Trend Following Trading under a Regime Switching Model
M. Dai, Q.Zhang and Q. J. Zhu
Abstract:This paper is concerned with the optimality of a trend
following trading rule. The idea is to catch a bull market at its early
stage, ride the trend, and liquidate the position at the first evidence
of the subsequent bear market. We characterize the bull and bear phases
of the markets mathematically using the conditional probabilities of
the bull market given the up to date stock prices. The optimal buying
and selling times are given in terms of a sequence of stopping times
determined by two threshold curves. Numerical experiments are conducted
to validate the theoretical results and demonstrate how they perform in
a marketplace.
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