Tue, 15/03/2005 - 06:07
Karsten Schröder and Florian Leder of Amplitude Capital LLP outline a new trend indicator designed to overcome the weaknesses of existing concepts.
Executive Summary: Many funds in the managed futures and the macro space try to generate profits by identifying trends and taking the appropriate short or long positions. Strong market moves usually lead to profitable trades while a narrow-range 'trading' market environment creates harder conditions to generate profitable transactions.
In order to describe this behaviour quantitatively, an appropriate index of trend indication needs to be identified. Existing trend indicator concepts have their limitations. These are discussed in the first section of this paper.
We then develop a Trend indicator (TI), which overcomes some of the weaknesses of other trend concepts. We use this trend indicator to explore the close but crucially different relationship between trends and volatility.
The underlying data used is the USD/EUR minute exchange rates between 1990 and 2004. We find that in periods of low volatility there are few trends, but in highly volatile markets, trends are no stronger than in medium volatile periods. At volatilities of above 0.5 per cent per day, the relationship between the trend indicator and the volatility is independent and the knowledge of the exact volatility at the level has no information other than the fact that it is higher than 0.5 per cent.
We then use the TI concept to examine simple trend following systems (in this
case a simple MACD system). We find that the TI concept can be used to
determine the underlying trading timeframe that is used in a trend following
We test this concept with a live FX fund and try to establish the timeframes that it operates on. From the results, we can conclude that the fund is trading in line with its described strategy: over several time periods.
The full text of this report by Amplitude Capital is available at www.hedgeweek.com/hwreports.asp
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