg is not profitable on its own, because it reduces volatility and improves smoothing. Stocks are not the same as futures: applying trend following to equities can accidentally create a beta-heavy portfolio, while momentum strategies must account for market regime. Market-cap-weighted indices are misleading as diversified vehicles because a small number of mega-cap stocks dominate performance. The asset-management business is increasingly commoditized, so success depends not only on strategy but on positioning, differentiation, and access to allocators. Clenow believes negative-yield environments, Brexit, and trade wars are serious structural risks for markets and the economy. In special cases like the Swiss franc peg, mechanical models should be tempered by awareness of regime distortion and central-bank intervention.

Data Points: Publication year of Following the Trend: Late 2013 - Clenow says his first trend-following book came out in late 2013. Trend-following losing trade rate: Often as high as 70% - Clenow describes trend following as a strategy with many losing trades that still works because of large winners. Correlation to major CTA funds: 0.7 to 0.9 - He says a simple reverse-engineered model could closely track major trend-following hedge funds with minor parameter changes. Approximate book length: About 300 pages - He refers to Following the Trend as a 300-page research-style book. Length of technical book: Well over 400 pages - Trading Evolved is described as a practical Python backtesting manual. Typical institutional trend allocation mentioned: Around 5% - Meb notes most allocators he encounters place about 5% in trend following/managed futures. Observed institutional maximum allocation: Rarely above 20% - Meb says he does not know of an institution that has allocated more than 20% to trend following. Common equity long-run return expectation: 5% to 7% annualized - Clenow estimates long-run total return for equities over 30–40 years. Equity drawdowns cited: 50% to 60% - He notes that equities can experience large periodic drawdowns over long horizons. Inflation-style impossible trading example: 20% per week - He uses this as an absurd example of unrealistic retail return expectations. Swiss franc peg level: 1.2 to the euro - He references the SNB’s defended EUR/CHF floor before it broke. FX spread complaint: 3% - He recounts arguing with a bank over a 3% FX spread before the peg break. Peg-break move in his favor: 330% spread change - Overnight, the FX move transformed a bad spread into a large gain because of the peg break. Potential low-volatility position sizing problem: Massive positions - He warns that artificially suppressed volatility can tempt models into oversized bets.

Pivotal Quotes: "Trend following is very much a portfolio strategy." — Andrew Clenow: He explains that diversification across many markets is the core of the approach. "The trick is not in the rules themselves. The rules are important when it comes to the diversification and the risk management, of course." — Andrew Clenow: He argues that investors overfocus on entries/exits while missing the real drivers of performance. "If you have a situation where a central bank is artificially doing something against the pressure of the market, it's a matter of time." — Andrew Clenow: He uses the Swiss franc peg and other interventions as examples of regimes that can eventually break.

Implications: Listeners should think of trend following as a diversified risk engine, not a magic signal. The episode also reinforces that portfolio construction, regime awareness, and realistic return expectations matter more than trading trivia.