Trend Following in Crypto Markets

It has been a while since I’ve updated the blog. These days I spend most of my time writing for subscribers of my newsletter but I’d like to get back to writing publicly again. So, to launch myself back into public blogging I thought I would write about Crypto and how classic trend following principles can be applied to these new assets.

For long time readers or those familiar with trend following, aka momentum principles, you know well that trend following has been shown to work over all kinds of diverse markets; equities, bonds, commodities, currencies and many other assets. What I primarily mean by ‘working’ is that trend following principles can deliver higher risk-adjusted returns compared to traditional buy and hold.

With that said let’s take a quick look at how you can use a classic trend following strategy to trade the biggest Crypto currency, Bitcoin. The 10 month simple moving average is a simple but yet very effective tool for lowering risk in a particular asset class. The strategy would hold the risk-asset when it’s price is above the 10 month SMA, and hold a risk-off asset, e.g cash, when the risk-asset’s price is below its 10 month SMA. Let’s now apply the 10 month SMA strategy to $BTCUSD. Below is a monthly price chart of $BTCUSB with the 10 month SMA overlayed on top of the price.

As you can tell just by eyeballing the chart, using the 10 month SMA as a risk management filter would have allowed you to capture a lot of the upside while avoiding a good deal of the downside. Let’s now quantify the results of this trading strategy. The strategy uses only the month end prices and only trades at the end of month, at the close of trading on the last trading day of the month. When the price of $BTCUSD is above the 10 month SMA the strategy is invested in $BTCUSD, and when the price of $BTCUSD is below the 10 month SMA, the strategy is invested in US short term treasuries. The results of this approach are shown below compared to just buying and holding $BTCUSD.

And this chart shows a comparison of the drawdowns of both strategies.

The simple 10 month SMA strategy had both higher returns, lower drawdowns, and thus higher risk-adjusted returns compare to buy and hold. Below is a table of the annual and compound returns of the TREND strategy compared to buy and hold. Not bad for such a classic, simple trend following approach to Crypto.

The results are really no surprise to long time trend followers. Using a trend following approach is an effective to way to manage risk and capture most of the upside returns in a very volatile asset class.

As it turns out, it is possible to do a little better applying some more advanced techniques and risk management. And it can also be applied to other Cryptos. For my subscribers to the Economic Pulse and Quant Pulse services I have been offering a Crypto Trend Following system since January 2022 (a little over 2 years of live trading). It is called CryptoPulse and the models we use are daily models and focus not just on BTC but also other Cryptos. Since going live in Jan 2022 it has beat buy and hold handily as expected. Below is a snapshot of the performance of the models contained in the service.

If you’re interested in taking a look at the CryptoPulse service here is a link to the about page for the strategies and how to become a member.

Note: before I finish up this post I do need to say a word about trading Cryptos. It is definitely not as easy as trading stocks. Or at least it hasn’t been until 2024. In 2024 with the introduction of Bitcoin SPOT ETFs, such as IBIT and FBTC, it has become a whole lot easier and is now accessible and pretty much any broker.