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How To Build A Trend Following Trading System 

Last Updated: July 25, 2019

By Rayner

trend following trading system

Have you ever wondered whether it is possible to build your own trend following trading system? You know, the same system that the billion-dollar hedge funds employ.

Initially, I thought I needed to join a hedge fund to learn their trend following secrets. But after doing my own research and reading books on trend following, I eventually manage to develop my own trend following trading system.

And today, I will share with you the 5 key elements to building a trend following trading system, after which you can start building one yourself too.

Trading a large number of markets

As a trend follower, you should know that you only make money when there’s a trend. So to expose your trading system to more trending opportunities, you have to trade more markets.

You should be in every sector of the markets like indices, bonds, currencies, energy, metals, agriculture, interest rates, and meats.

One thing to take note of is to balance yourself throughout the different sectors. You wouldn’t want to be overweight in a particular sector and underweight another as this creates a bias in your trading performance. So what you should do is to try to keep a similar number of products in each sector. E.g. 7 currencies, 7 bonds, and 7 metals

A rule of thumb would be trading at least 30 markets with exposure to all the different sectors.

Risking a small % on each trade

Trading is all about probabilities. We should be indifferent from one trade to the next because we do not know which trades will be the home runs and which will be the losers.

One thing we do know is that we want to stay in the game long enough to hit those home runs. The only way to do so is the risk a small % on each trade.

I would suggest risking no more than 1% of your account on each trade. Reason being you will be trading many markets and it’s a good chance that you will have multiple positions across it.

Also there would be instances whereby correlation of markets will increase thereby increasing your risk exposure.
E.g. During a financial crisis, indices would tend to be positively correlated with one another.

Knowing when to enter a trade

There are different ways to enter a trade and there isn’t a best way to do so. Rather, it should be a method you are comfortable executing.

Some methods you can consider are moving average crossover, breakouts or pullbacks.

Remember entry alone will not give you an edge, so do not focus too much on it that you neglect the other important aspects of trading like risk management, position sizing etc.

Knowing when to exit when you are wrong

Before putting on each trade you must know when to get out when price goes against you. You do not want to be in a trade watching price moving further against you till the point whereby you blow your account.

The only way we are going to make money is by having large profits to cover the series of small losses. And to have small losses we need to cut our bad trades as soon possible.

A thing to note is the larger your Stoploss, the higher your winning rate but at the expense of a low reward to risk ratio.

Some methods you can consider are moving average crossover, ATR or X bars high/lows.

Knowing when to exit when you are right

For trend followers, it is a fact that we will never be able to enter at the start of the trend or exit at the end of the trend. We are only focused on the ‘meat’ of the move. This means that we could possibly exit a profitable trade only to watch price goes further in our favor. This is something we must accept and live with.

A thing to note is the larger your trailing Stoploss, the less chance you will be stopped out by a ‘fake move’ but at the expense of giving back a larger portion of your profits.

Some methods you can consider are moving average crossover, ATR or trailing with X bars high/lows.

Complete trend following trading systems

Okay so you’ve understood the 5 elements I’ve discussed earlier and would like to start somewhere, but how?

Below are some trend following trading systems you  may want to check out

Dual moving average

Bollinger Breakout

Andreas Clenow

Donchian

And their performance results for 2014.

Conclusion

Trend following requires more than just knowing when to buy or sell. You also need to take into consideration your risk management, markets exposure, cutting of losses and riding of profits.

All these combined as a whole, will give you an edge in the markets.

So, are you ready to build your own trend following trading system?

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