The case for trend-following is well established, yet, given the fluctuations in returns when there is no crisis, it is worth revisiting fundamentals and discussing the rationale for this hedge fund strategy. Meketa, the pension consulting firm, produced a white paper on the topic at the end of the year that provides some new insights.
One, the dispersion between trend-following fund returns is significant. The difference between the best and worst can be over 25%, and the difference between the 25th and 75th percentile averages around 10%.
Two, the difference in dispersion will increase with the extremes in equity returns. When market dislocations are greater, there will be greater dispersion in returns.
Three, the Sharpe ratio can be smoothed and increased if an investor chooses a portfolio of managers. It may be hard to say what the right number is, but 4-6 seems to provide the benefits of smoother Sharpe and less dispersion in the return-to-risk trade-off
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