We’ve spent a fair amount of time covering a fictional Crude trade in order to better illustrate how a typical trend following trade operates. We covered the long side entry in March when the Middle East and Japan threw the markets for a loop, and updated when the trade got stopped out in May. We then took a look at the entry of a short Crude trade back in August, and gave the subject even further coverage in last week’s newsletter by highlighting what the journey of the trade is like.
Now, with Crude having rallied 23% higher from its October 4th lows – our fictitious trade has unfortunately seen its end, with the most recent push above $90 pushing prices above the 80 day moving average of prices (most trend following models use a similar approach risking a move back to the 50 to 200 day moving average).
The end result? While at one point making over $10,000 on the trade when prices were down around $75/barrel, this trade ended up losing about -$5,000 (depending on whether you got out at the close of the day which pierced the moving average or the open of the following day).
As we’ve said before, this is exactly the kind of trade which drives investors- in managed futures in general, and trend following strategies in particular – crazy. Seeing an open trade profit of $10k turn into a loss of -$5k is not easy, and it takes a certain type of individual to understand that, while unfortunate, the loss of -$5k is manageable, especially when considering it would be on an account of $200k to $1 million. And that the nature of markets is such that you must live through several such losses (the two Crude trades we’ve profiled thus far have both been losers) before seeing the outlier trades which trend followers hang their hats on.
We’ll keep an eye out for the next Crude trend following trade to highlight just how all this works once again, and maybe one of these days find a winner.