The Occasional Mistake

All fund managers have a system. Some have it in their gut and head while others code it into a computer. After coming to terms with a system, the manager must follow it religiously in order to maximize results and perform within investor expectations.

I believe the main reason why benchmarks outperform managers is due to their lack of discipline.

One mistake, whether it be betting too much or too little; buying or selling too early or too late; cutting a winner too soon or holding a loser too long can derail performance. Building a strategy on rules can organize the operation and decrease confusion and second-guessing.

Discretionary managers may have a general system in their heads, but they typically use their intuition and gut to make the final call on trade decisions. A major risk of discretionary investing is that the manager might be off his or her game at the time a crucial decision is needed. Family, health or work related stress might derail their ability to think clearly and execute with confidence. Personal issues can also take them away from the markets completely; not being about to observe markets or study other data critical to their system.

On the other hand, systematic managers code their strategy into a computer and obey the signals it spits out — what to buy or sell; when to buy or sell and how much risk to take. Intuition and gut feel is not a requirement or needed. Of course, systematic managers don’t always follow their signals but they always know what the signals are and what they should do (follow them). When systematic managers do not follow their system, performance typically suffers.

“If only I just followed the system!” is a common expression amongst traders. We tend to be our own worst enemy. In my experience, backtests tend to simulate real-world results pretty well, except for the feelings part. There’s no amount of math and quant alchemy that can get you to not feel the frustration, impatience, anger, etc that come up during trading. But it’s important to stick to it.

Early on in my career, I experimented with hypothetical scenarios where I didn’t follow my system perfectly. Almost every single discretionary override of the system would’ve hurt performance.

Below is a look inside the mind of a manager who’s having trouble following his trend following system in the equities market.

S&P 500 Index 2008–2013

S&P 500 Index 2013–2017


Past Performance is Not Necessarily Indicative of Future Results
 There is always a risk of loss in futures trading.

This communication is for information purposes only and should not be regarded as an offer to sell or as a solicitation of an offer to buy any financial product, an official confirmation of any transaction, or as an official statement of Melissinos Trading LLC. All information is subject to change without notice.

These charts show examples of trends. Inclusion of a chart as a trend example does not imply any kind of recommendation to buy, sell, hold or stay out.