TREND

FOLLOWING
Applied to Equities and ETFs

March 2015 New York

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Riccardo Ronco, CFTe

Biography

Riccardo Ronco is the head of technical analysis at Aviate Global in London.

Mr. Ronco follows large- and mid-cap European and U.S. equities, paying attention to domestic and
foreign equity indices, currencies, commodities, and interest rates. As a medium-term trend follower,
his approach is strongly quantitative in nature; particular attention, however, is devoted to identifying
reversal patterns characterized by excessive consensus among investors.
Mr. Ronco brings more than 15 years of experience in trading, quantitative analysis, and teaching
technical analysis in the United Kingdom and Italy. Prior to joining Aviate Global in April 2010,
Mr. Ronco worked for Credit Agricole Indosuez, Banca Intesa Group, and Banca AntonVeneta
(MontePaschi Group) and FBR Capital Markets.
He is a frequent guest on CNBC Europe and other European media outlets. A member of the
Society of Technical Analysts (STA) and the Market Technicians Association (MTA), Mr. Ronco was a
speaker at the International Federation of Technical Analysts (IFTA) 1998 conference in Rome and
Beijing (2011).
His work is mentioned in the book Capital Market Revolution: The Future of Markets in an Online
World by Patrick Young. Mr. Ronco received his degree (with honors) in economics from the
University of Turin.
He currently holds Chartered Market Technician (CMT) Level 1 and 2 diplomas.

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Buffett or Harding?

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Emotional = Irrational
Investors tend to make emotional decisions about their money, chasing performance...
Investors are everything but rational: Hope, Greed, Fear, Despair investing cycle

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Behavioral Basis for Trends

Demystifying Managed Futures, Hurst Ooi Pedersen

Trend ends
(back to fundamentals)

Trend continues (herding +

over-reaction)
Fundamental Value

Trend starts (anchoring

+ under-reaction)

People are prone to making SYSTEMATIC ERRORS in circumstances of uncertainty

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Why Trend Following?

To fight irrational behaviour we need a PLAN: a system with clear rules, with an EDGE
TREND: sustained changes in prices in one direction
FOLLOWING: no forecast, focus on reaction, deal with probabilities and not certainties
We cannot control the OUTCOME of a trade: focus on SIZE and EXIT
Focus on ROBUSTNESS: simple algo, few degrees of freedom, KISS
Focus on Consistency Discipline Confidence Back testing
Focus on the PROCESS: doing the right thing rather than being right, flawless execution
Simple but not EASY: let profits run + cut losses goes against our natural instincts

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

From David Ricardo (1772-1823) to Ed Seykota

The Great Metropolis, Vol II, 1838, James Grant

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Trend Following Wisdom

"A loss never bothers me after I take it, I forget if overnight.
But being wrong, not taking the loss - that is what does
damage to the pocket book and to the soul.
Jesse Livermore

After spending many years in Wall Street

and after making and losing millions of
dollars I want to tell you this: it never was
my thinking that made the big money for
me. It was always my sitting.
Jesse Livermore
18 March 2015

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

An Edge to avoid Outcome Bias

Expectation = (%W x AW) (%L x AL)

Where:
%W = Winning Percent
AW = Average Winner
%L = Losing Percent or (1 - %W)
AL = Average Loser
For Expectation = 0 we have the Breakeven Line curve

Y = (1 X) / X hyperbola
Where:
Y = AW / AL (a.k.a. WIN/LOSS ratio)

X = %W

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Expectancy Curve Nick Radge

10
9
8

Profitable

WIN/LOSS RATIO

7
6

Breakeven Line

5
4
3
2
1

Unprofitable

0
10% 15% 20% 25% 30% 35% 40% 45% 50% 55% 60% 65% 70% 75% 80% 85% 90% 95%

WIN %
Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

10

NR 1 TF problem: DRAWDOWNS

TF is about taking NUMEROUS SMALL LOSSES (false breakouts) for...

... those RARE LARGE WINNING TRADES when markets do trend (fat tails)
Length and Size of a LOSING streak affects you psychologically and emotionally

=ROUND(LN(Nr. Trades) / -LN((1 (% WIN / 100))),0)

Example:
40% WIN and 10,000 trades 18
There is a chance that we can have 18 consecutive losers
Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

11

Psychology: Length of a Losing Streak

90
80
70

80-90

60

70-80
60-70

50

50-60

40

40-50

30

30-40

20

20-30

10

10

9500

9000

8500

8000

7500

7000

6500

99

0-10

% WIN

10000

TRADES

6000

70
5500

5000

4500

4000

3500

3000

2500

2000

40
1500

1000

500

10-20

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

12

Psychology: Fixed Fractional

the RISK on EACH TRADE does impact how we trade / think (100 starting capital)
100
90
80

% risk / loss

70

Avail. Cap.

60

50

40

4
5

30
20
10

Consecutive
Losses

1
4
7
10
13
16
19
22
25
28
31
34
37
40
43
46
49
52
55
58
61
64
67
70
73
76
79
82
85
88
91
94
97
100

If our %WIN is 40% then, in the long run, we will get 18 losses in a row
risk 4% on each trade and that will be enough to lose 50% of our equity with FF
Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

13

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

01/12/2013

01/03/2011

01/06/2008

01/09/2005

01/12/2002

01/03/2000

01/06/1997

01/09/1994

01/12/1991

01/03/1989

01/06/1986

01/09/1983

01/12/1980

01/03/1978

01/06/1975

01/09/1972

01/12/1969

01/03/1967

01/06/1964

01/09/1961

01/12/1958

01/03/1956

01/06/1953

01/09/1950

01/12/1947

01/03/1945

01/06/1942

01/09/1939

01/12/1936

01/03/1934

01/06/1931

01/09/1928

S&P 500 vs 10-month SMA Long only

100000
S&P 500 MA
B&H

10000

1000

100

10

From Sept 1928 to Feb 2015: CAGR Strategy +6.38% (no reinv.) vs B&H 5.47%
14

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Oct 1988 Feb 2015

CAGR
Max DD

SPY/Bond 10-sma (blue)

13.31%
-15.87%

SPY Buy & Hold (red)

10.37
-50.95%

SPY/Bond 50/50 (green)

9.46%
-22.00%

01/08/2014

01/10/2013

01/12/2012

01/02/2012

01/04/2011

01/06/2010

01/08/2009

01/10/2008

01/12/2007

01/02/2007

01/04/2006

01/06/2005

01/08/2004

01/10/2003

01/12/2002

01/02/2002

01/04/2001

01/06/2000

01/08/1999

01/10/1998

01/12/1997

01/02/1997

01/04/1996

01/06/1995

01/08/1994

01/10/1993

01/12/1992

01/02/1992

01/04/1991

01/06/1990

01/08/1989

01/10/1988

Reinvesting in US 10-year T-Note

10000
SPX/BOND

S&P B&H

50/50

1000

100

15

So what is the best moving average?

No commissions, no taxes, no reinvestment when in cash

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

16

Trade them all! (and play with weights)

No commissions, no taxes, no reinvestment when in cash

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

17

From Bullish/Bearish to How MUCH Bullish...

No commissions, no taxes, no reinvestment when in cash

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

18

Mebane Faber: CTA-like using 10-month m.a.

1000
STRAT

Multi Asset Classes

Long Only

SPX

EW Diversification
+ Monthly Rebal.
(2 free lunches)
S&P 500 TR
European Equities TR
US 10-year T-Note TR
US REITs TR
Commodities TR

01/08/2014

01/12/2013

01/04/2013

01/08/2012

01/12/2011

01/04/2011

01/08/2010

01/12/2009

01/04/2009

01/08/2008

01/12/2007

01/04/2007

01/08/2006

01/12/2005

01/04/2005

01/08/2004

01/12/2003

01/04/2003

01/08/2002

01/12/2001

01/04/2001

01/08/2000

01/12/1999

01/04/1999

01/08/1998

01/12/1997

01/04/1997

01/08/1996

01/12/1995

100

Jan 1995 Feb 2015

CAGR

Ann. St.dev

Mod Sharpe

Strategy (blue)

10.08%

6.53%

1.54

SPY (red)

8.52%

15.30%

0.56

No commissions, no taxes, YES reinvestment when in cash (SHY)

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

19

S&P 500 GICS TR using 10-month m.a.

1200

1000

Multi LC US Sectors
Long Only

STRAT
SPY

800

EW + Monthly Rebal.
600

400

All 10 S&P 500 sectors TR

Invest if above 10-ma
In SHY if below 10-ma

200

Dec-14

Dec-13

Dec-12

Dec-11

Dec-10

Dec-09

Dec-08

Dec-07

Dec-06

Dec-05

Dec-04

Dec-03

Dec-02

Dec-01

Dec-00

Dec-99

Dec-98

Dec-97

Dec-96

Dec-95

Dec-94

Dec-93

Dec-92

Dec-91

Jan 1992 Feb 2015

CAGR

Ann. St.dev

Mod Sharpe

Strategy (blue)

10.74%

8.46%

1.27

SPY TR (red)

7.75%

15.30%

0.51

No commissions, no taxes, YES reinvestment when in cash (SHY)

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

20

Going Global with Large Cap: Index

No commissions, no taxes, no reinvestment when in cash

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

21

Going Global with Large Cap: 100 stocks

10 MIO USD portfolio: 0.5% commissions, no taxes, no reinv. when in cash

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

22

Bibliography
Andreas Clenow - Following the Trend: Diversified Managed Futures
Gary Antonacci Dual Momentum Investing
Nick Radge Unholy Grails: A New Road to Wealth
Michael W. Covel - Trend Following: Learn to Make Millions in Up or Down Markets
Michael W. Covel - The Complete Turtle trader: The Legend, the Lessons, the Results
Nick Radge - Unholy Grails - A New Road to Wealth
Curtis Faith - Way of the Turtle: The Secret Methods that Turned Ordinary People into Legendary Traders
Mebane T. Faber - The Ivy Portfolio: How to Invest Like the Top Endowments and Avoid Bear Markets
Anthony Garner - A Practical Guide to ETF Trading Systems: A Systematic Approach to Trading Exchange
Traded Funds
Van K. Tharp - Trade Your Way to Financial Freedom
Edwin Lefevre Reminiscences of a Stock Operator

18 March 2015

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

23

Awards

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

Legenda
Every week, for several different countries and asset, classes a given set of technical indicators is calculated on specific Equity, Equity sector and Commodity indices. First, we
calculate our proprietary momentum indicator; we then rank the industry groups from best to worst, showing the results for the last six weeks (Fridays closing prices are used in
our calculations). We use the blue color for Overweight, the red color for Underweight, and no color for Neutral.
We prefer to find buy ideas in the top third results of our ranking model, while short ideas are better suited for those indices in the bottom third. This table provide a quick, yet
effective, way to see the dynamics of relative performances in these indices, showing investors preferences in the medium term. From an absolute performance point of view,
we need to calculate instead the weekly MACD (Moving Average Convergence/Divergence) indicator and its nine-week moving average (the signal line).
We technically define a bullish swing as one when the MACD is above its moving average and a bearish swing as one when the MACD is below its moving average. On
the Time column, we count the number of weeks from one swing to the next to gauge the maturity of the current move. When comparing the MACD with its moving average
and with the zero line, however, we can define four phases (Up, Advancing, Down, and Terminating).
The idea is to divide price oscillations into clearly identifiable phases (as inspired by the work of Ian S. Notley) and adjust our risk/reward expectations according to these
indications (see column Action, representing the number of weeks a particular index has spent in its bullish or bearish swing phase).
The bullish swing includes the Up and Advancing phases.
Up: The index has bottomed (possibly after showing positive divergences) and is breaking resistance levels. Investors should have a low-risk entry point here. The weekly
MACD is below the zero line but above its signal line. Size should be small at the beginning, and the investor should allow prices to prove themselves.
Advancing: Prices are trending nicely higher with moderate volatility. Approaching the top, we usually see volatility picking up and weekly (daily) ranges increasing. The
weekly MACD is above both the zero line and its signal line. Buying dips can be a rewarding strategy.
The bearish swing includes the Down and Terminating phases.
Down (Declining): The index has built a top (or a congestion phase), and the weekly MACD has crossed from above its signal line. The MACD itself is still above the zero
line here, and the implication is to lighten the position and to use each short-term pullback to reduce/sell the exposure (sell on rallies).
Terminating: Prices are accelerating to the downside, and the weekly MACD is now below both zero and its signal line. Sharp rallies could be confusing, but sticking to the
trend is the best strategy, and investors should generally avoid buying dips here. Volatility is sharply increasing.
EM: Emerging Market.

18 March 2015

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

25

Information about technical analysis

This trading idea is based upon technical analysis, which involves the study of historical price and volume trading patterns and the potential direction of future trading based
upon such information. There is no direct or implied guarantee of any particular outcome. This analysis is different from fundamental analysis and the conclusions reached may
differ. Technical research does not represent a rating or coverage of any discussed issuer(s).
Our daily charts for European and U.S. equities try to highlight in a quick and easy way information about the trend, the relative performance against its benchmark, price
momentum and accumulation/distribution using volume. Our conviction is clearly a function of these elements and of the time frame used.
To determine the trend we use the classic combination of two moving averages based on a 50 and 200 day length. The trend of the stock will move above and below these
moving averages and we will look for buy (sell) ideas when price will be above (below) both of them or during mild pullbacks affecting only the 50-day moving averages.
Given two or more signals on stocks in uptrend we use the relative strength versus its benchmark (usually the Eurostoxx 600 for European names and the S&P 500 for U.S.
names) to discriminate which one offers the best opportunity for a given signal. Again we like stocks in uptrend with a bullish relative strength as buy candidates.
Momentum (we use the classic MACD Moving Average Convergence Divergence Indicator) tells us where we are in the current phase of the trend. The MACD indicator
represents the difference between two moving averages of 12 and 26 days. If this indicator is widening, it confirms the trend in prices is healthy and accelerating. A possible
indication to reduce exposure in a stock that is in uptrend and outperforming is provided either by a short-term trend reversal toward the zero line of this indicator or by a
negative divergence between prices and the MACD indicator. New highs in price that are not confirmed by new highs in the MACD, are leading indications that the pace of the
trend is slowing down and a possible reversal is in the offing.
Finally we consider volume in our work in two forms: raw volume represented by a vertical histogram (red for negative trading sessions, blue for positive ones) and the OBV
indicator. Raw volume can indicate the underlying structure of buying and selling in the short-term: we like higher price on higher volume and lower prices on lower volume,
indicating a positive feedback in investors mentality. Spikes in volume are usually associated with climaxes and a short-term reversal is usually the norm. The OBV indicator tries
to help to answer the question whether the stock is under accumulation or distribution. The OBV indicator follows prices 95% of the time: we add (subtract) the volume of the day
if the close is positive (or negative) to a running total. A stock that has been for 2-3 months in a tight trading range with an OBV indicator that is breaking higher (lower)
provides a leading indication of accumulation (distribution) and helps the investor/trader to be prepare ahead of the breakout in prices.
Aviate Globals technical rating system has seven categories to differentiate short-, medium-, and long-term time horizons. If there is no rating listed for a stock, Aviate Global is
neutral and has no opinion on the stock.
Speculative Buy: A short-term buying opportunity lasting up to one month with projected upside of 10% or more.
Buy: A medium-term buying opportunity lasting up to six months with projected upside of 25% or more.
Strong Buy: A long-term buying opportunity lasting more than one year with return potential of 50% or more.
Sell Short: A short-term selling opportunity lasting up to one month with projected downside of 10% or more.
Take Profit: Immediate closing out of existing position at a profit.
Sell/Reduce: Used for a stock with a deteriorating long-term technical outlook that is expected to have a very limited or negative return over the medium to long term.
Stop Loss: Immediate closing out of existing position at a loss.
Aviate Globals technical ratings use specific return targets; returns are not guaranteed and are used for illustrative purposes only.
Chart sources: Bloomberg and Aviate Global LLP.

18 March 2015

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

26

Global Disclaimer
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This note is circulated to you as a client of Aviate Global LLP. Please note that the views contained within may have been disclosed earlier today to some clients via Bloomberg. If you would like
to receive our earlier Bloomberg message, please contact Paul Moran on +44 20 7233 3218. Aviate Global LLP generates high conviction trading and investment ideas for its clients. It does not
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This report has been prepared by Aviate Global LLP solely for the purpose of supplying information to the clients of Aviate Global LLP and/or its affiliate(s) to whom it is distributed. This report is
not, and should not be construed as, a recommendation, solicitation or offer to buy or sell any securities or related financial products. This report does not constitute investment advice, does not
constitute a personal recommendation and has been prepared without regard to the individual financial circumstances, needs or objectives of persons who receive it.

18 March 2015

Riccardo Ronco +44 20 7233 3245 rronco@aviateglobal.com

27