Trend following can be set up to mitigate specific risks. For example, a moving average can be used as a stop loss. It can also be used a signal to go enter a position that is expected to be negatively correlated with something else in your portfolio that is less liquid. (Wes Gray's Alpha Architect funds hedge their midcap value/quality porfolio using a trend-following strategy to short the S&P 500.) You've probably seen this paper already, but this is where most people seem to get started: A Quantitative Approach to Tactical Asset Allocation (Meb Faber) https://mebfaber.com/wp-content/uploads/2016/05/SSRN-id962461.pdf
I have a selling bias -- and specifically, I prefer to be 'long theta.' So, massive moves (down) like you've described either have me burned, or dancing dancing dancing. (August'15 I was on vacation -- had bought back all bottom-side positions, "cuz." Jan'16 danced-like-hell. Feb18 was a burn.) So, what I needed (and lacked) was enough of a reference to simply exit the market, simply *not*play*. I needed some rules. (So, your thread looks for ways *to*trade* through market down-drafts -- and not to be a thread hijacker, but for selling time/risk-acceptance?? My trading plan is to not trade.) How? I have specified formerly *fuzzy* 'intentions' to be increasingly light in markets where IV≤HV, and now have gone further, by specifying a trend/momentum regime for long/short underlying trades -- and then using that regime to inform whether/by-how-much to take short option spread positions on either side of the market. So, a two-prong approach to *limiting* option-writing. Seems to be working well, but it's very much under development -- with only a couple of months in template-ish use -- but has handled the gyrations well thus far. THANK YOU, REFORMED_TRADER: I FEEL LIKE I'VE JUST RE-INVENTED THE WHEEL: A Quantitative Approach to Tactical Asset Allocation (Meb Faber) https://mebfaber.com/wp-content/uploads/2016/05/SSRN-id962461.pdf To wit: "A non-discretionary, trend-following model acts as a risk-reduction technique with no adverse impact on return. Utilizing a monthly system since 1973, an investor would have been able to increase risk-adjusted returns by diversifying portfolio assets and employing a market-timing solution. In addition, the investor would have also been able to sidestep many of the protracted bear markets in various asset classes. Avoiding these massive losses would have resulted in equity-like returns with bond-like volatility and drawdown." This just described my calendar-2018.
I have specified formerly *fuzzy* 'intentions' to be increasingly light in markets where IV≤HV, and now have gone further, by specifying a trend/momentum regime for long/short underlying trades -- and then using that regime to inform whether/by-how-much to take short option spread positions on either side of the market. So, a two-prong approach to *limiting* option-writing. Yes - combining strategies is a very under-appreciated way to mitigate risk. It seems like most people have only a small piece of the picture because of liquidity, institutional, or career-related constraints. For example, Berkshire Hathaway can't use trend-following because of its size, giving value investors the impression that the strategy doesn't work, even though it would be great for small investors - especially given the volatility reduction that would occur on the short side of a long-short portfolio. The paper below explores this idea in more detail: In an ideal world, a portfolio would be composed of a wide range of return-producing units, each of which is risky but independent of the others. Such a portfolio would result in high returns with low volatility. These return-producing units would also have capacity large enough for allocations by large funds. So, where do we find such independent, return-producing units? One simple answer is that many of these return-producing elements or risk premia already exist in traditional asset class portfolios. However, they are accompanied and dominated by broad equity or bond returns. We only need to separate them. https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2543991[/QUOTE]
It's a wheel almost no one uses even when it's placed on the table with glowing lights and presents under it. I recently had a conversation with a VP and senior investment adviser of a major bank where he poo-poo'd trend-following and VIX term structure trades as market timing. I asked him what he used, and he sent me a report with recommendations from the bank's CIO. The major recommendations were based on value, illiquid alts, and... earnings growth (market timing), momentum (market timing), and tactical asset allocation (market timing). He had it in front of him and didn't know what he was looking at.
Ratio backspreads comes to mind. Especially when you leg in for credit. https://www.elitetrader.com/et/thre...s-or-credit-spread.318584/page-3#post-4612575 I used to buy them for a debit outright for hedges like the above. Then why not leg them in for credits (long leg @ low IV/short leg @ high IV). I now put them on for credits by legging. Manage the price/time risk well and you keep collecting premium on the upside until you get volatility pops for a windfall. You have to tailor how aggressive you want to target based on your analysis/forecast. It's not simply just a systemic procedure of putting them on perpetually.
Yes - shorting volatility in a risk-defined way and adding additional gamma when and where it's cheap to do so works pretty well. It's also a great complement to trend-following, as the latter won't catch short-lived pops in volatility (Feb, Jun 2018).
Yes it is in delta 1 space. No, I do not have experience using options for trend following. If I were to use options, I won't use any strategy which limits upside. Since trend following has limited huge winners combined with many small losses.
I do not understand what are you disagreeing with. Trend following does well when market has banner years too. Trend following can be thought as loose long option strategy. Since they use stops when the trend dies. It is similar to long call or put option based on the trend signal. In fact trend following in managed future does very well in long banner years compared to short trendy market. This is because in long trendy market, realized vol is low so risk budgeting is high. In short trendy market, it is the opposite. Realized vol is high, so risk budgeting is less. There are many papers which documents "CTA smile" behavior. http://sfgalternatives.com/wp-conte...h-managed-futures-historical-perspectives.pdf One thing trend following not is, it is not long event risk like many long options strategy