The Derivative - Setting the record straight – Trend following: the proof is in the track record with Marty Bergin of DUNN Capital

Episode Date: March 16, 2023

When it comes to investing, there are countless strategies to choose from, each with its own set of pros and cons. One strategy that has stood the test of time is trend following, a technique that involves analyzing market trends and making trades based on those trends. Despite its proven track record, some investors remain skeptical about trend following, perhaps because they don't fully understand how it works or they've been burned in the past by unsuccessful trades. In this episode of The Derivative, Marty Bergin, CEO of DUNN Capital Management, discusses trend following's success and the impact of interest rates on other markets. He stresses the importance of diversifying portfolios by seeking uncorrelated markets and accepting losses as a crucial part of trend following. The episode also delves into Bergin's company's adaptive risk profile and different methods traders can use to adjust their risk profiles, providing valuable insights and predictions for the future. You won't want to miss these critical insights into trend following and predictions for the future. So what are you waiting for? SEND IT! Chapters: 00:00-01:51 = Intro 01:52-16:24 = RV Disaster Recovery, the History of DUNN, Bill Dunn & the System 16:25-30:23 = A long track record, an Adaptive risk profile, influences by interest rates & capturing the upside 30:24-36:47 = Good & Bad years: what’s the driver? & Vol targeting 36:48-50:33 = Investors & the impact on trend following 50:34-57:55 = Replication of products & new technology 57:56-01:03:51 = What’s the Future for Trend? For more information on Marty Bergin & DUNN Capital visit DUNNcapital.com  Don't forget to subscribe to The Derivative, follow us on Twitter at @rcmAlts and our host Jeff at @AttainCap2, or LinkedIn , and Facebook, and sign-up for our blog digest. Disclaimer: This podcast is provided for informational purposes only and should not be relied upon as legal, business, or tax advice. All opinions expressed by podcast participants are solely their own opinions and do not necessarily reflect the opinions of RCM Alternatives, their affiliates, or companies featured. Due to industry regulations, participants on this podcast are instructed not to make specific trade recommendations, nor reference past or potential profits. And listeners are reminded that managed futures, commodity trading, and other alternative investments are complex and carry a risk of substantial losses. As such, they are not suitable for all investors. For more information, visit www.rcmalternatives.com/disclaimer

Welcome to The Derivative by RCM Alternatives, where we dive into what makes alternative investments go, analyze the strategies of unique hedge fund managers, and chat with interesting guests from across the investment world. Thanks for joining us to take your mind off the regional bank woes for a bit. Those bank worries led to trend being in the news for all the wrong reasons earlier this week with huge two-day losses as treasuries had historic two-day moves up while our friends in the trend space were massively short, causing negative 5% to negative 15% two-day returns for some of the more bigger trend programs. So how do trend programs and trend investors handle this type of action? We're lucky to have Marty Bergen of Dunn Capital on today, taking us through Dunn's nearly 50 years in this game.

How their model has changed over the years, what is similar, what's different in this trend environment, versus the legendary moves in the past years and past decades in this case. This was a fun one. Send it. This episode is brought to you by RCM and its Guide to Trend following white paper. How do they do it? Why do they do it? When does it work? When doesn't it? Guide to Trend is a great complement with managers, performance, and more.

Ping the team at RCM to dig in. Go to rcmalts.com to check it out. And now back to the show. All right, Marty, thanks for being here. How are you? I'm very good. How about yourself? Good. And tell me about sunny Florida. I grew up just up the road in Vero Beach. You're there in Stewart, right? Yep. So we're about an hour south of you and I'm probably 45 minutes north of Palm Beach. Most people are familiar with Palm Beach and Jupiter, maybe not Stewart so much.

We're kind of a sleepy suburb of Palm Beach, I would say. I tell people I grew up in Vero, they're like, where's that? I'm like between Cape Canaveral and palm beach yeah it's pretty big big delta there but a little larger than stewart but i don't think it's any more active than stewart no yeah and then i used to love this was maybe 20 years ago when we first were meeting with you guys we're first in the industry and you had this you had an rv right if there was a hurricane with you guys, we're first in the industry and you had this, you had an RV, right? If there was a hurricane and you're all going to load onto the RV and trade from the RV, is that still in play?

No, no, no. We actually have a, another location in Chicago. So that's our disaster recovery location. They're actually in the CME building. So we have a mirrored system that can run from that location. What we used to do is we had a grievance with a number of hotels in the state of Florida. So once we determined the track of the hurricane, we would go to another hotel, which they would guarantee that they could provide us high-speed internet. And we would just basically set up in one of their

conferences rooms. And then we'd have hotel units for everybody in the firm and they'd bring the family, the kids, the dogs, and it would be quite an experience for four or five days. Yeah. I'd like the RV story, but it'd be like Mad Max. Like you're going around Florida, people are trying to get in, You're just doing your trades. I just don't know how that would work out as far as connectivity. Right. And then, so speaking of, Red, I met you guys first 20 years ago and you had already been doing it for 20 years. So tell us a little bit about the super long history, how you came to be in the role you're in now, and give us the whole backstory if you could. Yeah, I'll try and might use some pieces along

the way. So Bill was a defense contractor. Bill Dunn, yeah. Bill Dunn, who was a founder of Dunn Capital. Most people think he was part of the Turtles, but he was not part of the turtles. He was basically designing and came up with the ideas for these systems in the same time frame, but independently. And of course, he had no idea that other people were doing this. And the story of his first client was they knew that other people were doing it because they had allocated money to other people and they allocated the bill. So they knew more about that it was profitable than he did at the time. But anyhow, back to Bill was in the military, got out of the military, went back to school and GI Bill and got his Ph.D. in physics. Went to work for a defense contractor there in Washington, D.C.

He decided there had to be a better, more honest way of making a living than doing that. So he immediately, he initially applied the trend following theory to equities. But he came to realize that there was too much data. So there was no way to process and crunch the numbers overnight so that you could trade the whole population of equities the next day. I've never thought of that, of why did all the initial traders and trend start with futures, maybe as simple as, because they only had to look at 40 markets instead of 4,000. And in his case, it was only like 12 markets. Yeah.

We're actually, you know, trading there at the CME that had volume enough to trade. And he started applying to that. And initially they only ran the program once a week. He was using punch cards in our conference room here in Stewart. We still have like some of the original punch cards in a board, you know, what the technology was at the time.

And he was renting time on a mainframe computer at the local library to, you know, run the system. I love it. He was doing it out of his basement. Anyhow, I love it. climate and wanting to be close to water yeah and i don't know if you know but the reason he picked stewart was we have the intercoastal we have the saint lucie river and we have the ocean all come together here in stewart so lots of water lots of water and no taxes and no taxes

i don't know if that was a consideration at the time, but it proved to be very good. So what year is this that he heads down to Florida? That was in 74. It was probably 74 is when he launched. He probably came down here in 78. And we're still in, he originally started two buildings over, then he rented space in the building we are currently, and eventually we bought the building. And this is how we put it as our worldwide headquarters here in Stewart, Florida. Perfect. And I was actually working for a CPA firm up in Northern Virginia. The partner in the firm I worked for was Bill's next door neighbor.

And when Bill was putting all this together, he went over and talked to his neighbor and said, how do I do the accounting? How do I do all this stuff? So he became Bill's accountant related to all of this stuff. And when I went to work there, the firm was then doing the audits for the funds.

And one of the first assignments I was sent on was to go down to Florida to participate in the audit on site. And had you ever seen futures trades or anything? Was it like looking at Japanese? It was. Yeah, I was at the time I was coaching high school football. I graduated from college with a accounting degree, was studying for the CPA and teaching high school. Great. Then I went to work for a CPA firm for two years there locally and then moved into the CPA firm that I eventually became a partner in. What's your college coaching stats or your high school coaching stats? What's your overall record? Oh, I was an assistant, so I wouldn't say.

I did coach some. I actually coached a first-round NFL draft pick. Nice. Dan Marino? What was his name? No, nobody of any knowledge. I did code some sons of some very famous NFL players. You got to remember, I was in Northern Virginia. Yeah, yeah. The home of the Redskins. Right. I'm sorry, I'm going to have to say the name, but they'll always be the Redskins to me. And, you know, I knew Coach and uh Bobby Beathard at the time

so I was just having that debate with a friend sorry quick sidebar they were showing Kareem Abdul-Jabbar college stats and we were arguing like well should it be listed as Lou Alcindor right like yeah right he got those stats under that name not under the change name so the same thing like hey you're this this at the time they were named the redskins so use the name redskins well and i will say he's the same person they're still the same team yeah they aren't any good That's all right. I digress. Anyhow, I had become a partner in 97 of the firm, at which point Bill contacted me and he said, if I'm interested in hiring somebody from your firm, my understanding is I need to check it out with you first. And I said, well, that's a common courtesy, but you don't need to check it out with me. I'd be honored if you wanted to hire anybody from my firm.

He said, what about you? Well, and that's exactly right. What I didn't know is Bill had contacted the firm in the past because he wanted to hire me. And the firm basically said, no, we got plans for this guy. You know, we're going to keep them. Then he contacted me. He said, well, I'd like to hire you. And I said, well, I got, I got a pretty good gig here. You know, I'm a partner in the CPA firm doing well. Family is all here. My life is all here. His next comment, I'll never forget. He goes, well, that's okay.

I'm not even sure you could really handle it. But why don't you come down and take away? Yeah. I said, why did he said, why don't you come down and just meet everybody and see what you think? Bill, I've met everybody. I've been coming down there twice a year for years. I think I know everything that's going on. I just come down anyhow. Anyhow, long story short, it took me about two seconds to say yes. You basically come in here and figure out how you can provide value to Don. And assuming you do provide value, then you can basically write your own script of how it'll go through the year. So, you know, I did everything from working night shift on the trading desk, doing tax returns, stuff and statements. You know, I've done everything and anything that you could basically do in this industry down here. And eventually, we had to come up with some kind of plan

to continue the firm. Most of the firms that were started in that day and age, they had very strong personalities, the founders of these firms yeah I mean Bill is no exception I mean if you've ever met Bill you would actually you're totally mesmerized by the man he's extremely intimidating he's got a handshake that'll bring you to your knees it's like a bear grabbing onto your hand, but you have this instant comfort and confidence in the guy that you just can't get over. It just doesn't happen with other people, but with him, it's that way. Anyhow, so we came up with a transitional plan where it was supposed to be a 10-year process of me taking over the firm. He would stay making sure everything went smoothly. I always viewed Bill as a mentor. So it was kind of a

natural fit. And then five years into it, he accelerated the plan, thought things were going well. What we didn't know at the time was he had diagnosed that there was something not right with him. And he actually went and got tested and determined that he had early onslaught Alzheimer's, which he knew about it before we did and didn't come clean about it until, you know, after we accelerated things and transitioned through. And it's worked great. Everything's gone well. He's still, he's living on the West Coast now with his wife. And, you know, he's got some caregivers that come in to help with things. And he's physically still just a strong individual man, but he just doesn't have community skills at this point.

He's 89 years old. Yeah, he put in a good run. Yeah, he's had a great run, and he's happy. You know, you hear about some Alzheimer's patients that can kind of act out with anger and have different spurts of personality, but he's just a very happy guy and smiles and, you know, he still wants to shake your hand and yeah and it testament to the systematic nature to have right he's out and the program keeps running right so it's not yeah and that was always asked well what's the next process for you when you know you step aside and i think it doesn't really matter? The system's going to run with or without me or without anybody here, as long as there's people there to push the keys on the computer when the time comes it needs to be done.

The other thing about the systematic nature, which is very timely right now, is given what's going on in the markets with the bank failure and things of that nature, emotions really want to take over. It's kind of nice to know, even if it's bad or positive, that I'm not having to make the decision here. The computer is basically dictating what we do. And we have some testing behind us we got over 45 years back there and uh so we know

that the system will adjust the system will you know take care of whatever losses are occurring now and we'll turn it around and eventually make back those losses and get to new highs. And talk to us, is that the first trades for clients were 45 years ago? Yeah. Wow. Over 45 years ago. Right. That's got to be one of the longest track records. I think it's 50 years next year. Wow. Yeah. That's right. If not the longest, right up there in the running for. Absolutely. Absolutely. And at one time, John Henry and Bill Dunn were the two largest CTAs in the world. Yeah.

That was a long time ago. And now we're way down the list, but that's okay with us. But that seems like you got, that was sort of by choice, right? It seemed like at the time, and maybe it wasn't a conscious choice, but like, hey, we just do what we do. We're not trying to institutionalize and go after all this pension money and all this big, right, all that. Even not to say you're not institutionalized,

but there's kind of two paths of like, hey, we're just going to run what we run. And they're like, we're going to polish everything and make sure we can get everybody's boxes checked. Right. So I look at it as you're either an asset gatherer or you're a moneymaker. Yeah.

So, you know, our goal is to continue to make outsized returns because we don't charge management fees. So there's no reason for me to gather assets just so I can collect an asset-based fee. So what I've seen in the industry, especially over the last 30 years, 25 years easily, is the industry has become less volatile. So everybody's dialing down their volatility because they don't want to have bad results, right? Investors remember the bad stuff. They remember the outsized losses. They don't remember that you recoup that and you got to new highs over and over and over. So to offset that, people tend to lower their volatility. So they reduce the downside volatility. We've tried to do that, but without, I don't want to give away the upside.

So we came up with this adaptive risk profile, which we instituted in 2013, where instead of targeting, you know, in the industry, when the beginning of trim following, let's go back a little bit farther. In the beginning of trim following, everybody always set a risk target, either volatility or bar. And it's always the same all the time. And you just adjust to get back to that risk target. And in the beginning, you didn't even vol adjust. So you set up a risk target that was look back over 10 years. And then the risk would actually change with the volatility of the markets. The idea being, as the market becomes more volatile, more trends come into play, and you tend to be making more money.

So you want to have more risk on at that period of time. So this is like Jerry Parker at Chesapeake. There's nothing wrong. I mean, I hate it when people say, oh, that's not the way to do it in this day and age. You know, you've got to vol adjust your performance. Well, there's two different ways to do it. You know, you could either vol adjust or you don't have to vol adjust. And both of them are acceptable. And I understand the argument for both. Now, we do vol adjust.

But we felt like we had to because that's what investors were looking for. So it really cut down on your population that's going to invest with you if you're not going to be more institutional in that way. What we did to offset that was instead of having a steady target, a risk target, and adjusting to it every day, we now adjust the targeted way of measuring the market environment and then determining how our portfolio lines up to that environment. And if it's a positive environment, we increase the risk slightly. And it's not risk on, risk off. It's not, you know, we aren't throwing a switch. But it's a small adjustment that occurs each day,

several basis points. Sometimes it might be 10 basis points, but most of the time it's one or two basis points. And you're either increasing the risk in a good market environment and you're decreasing the risk in a bad market environment. And so what this does, it came into play for us. So for clarity, good and bad being trending or not trending trending or not trending exactly so when i say good or bad in our view of the world yes exactly

other people like you mean an up market no not necessarily yeah so where this really came into play from us or what brought the idea to us is when you started getting into the zero interest rate environment and there's no volatility everything's sitting in zero but you know what trend followers were doing that are follow adjusting they're loading up on their short yeah term markets short-term interest markets and you're looking at at that going, why in the world are we doing this? And that's where we came up with this idea that environmentally, we know when it's a trending market, we know when it isn't. We got things we could calculate to determine that. And then we can adjust what we really want to do risk-wise given those environments. And that's on a per market basis? Well, it's on a portfolio-wide basis.

That is then everything we try to do is we try to keep everything in a, as robust as possible. So everything we look at, we do as a portfolio as a whole, of course, everything gets dictated down to the individual market levels so whatever adjustment you make for the portfolio has to be encompassed in everything right so you're not looking at corn i'm like hey corn's super trending right now we're gonna increase the risk budget in corn no no so the way i've seen that done with mixed results in the past. Absolutely. So mostly that's kind of handled by the strength in a market. If the market's really trending, you're going to get a higher strength in that market than you would in another market.

And the other thing we do is we don't tailor anything in the system to markets. We use the same, whatever we come up with, every market is trading the same parameters, the same methodology, the same everything. That way we're trying to prevent ourselves from getting in a data mining situation where you fool yourself. I mean, so think about it.

Everything we ever look at when somebody brings us an idea or brings us a system is, is it data mined or not? And 98% of the money is ours, everybody that works here has the significant amount of their net worth is in the funds. We're trading exactly the same system that our investors are trading. So it's not in our best interest to fool ourselves. We want to be as robust as possible and make sure we haven't data mined the system. And so back to the adaptive risk, the only other thing I wanted to bring in, by doing this, what we found is we were able to decrease the downside volatility by about 25% without giving away the upside. Actually, the upside is a little bit enhanced because you don't go down as far each time when you have the recovery right yeah and that's always the trick right if you hear vol

targeting my brain immediately goes to like upside capping like they're kind of the same one in the same thing so that's the trick how do i keep that classic trend following right that dunn made his name on right of like hey when these outlier moves happen i knew right i knew i saw silver rallying whatever back in 01 or something i knew if i pulled up the results that dunn was going to be at one of the top of the tables in terms of like capturing that upside yeah i think over time we saw oh there's was some downside in there i actually absolutely yeah and i actually this was way early in my career i was remember looking at your track record like who would still be in that after this big drawdown right and you guys still had a 800 million or a

billion or something at the time i'm like who is still in there and then someone's like it's all their own money it's amazing right if you if you put 10, if you put in 100K and they ran it up to a million bucks and you go from a million back down to 600K, like you're still up 6X and quite happy. So whatever, you don't care about those drawdowns as much as if you started from scratch. Well, and that's, and so that's the problem with 2007, 2008 scenario, right? When all the trim followers made a ton of money, everybody had, nobody was allocating the trim followers prior to that. Now, all of a sudden they see, oh, maybe these guys have a place.

So they all pile in there at the top. And then you have mediocre performance for a while and i'm not you know people talk about the lost decade of trend following i don't believe that i mean we made good money during that time frame but we weren't as good as the s&p maybe yeah we're about the same so people are like well this isn't doing what i wanted i could have just left my money in equities why am i doing this so they they get out again. They have a bad experience because they bought at the high. They get out at a time when they're disappointed. So they go away mad. And then we have what happened last year, which I will say started in 2021 through 2022, the inflationary trade.

And now people see the value again. The difference is what I'm seeing now is if we have a bad month, like January, for instance, where the industry as a whole didn't, but we did. We had a bad month all of a sudden i'm seeing money coming in which never used to be that way in the past it was always you have a bad period man money's going out the door yeah so that's been a little pleasant experience that maybe people are starting to understand where the value is in this. And what I keep telling people is you've gone through this inflationary trade period. It's going to switch from inflation to recession.

So there's going to be a lot of money to be made in the recession trade. There's going to be a lot of money to be made in the inflation trade. But that transitional period in between is going to be made in the recession trade. There's going to be a lot of money to be made in the inflation trade. But that transitional period in between is going to be hard. It's going to be tough on trend followers because they're two opposite trades. Preston Pysh, And you won't know when the one necessarily ends and when the one begins. If you knew that, you'd just turn the switch. David Gardner, And from experience, what I've seen is when you go into these recessionary periods, there's usually like three shoes that drop. And the third one is the real one. Yeah.

Yeah. The first two are kind of the head fakes. I want to know who you're hanging out with that has three shoes. Yeah. But part of me wants to say those people just missed their end of year rebalance and were putting their money in may be the tipping point to go into a recession. Or it could be like the early 70s when I don't remember who the Fed chairman was that was there before Volcker. But, you know, I'm old enough that I was around. You know, they took their foot off the accelerator. They took a pause there early on because the economy was faltering.

And that's what really set the inflationary or stagflation into existence and pushed it up to where, you know, Volcker had to get to, you know, somewhere in theens on short-term rates to get it under control. We could be looking at the same thing again. I mean, Powell is sitting there now trying to decide, does he pause? Yeah. Or does he go in at a half a percent? And right now you're seeing bonds rallying like crazy over the last two days. Crazy. I mean, it's in the 99.9th over the last two days. Crazy. I think it's in the 99.9th percentile of two-day moves.

And has anything changed in the world of inflation? I suspect not. I mean, they're talking about bailing out banks. Yeah. Which is extraordinarily inflationary. So it's going to be interesting. It's going to be very interesting. So talk a little bit about you back in the, right, this tracker back into the 70s. There's been plenty of great years, like 22. What have you seen in terms of the similarities in terms of like, were they all, for example,

10-year notes drove the profits and 90% of those? Is there any similarities between all those good years in terms of which markets were moving? And then any similarities and differences in terms of how much the trends were? I would say that we're a little bit better at capturing a longer duration of the trend today than what we were back then. I mean, you got to remember, 95 was probably a better year. But the markets were different then, the system was different then. You weren't trading financials. It was more commodity-based back in that day. So what I will say is in every one of these environments where you're making a

lot of money, you could point to one or two sectors that drove the performance. A lot of times it's energy because that's one of the most volatile markets and because of the world economies of things, that's the market that tends to be involved in every one of these outside returns. Then you get some currency stuff. And sometimes you get some currency stuff. And sometimes you get geographical.

I can remember years where we made a ton of money back in the late 90s, early 2000s, driven off everything that was in Asia. JGBs, topics, Osaka, Japanese yen, all trended and all made huge amounts of money. That was like the Asian debt crisis, like 90-ish? Yeah, exactly. Whatever it was, 90-ish? Exactly. Yeah. Yeah.

Which is odd for you to say that because I think most, whatever you want to call them, analysts or people like me would say, especially detractors would say like, oh, they just generate all their, not you in particular, but trend followers, right? 90% of the returns come from interest rates and bonds. Well, but you know why that is? Because that's the largest number of markets that we all trade. The most liquid, the most you can access with billions of dollars. Absolutely. So we allocate the equal amount of risk to every single market we trade. So if you add it up, the number of interest rates we trade is in relation to everything else. It's the largest percentage that we trade.

So that sector is going to probably most of the time make more or lose more than the other sectors. Right. But that kind of begs the question, looking at these last two days, can you have too much bond exposure at the cost of proper diversification? If it's worked over these last 35 years, is it going to work over the next 20, especially if we have rates gradually or generally rising over that period. Well, so I would say the interest rate environment probably drives 90% of all the other markets. I mean, it definitely influences the currency market. It's definitely going to influence all the commodities because all the commodities are priced in U.S. dollars.

So the interest rates there influence the U.S. dollar. That influences all this. We're always looking at the cross-market correlation of everything we trade. The more markets that are like as interest rates are, the higher that correlation is going to be. Therefore, the less risk we're going to have on for the portfolio as a total. And one of the things we've done recently is we're trying to, when we add a new market, for instance, we look for markets

that are uncorrelated to what the portfolio is. So we're less likely to add another bond market than we are to add another metal or add another ag of some type, usually with some kind of geographical diversification, because that's what brings in, I mean, we're only looking at the numbers, what would make something more diversified than what we currently have. And how many markets are in the portfolio now? You mentioned back in the day, Bill had 12. Yeah. And now we're up over 55. Yeah. And I think we just added a market last week, iron ore or ferrous metals. We'll probably

add canola this week. I mean, we're looking at adding some markets because we know that diversity helps our performance. But here's an interesting one. Do you remember back when, oh gosh, it was probably right after the financial crisis where everybody was talking about, oh, the only reason CTAs make money is because of the carry in the interest markets, right?

Right, because they're holding T-bills. And so you can't make money back that out of their performance. And that the CTAs never get short bonds. Well, I mean, you had a 40-year bull market

in interest rates. We're probably going into a prolonged bear market in interest rates. We're probably going into a prolonged bear market in interest rates that CTA should do just fine on. Yeah. But Roy Niederhofer has a paper out that's like six years old now, I think, showing that it's not going to be a mirror image. No. Because you do have to pay that carry. There is a carry. and if the interest rates get high enough you're not going to be a short if you get short and at some point you're going to get

long but the long is going to be much less i mean you're going to make money on that roll yield so right but yeah i think that's important for people yeah even if it's a tail it was a tail win this whole time that doesn't necessarily mean it's going to be a headwind moving forward. Exactly. Yeah. It doesn't mean the flip side is going to be totally true. That's going to be an equal tailwind. Just now you're short instead of long, but.

So you talked a little bit about the invest or we were talking about the markets all these good years followed by you mentioned briefly some bad years following the good years do you think investors what have you seen over the years in terms of these investors are like it's funny you asked because the question was put to us by one of our larger investors. You know, you had a great year. What is the expectation? You got to have a bad year, right, to bring it back down. Yeah, right.

So you don't average 80% a year, right? Yeah, reversion to the mean. And what we've seen is there's no correlation from one year to the next uh in trimbo i would have expected to see a little auto correlation one thing we do see because if the assumption is that you've made money over the long term so there's one thing you know that if you had a bad year there's no way you could consistently be making new highs. If you had a bad year, you know, the next year is going to be good. Because otherwise you would have never made it to new highs. So there's, if the assumption is that the line is going up the chart,

you're rising up the chart, then a bad year has got to be followed by something better. If your performance had been that it was going down all the way across, then a good year would definitely be followed by a bad year. So there's no way to get back to that performance level without that happening. I think that's what drives a lot of investors crazy about trend following. More technically speaking, that's what drives a lot of investors crazy about trend following, right? More technically speaking, there's not a high persistence of returns, right? So they're used to other markets where, oh, a good stock, a good quarter is followed by another good quarter by another one until there's a sharp drop. Because it's driven by something

like a great management team or a great product or a great technology. This is just price data that's being analyzed for trends. And we're not trying to predict the future. We're not dictating what's going to happen next. We're just following along, which is another thing that investors can't understand. If you're doing trend following, you have to be willing to accept losses. It doesn't work unless you're willing to absorb losses because there has to be a point in time. If every time the price moved against you, you got out of the trend, You'd never get the trend. So you have to be willing to accept a certain amount of reversal before you exit the trade. And that, by definition, is trend following.

And if you're not willing, if you can't stomach those bad performance periods, then you shouldn't be investing. Right. But you have hundreds of billions that are going the opposite way of like, no, we can create a better mousetrap. We can go shorter term trends. We can do mean reversion. We can add. Yep. So what happened there? You had a number of people in the industry. I mean, a lot of people I'm competing with that during this period after the financial crisis, I mean, I'm looking at their numbers. I know that something's changed.

And I look at markets where they're making money and I'm saying, wait a minute, you're not trend following if you're making money here. And all of a sudden, no drawdowns, blah, blah, blah. Now we get into a year like 22.

They make 10 or 12%. Yeah. I'm like, what's that about? I mean, that's not trend following. If you made 10 or 12% this year, you were not doing trend following. I mean. But that's an interesting philosophical. Were the investors happier, right?

If you had less drawdown back then and then just a small gain when trend killed it, is that institutional investor happier? So now you're talking about multi-strategy, which I'm not saying there isn't a place for. I trade one internally that we're in the process of developing that we will eventually come out with. And I think there's a real value in that, but don't tell people you're a trend follower. Yeah.

Don't put trend following on the cover. I mean, there's one particular, you know, competitor out there that was knocking the ball out of the park. Yeah. And all of a sudden, you know,

they're down huge over the last two years because of reality, they're running global macro. They're not running trend following. Yeah. But they portrayed themselves as a trend follower and they have great credentials. But it kind of leaves a bad, it's bad for the industry because those people that invested with them are not going to want to go out and get another trend follower because they think this is what could happen. Yeah. And then I'll extend that even a step further of people invest in managed futures. Right. Which could be a discretionary ag trader or an energy trader or whatever that doesn't didn't have the great last year. And then they say, oh, yeah, I tried that. But the trend follower i got into didn't even have a good year last year yeah like well no you were in a managed futures

program that wasn't a trend follower maybe they're short options or who knows what they're doing but there's a lot under yeah there's a lot under that managed futures umbrella which isn't necessarily trend yeah um but so one of the things i do here is if anybody invests in one of our funds that we run internally, they can't invest until they have a conversation with me. At which point I basically point out all the things that can go wrong. And, you know, make sure that they're comfortable and I have to make the decision if I'm going to let them invest. Right. So it's not their decision. It's my decision.

And then they have the final decision if they want to actually do it or not. And there's been people that after that conversation, they say, let me think about it. I'll call you back. And I never hear from them again. Right. Which is fine. You did your job. They did. Right. Which is fine. You did your job.

They did their job. Everyone was comfortable. But what's great about it is when things aren't going well, I'm not getting phone calls saying what's going on. I thought this always made money. Right. Yeah. You promised this. I didn't promise anything.

There's no promises and i always say do you think at some points the long track record track record has actually been a hindrance to raising money and getting new investors because right you're all your warts are there to see for the world right 40 years of warts whereas the new young model comes out and like hey no warts here so this is one of my gripes. So, you know, I have one of the largest drawdowns for the longest period of time in our track record. Most firms, when they go through a bad period like that, they relaunch a different strategy under a different name and start over again, right? Well, guess what I have that they don't have now? I have a track record that's going to be moving in on 40 plus years, 50 years. They don't. Now, all the bad stuff is there, but the farther you get away from the bad stuff,

the less people tend to focus on it. Yeah. But they can never say tend to focus on it. Yeah. But they can never say that they didn't know. Right. But I see it all the time, right? And statistically, right, if you wanted to create a really high Sharpe ratio program, right, you'd go all negative skew, maybe some option selling, right, which is going to have this perfectly consistent gains until it doesn't. But in the meantime, you're going to have this super high sharp. So to look at a program like yours, like, oh, I don't like the MAR ratio because that big drawdown. I don't like the sharp because of it.

Right. And we haven't even gotten into that. The sharp is going to penalize you for these big upsides over the track record, too. So whatever. We're preaching to each other's choirs here. But right. It's just an odd. It's an odd. You'd think in a perfect world, in a vacuum, investors be like, I want the program with the best long-term track record. I want to see as long as possible. But I think most investors will fool themselves like, well, I just want to look at the last five years.

I want to look at, does it matter to me that they've had 40 years of innovation? That's really what it is. Forget the numbers and performance. It's a track record of 40 years of innovation. Yeah. So think about when Bill started Dunn Capital, there wasn't even a regulatory body in place. And that's how long ago it was. They didn't even have a regulator for this product. And Bill was actually instrumental in the whole idea of having the NFA, a self-governed body that then reported to a government. And they didn't report to the SEC back there. They reported to, you know, I have no idea, but another branch of the government.

And everything went pretty damn smoothly over the years. So I bet he, we actually had a broker that worked for us once that predated the NFA and it was a hassle because we had to send them, she had some little pink card or something from whatever. And we had to send that to the NFA and be like, no, she was registered with whatever was before you. Yep. So, you know, Bill never took the Series 3. He was grandfathered in. He was around before they had a Series 3. I love it. It was great. You can't argue you didn't know what he was doing.

I'm going to come back a little bit to the, or I was just had a comment on the vol targeting before. Do you think that's a... And back to, I want to blame all you nasty investors that are listening. Do you think that they... It's their own fault, right? They've demanded the lower volatility, and the managers have come up to meet them where they want.

Yes. So to me, they're like, oh, we'd wish it was lower volatility. Then everyone lowers it. And now they complain that the volatility is too low. It's like a chicken or an egg. I don't know how many, I don't hear people complaining about it. But I think people are becoming more educated about it because the one thing they're starting to realize is the reason you want to allocate the managed futures is the non-correlation. So by adding the managed futures volatility to your portfolio, you actually reduce your overall volatility. So if you go into a low volatility manager, it just means you have to move a lot more assets to that manager that gets the same bang for the buck.

What we're finding is people like our volatility and some of the higher volatility of other managers. Yeah, it's capital efficient. Exactly. I mean, all I have to do is move over a little bit and I get a really good bang for my buck when I need it. Right. So 2022, when everything else, my bonds are down 20%, my stocks are down over 20%. But guess what? I had Dunn who was up over 60% or I had Mulvaney who was up over a hundred percent because, you know, I got more bang for my buck

there. Of course the reverse can happen too. Yeah, yeah, yeah. Your stocks are doing great and we're in a drawdown. And Mulvaney's drawdown is going to be worse than mine just because the systems are designed that way. Right, a little higher octave. And I'm going to be worse than some of the other people out there. There was a great chart, I think it was welton years ago saying how much do you need to allocate and per the vol and everything there was like basically the allocations most investors have to trend it's like five percent five to twenty percent like the returns

you need at five percent to make a difference are like two hundred percent a year or something yeah so they're way under invested even at a high vol level. So if you're picking a low vol manager, you're insanely underinvested to get those benefits. So here's the other thing we find is most people look at it as a percentage of their AUM. And what we try to explain to them, no, it's a percentage of your risk you need to allocate. So we know by stats that statistically, the efficient frontier would be 20 to 25% of your risk allocated to a trend follower. Now, you could get that one or two ways. You could go into a load mall manager and allocate 30% of your assets, or you can go into somebody like me and allocate 10 to 15% of your assets. And you get that same risk allocation.

And what I find now is more and more people seem to want to come into our fund and our fund gives them an option of levering a little bit and they all want to take the leverage. Yeah. Because, hey, I'm doing this because I want the volatility. So give me more volatility. Although in my experience, they want that and they do that.

And then when the bad volatility comes, they don't quite understand that downside. Well, that's why they have the conversation with me. Good. You have to explain it well. Yeah. have to explain it well yeah a bit of a finer point but we were talking off screen a little bit about some of these newer replication products and so like i could go to a bank and get one of their risk premia and get the trend risk premia right so what are your thoughts been doing this so long and creating this portfolio? Like, okay, I can replicate what Dunn's doing at this ball with these 12 markets.

Yeah. So I, so I'm, I'm kind of, I don't pay attention to a lot of what's going on out there. Yeah. And it goes on even one who's actually doing it. But like,

if I just said, I'm going to try and replicate what you're doing. Yeah. So I wasn't even aware of this was going on until somebody brought it to my attention and in doing so they sent me the materials for this etf and i started looking through the materials and stuff and first off it's an etf so it's not governed by the nfa i don't know who looks over the marketing die i assume the SEC. And they get a lot more leeway, evidently, in marketing documents than you get with the

NFA. But first of all, everything they presented is simulated numbers. Nothing's real, which means that it's all been backtested. So they basically took a data stream and said, OK, what do we have to do with the markets to get this same performance over the same period of time? We want it to be 90% correlated. So they come up with, I mean, it's not that hard. It's like the definition of replication. Like basically, I need to copy this index with some other products.

Which is real easy historically. Yeah. Not so much live going forward in real life so there's two things that are going to happen one is it's all going to go just fine when the markets are behaving as expected you're just your routine market environment they will probably be able to pull this off to a certain degree there'll'll be a little bit of divergence from time to time, but they'll probably be able to pull it back in. To our point earlier, besides these guys who mistakenly had trend on the book, cover their book, if you were anywhere near trend, you were in some range up here. It was pretty easy with any sort of trend following model to make money

last year. Exactly. And trend following is not rocket science. But to do it with just a few markets as opposed to the whole gambit, the reason you have this diversified is to control the risk. And so I think what's going to happen is when something unusual happens or environment like the last two days, today and Friday, it'll be really interesting to see how those funds do in that market environment. Because with 12 markets, it's a lot harder to control the risk as it is with others. And I would imagine that a lot, those 12 markets are going to be very, very large, very, very liquid markets. One of those markets moves against you in an excessive way. You know, that can be an interesting situation. But I think that my counter would be like, all right, cool.

You guys added iron ore. It rallies 600 maybe it gives 60 bips to your yearly performance right so that would be my counter of like yeah you have all these diversifiers but what do they really do in the grand scheme of things yeah i think it helps you more on the downside okay right so i think you're adding the maybe that 60 bips took away from this six percent loss on the downside. Okay, great. So you're adding maybe that 60 bps took away from this 6% loss on the year and get 10 of those. I had allocations to everything else that got reduced

to do that allocation to that market. So the exposure is more balanced than if you have 12 markets the exposure is going to be very intense in each given market and especially some of those get right if you have a bank running one of these that has a couple hundred billion in it or something like in one of those markets and they need to get out that

causes its own problem well yeah that i i you know i'm assuming that they're only trading the markets that have the highest volume, and they must have some kind of caps in place of how much of the market they'll be representing. I know that we have very hard caps, but we won't be any more than a certain size of any particular market. And what's your thoughts on that size overall, right? Over your 30 plus years, you've probably heard a lot of times trend following is too big. That's why it doesn't work anymore. Well, I think what's happened is trend following has changed the way operationally we work because of that exact problem. So in the early days,

you traded the whole position at any given time. So if you were long, you were long the whole gambit. And then one day you came in and you decided, I want to be sure. And you traded the whole thing. So back in the 80s, well, even when I came here in 97, I can remember getting calls from the Wall Street Journal saying, you know, we understand that a large hedge fund in South Florida was trading the 10 year. was at you. No comment. But it was. We were 70 to 80% of the volume

in one day in an interest rate market. That's huge. That can't happen today. Were you worried at the time of the floor traders knew it was you placing the order and some of the locals got in front of it? Oh, there's no question, but that's just the price of doing business right and guess what all

the traders love you yeah exactly you know they see you coming and you know they uh they they make money off of that and what what are your thoughts on over the years whether it's become harder because of all the computerization and automated orders routing and prop firms doing scalping right basically once the floor went away has become harder or easier or no difference to you guys um it's different yeah it's better and it's better in a number of ways um i think it's a little more frustrating in some ways i mean so you had the floor traders that were robbing you before now you got the high frequency guys that are robbing you now so i mean there's there's a reason why ken makes so much money every day because he's the market maker and he's going to get paid for

doing that. Yeah. And for sure, someone inside there is running a model that they believe represents, right? 85% of the flow of all the trend following space. And they see all the data, so it's not hard for them to come up with that. They can modify and adjust as needed. What's the future look like for TREND, Bright? Well, I think what I was talking to you about earlier was you have this market environment where we've made a lot of money in what I would call the inflationary environment and at some point it's going to switch over to a recessionary environment which will also be great for Trenton don't get me wrong it's going to be outstanding but getting from the inflationary trade to the recessionary trade is going to be a difficult environment

for Trent Powers. And like what's happened with this bank situation, you know, that could be a head fake to a recession or it could be the first step into a recession. And nobody knows that for another couple weeks right or might take a couple months and what is trim falling going to do in that meantime i mean right now i would love it to just kick right back into the inflationary environment and uh you might have to get out of those short bonds. Yeah, right. And the market movements that we're seeing right now is most trim followers are definitely going to be reducing that exposure. Which we argue is maybe part of the rally in bonds past few days is them reducing that exposure.

Exactly. I mean, the trim followers are pushing this market now. There's no question about it. But it's also people that have fear and are buying into the bond market and getting out of equities because of fear of recession. That's also driving it. So there's a lot of forces driving the interest rates down right now. And if inflation is truly here still, which there definitely wasn't anything in that employment report to tell you inflation was over. We're going to put some numbers out this week, which it's funny that I could care less. I mean, numbers mean nothing to me because the system will dictate. It's all based on price. But for the first time, I'm actually interested to see what the inflationary numbers this

week come out as. Yeah. And just personally, everywhere you look, prices are going up. There's no... Yeah. I don't see anything slowing down. We were at the conference in Miami. That place was rocking.

Nobody was worried about spending or pulling back. I mean, restaurants are just ridiculous what it costs to go out for dinner yeah and yeah i don't know what it's like where you are but in florida everything is packed i mean you cannot get in a restaurant without a reservation and you have to look weeks in advance to get them yeah same they need to start a policy down here that locals always get a table, and we the snowbirds are the ones that don't get tables.

I got, when you're pulling into the Orlando airport, if you go off to the right, whatever that road's called, and there's a gas station there, I'm filling up the rental car, it says like, this was years ago, like $2.75 on the sign, filling it up, and the price was enormous, and it ended ago, like $2.75 on the sign, filling it up. And the price was enormous.

And it ended up, they charge $5.75 if you don't have a Florida license. Or if you don't enter your Florida zip code when you put it. Oh, that's amazing. Yeah. So I started arguing with them. And I'm like, I grew up in Florida. And I'm like, over the little speaker thing, I'm hitting the button arguing with the guy. And he's like, whatever,

get out of here. I'm like, all right, I'm going to miss my flight, but that's why we have bars on the windows. Yeah, exactly. Well,

thanks, Marty. That's been fun. We'll come visit you down there in Stewart next time. I'm in Vero. Perfect. More than welcome. We'll get it done.

Wide headquarters of Dunn Capital. Yeah. Tell everyone where they can find you. What's the website? It's just worldwide headquarters of Dunn Capital. Yeah. Tell everyone where they can find you. What's the website? It's just Google Dunn Capital. It works. Awesome. Thanks so much.

Best of luck with everything. We'll talk to you soon. All right. Take care. You've been listening to The Derivative. Links from this episode will be in the episode description of this channel. Follow us on Twitter at RCM Alts and visit our website to read our blog or subscribe to our newsletter at rcmalts.com. If you liked our show, introduce a friend and show them how to subscribe.

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