I’m a New York Giants fan. They over-achieved this season and made the playoffs, but were very much a mediocre team. A few bounces here and there and they would’ve missed the playoffs. They finished the season with a -6 score differential. Not very good.
Everyone went crazy when they beat the 13-4 Vikings in the first round of the playoffs. Despite a great Win-Loss record, the Vikings were also a very mediocre team. Their score differential was similarly bad -3.
When the Giants won, people jumped on bandwagon thinking they could knock off the favored Eagles the next week. They got caught up in short-term performance. Big mistake.
The problem is looking at the most recent game instead of the previous 17 — and over the previous 17, the Eagles were clearly superior.
The Eagles produced a regular season score differential of +133. Much better than -6 wouldn’t you say? But when you care only about the most recent performance and getting romantic about storylines, you’re prone to making stupid bets.
In trading, the same psychology occurs. Someone’s favorite team (i.e. stock or overall strategy) has a great year and they think the coming year(s) will be the same. They fall into the psychological pitfalls that have been well documented in behavioral finance.
In 2021, my fund had a great year being up +40% while many of the largest trend-following funds were up very low single digits. Some even lost money. What does this mean? Nothing. It just means I had a better year. It doesn’t mean I’ll have a better career. In 2022, we had an OK year being up +8% while many large firms had great years being up +20-50%.
Now what? Are the big funds better than me now because they had a better 2022? I don’t think so. Many of them trade a high concentration of fixed income markets and guess what the strongest trends were in 2022? I trade a higher concentration of commodities. Guess what the strongest trends were in 2021?
The point is that we all have our years where we spend at the front and back of the line. Just because we all call ourselves “trend-following” funds doesn’t mean we’re going to perform similarly year after year. It’s likely going to vary widely based on a number of factors (portfolio composition, trade timing, etc).
It’s better to look at the big picture. All of the data. Not just the last few months or even the last few years. Look at the entire body of work and you’ll see who the best of breed are.