In Mebane Faber’s paper, “Quantitative Approach to Tactical Asset Allocation,” he builds a quantitative market-timing model that employs a trend-following strategy with built-in risk management. Specifically, he utilizes a moving-average-based trading system which is the most commonly used trend-following method. The system rules are simple and are as follows: Buy Rule: Buy when monthly closing price > 10-month Simple Moving Average (SMA) Sell Rule: Sell and move to cash when monthly closing price is < 10-month SMA At most, this system will rebalance monthly if a market is range-bound. However, when using the 10-month SMA (near equivalent to the 200-day SMA) as a trading signal, systems generally have a propensity for less turnover than other actively managed strategies. The converse, and one basis for comparison, of an actively managed strategy is a passively managed system. Faber’s research compares the model against a buy-and-hold (i.e. long) allocation to the S...
Price-based perspective on market behavior