Economic Trend Following

Is an investment strategy that follows trends in economic fundamentals (rather than asset prices) an attractive alternative to conventional momentum? In their January 2024 paper entitled "Economic Trend", Jordan Brooks, Noah Feilbogen, Yao Hua Ooi and Adam Akant test a strategy that shifts allocations to equity, bond, currency and commodity futures/forwards series based on trends in five important global economic fundamentals, as follows:

• Growth - 12-month change in GDP growth forecast (increasing growth is good for equities, currencies and commodities, but bad for bonds).
• Inflation - 12-month change in CPI-based inflation forecasts (increasing inflation is good for currencies and commodities, but bad for equities and bonds).
• International trade - 12-month change in local spot currency exchange rate versus an export-weighted basket (increasing international trade is good for equities, but bad for bonds, currencies and commodities).
• Monetary policy - 12-month change in 2-year bond yield (increasing yield is good for currencies, but bad for equities, bonds and commodities).
• Risk aversion - equal-weighted 12-month trailing stock market return and 12-month change in credit spread (increasing risk aversion is good for equities, currencies and commodities, but bad for bonds).

When the above variables are unavailable, they use substitutes. They consider: (1) single-class, equal risk-weighted portfolios based on all five economic fundamental trends; (2) single-fundamental portfolios positioned across all four asset classes; and, (3) an equal risk-weighted composite of all single-class portfolios (the full Economic Trend strategy). For comparison, they form similar portfolios based on equal-weighted 1-month, 3-month and 12-month trailing asset returns. Composite portfolios (both economic trend and price trend) each month target 10% constant volatility based on the last three years of asset class returns. Using economic fundamentals data and monthly prices as available for 15 global equity futures, 9 bond futures, 7 interest rate futures, 8 currency forwards and 20 commodity futures series during January 1970 through December 2022, they find that: