Trend-Following Through the Prism of Tactical Asset Allocation

Quantifying the benefits of constrained and unconstrained trend-following vs a traditional asset allocation: short-selling, leverage, and market diversification.
Even when investors facing traditional investment portfolio restrictions are long-only, unlevered, and restricted to a narrow investment universe, trend-following for tactical asset allocation can enhance risk-adjusted returns in two ways: by overweighting outperforming and underweighting underperforming assets and by sitting in cash during extended negative periods for some asset classes. To unleash the full power and potential of trend- following, however, investors need the freedom to go short as well as long, use leverage, and trade a wider range of asset classes and markets. Analysis shows that leverage and a wider investment universe can enhance risk-adjusted returns over a full market cycle, while shorting may produce a smoother and steadier return profile more evenly balanced between bull markets and bear markets.

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