From a money management perspective there are two different trading systems. The normal way works against cash. If there is an interesting trading chance showing up, some part of the available cash gets invested, which means here, put into a trend trade. The position gets held until the stop loss signal occurs or any other sell signal triggers the sale.
But then there is another trend trading method. Instead of using free cash for buying a new position, only an exchange of something currently in the account takes place with a new trading opportunity. Basically the trader only switches into more promising trends from ones that seem to be exhausted.
This trend switching trading system has one big advantage. It doesn’t need a stop loss method, at least not the direct and hard sell stop order coupled with a price limit. The moment some held position gets weak and would normally trigger the stop loss, the accompanied trend also gets severely damaged and now there should be other trend chances that look much more favorably. Executing the stop loss gets replaced with switching into a better looking trend.
While the former trading method, hitting a trend, is more reasonable for a trading strategy that searches for new trend starts, the second one could be used for longer running or less clearly shaped trends. Trend starts that result in clear and strong trends are often a result of news or a breakout. Additionally they are marked by a higher trading volume, which again draws more attention to this start of a trend and ignites a little self fulfilling prophecy. A momentum movement has been born and a nice trend has emerged.
Switching from one trend into another is more like the basic investment style, switching the higher valued position against a better value. As said above, this trading style seems more appropriate when there is no clear entry signal, like a breakout of a base or some breaking news. It seems to be suitable to the many trends that linger on the edge of being no trend anymore at all.
One candidate for this strategy seems to be ETF trading. Due to their averaging nature ETFs tend to move more randomly than some of their tracked stocks. Another plus is the ability to short them and to exploit downmoves. This could be done of course also with single stocks, but there is always the risk of some huge loss caused by a merger.
Perhaps some ETFs are suited even more for trading a downtrend by shorting than anything else. I am talking about the rebalancing on each day’s close that happens for short ETFs that reversely track a commodity or an artificial basket. For these synthetic ETFs a downtrend is statistically preprogrammed. ETFs that double or triple the movement of, e.g., some exchange traded financial instrument have the same astonishing characteristics to lose value over time.
This is of course the opposite of what the ETF investor wants. Synthetic ETFs are for traders only and they may be the vehicle for shorting trend systems.
