Is Trend Still Your Friend?: A Microstructural Account of the Demise of Short-Term Trend-Following

2026-07-01

AI Summary

This study investigates the pronounced decline in profitability of short-term trend-following strategies after 2009. Leveraging a comprehensive dataset of approximately 100 liquid futures contracts and representative CTA returns from 1995 to 2025, the authors combine cross-sectional empirical analysis, market microstructure modeling, and order flow diagnostics to identify volatility-normalized tick size as the key determinant of strategy efficacy. They find that trend-following returns have collapsed entirely in contracts with small tick sizes, while remaining robust in large-tick contracts. The paper proposes and validates a novel mechanism: high-frequency market makers strategically withdraw liquidity ahead of predictable price trends in small-tick markets, disrupting the feedback loop essential for trend persistence. This finding underscores the structural impact of HFT-dominated market making on systematic trading strategies.

Abstract

Systematic trend following has, on average, been profitable for at least two centuries; yet since approximately 2009, short-term trends have ceased to deliver reliable returns. Using a cross-section of roughly 100 liquid futures contracts spanning 1995-2025, together with an industry-representative CTA proxy, we document the break and characterise its dependence on signal speed and asset class. We evaluate four candidate explanations - capacity constraints, market electronification, a regime change in CTA-versus-order-flow interactions, and a microstructural mechanism - and find that the first three fail on grounds of timing, magnitude, or cross-sectional heterogeneity. Our central empirical finding is that the cross-sectional variable distinguishing degraded from surviving trends is the volatility-normalised tick size: post-2008 trend PnL has collapsed on small-tick contracts across all signal horizons, while remaining essentially intact on large-tick ones. Neither asset class nor liquidity replicates this dichotomy. We interpret this result through a self-fulfilling feedback loop that, in our view, lies at the heart of the trend anomaly itself: trend signals trigger directional trades, whose market impact reinforces the very price moves that generated the signal. Both the profitability and the persistence of trend are sustained by this impact channel, which requires that trend followers can execute aggressively at reasonable cost. We argue that the post-crisis transition to HFT-dominated market making, whose liquidity-withdrawal behaviour in front of predictable directional flow has sharply contrasting consequences for sparse (small-tick) and dense (large-tick) limit order books, has broken this loop on small-tick contracts. On large-tick contracts, residual depth remains sufficient, and the loop continues to operate.

Problem

• trend-following
• market microstructure
• tick size
• CTA
• short-term trends

Innovation

• tick size
• trend-following
• market microstructure
• high-frequency trading
• order book dynamics