Carry and Trend in Lots of Places

Optimal trend following portfolios

“…The risk parity portfolio is a very particular portfolio as it captures very well both the risk premia (or the carry) and a large part of the trends. Bhansali et al confirm the link between the carry and the trends as they show that the trend has a better forecasting power when the carry is high [14]. We can also extent this section to the trend on other factors that can capture the residual part of the trends.…”

“…In the practical implementation of the above portfolios, we adjust the proportionality coefficient in Eqs. (12,14,25,26) with time to target the same conditional volatility. Figure 1 shows the simulated performance for the following portfolios: ARP (agnostic risk parity), NM (naive Markowitz), EW (equally weighted), RP (risk parity), and ToRP (Trend on Risk parity).…”

“…It also includes well known herding behavior, which gives rise to a collective decision-making process by investors' beliefs that are either optimistic or pessimistic [13]. More intuitively, Bhansali et al explain the ability of trend following to deliver substantial returns because it is a cousin of the cross-sectional momentum anomaly [14]. Hence, a trend-following strategy typically takes long positions in securities with positive past returns and short positions in securities with negative past returns.…”