Is Trend Still Your Friend?: A Microstructural Account of the Demise of Short-Term Trend-Following
Why a famous investing strategy suddenly stopped working in 2009
Trend following—a strategy that has reliably made money for 200 years by betting on price movements—abruptly broke down around 2009 and has stayed broken for short-term trades. The culprit is not what people thought: it's not that too many traders crowded the strategy, or that markets became electronic. Instead, the real cause is a mechanical quirk about how trades execute on different types of contracts: the strategy still works on assets with wide trading spreads but has collapsed on assets with narrow spreads, and that collapse is tied to how high-frequency traders manage their market-making since the 2008 financial crisis.
Investors managing hundreds of billions in trend-following funds have had to abandon short-term strategies and shift capital elsewhere, reshaping global markets. Understanding why the break happened—and that it stems from a specific change in how market makers operate rather than fundamental market exhaustion—could help traders and regulators spot similar vulnerabilities in other widely-used strategies and prepare for future mechanical breakdowns in markets.