Ken Tropin was formerly President of John W. Henry. Before that he was President of Dean Witter Futures. Now on his own, he is another successful trader with a trend following trading style. An excerpt from Ken Tropin, of Graham Capital Management:

The ability of trend following strategies to succeed depends on two obvious but important assumptions about markets. First, it assumes that price trends occur regularly in markets. While trends do not exist in all markets most of the time, they do exist in most markets some of the time. Secondly, it assumes that trading systems can be created to profit from these trends. The basic trading strategy that all trend followers try to systematize is to “cut losses” and “let profits run”. Trend following has had positive returns over a 20 year period because trends occur in virtually all markets some of the time. Trend followers create quantitative models to capture these long term trends while limiting the cost of doing so. These models create an expected return profile similar to being long options. A strategy has a long option profile when the strategy limits downside losses while potentially achieving very large upside returns. For example, trend followers use stop losses to achieve limited downside exposures on their positions.

Insight from the Institutional Investor:

Making money has been easy for Ken Tropin, although wealth doesn’t exactly run in his blood. He grew up comfortably, first in the Bayside section of Queens, New York, and then in Harrison, a suburb about an hour north of New York. His parents both worked for nonprofit organizations. His father was in public relations at the United Nations, and his mother was employed by the International Committee for European Migration, which helped refugees settle in the U.S. “Their priorities were not about making money,” he says. “They were more about helping people out.” Nor did Tropin have much use for conventional measures of achievement. In the early 1970s he traipsed off to Plainfield, Vermont, to attend Goddard College, an institution that eschews majors and grade-point averages. When Tropin wasn’t sculpting, he was skiing. After graduating From Goddard in 1974, he moved back to Harrison and started a small contracting business, which did painting and light construction. “I hired all of my friends from high school,” he recalls. “We didn’t make a lot of money.” He soon grew bored. After a family friend suggested he get a job on Wall Street, Tropin hooked up with a small firm called Rosenthal Group, which later merged with Collins Commodities to form the Rosenthal Collins Group. He then moved to Shearson Loeb Rhoades as a broker specializing in futures and equities…

A few months after leaving the firm [John W. Henry], Tropin started getting edgy. He bought a number of computers and taught himself programming, working in the guest cottage at his New Canaan, Connecticut, home. Within nine months he was able to write programs based on his own trading ideas and back-test them. It was then that he came to understand that neither Dean Witter nor John W. Henry & Co. had fully satisfied his entrepreneurial spirit. “I realized that what I wanted to do was start my own business,” he says….Tropin won’t go into detail about his proprietary systems except to say that they are designed to take advantage of sustained price changes that take place over several days, weeks or months. “The computer model tells us when to get in and when to get out,” he says. “The computer understands what the price is telling us about the trend of the market.” What does the software look at, exactly? “Volatility, price behavior. How much does it change every day? We’re trying to use as much data as we can get to interpret potential future price.” Successful positions remain in place for about six months; Tropin’s programs bail out of unsuccessful trades after a month. “All of the systems are designed to risk modest amounts of capital and to stay with winners as long as possible,” he says.

Graham Capital Management White Paper on Trend Following: Download PDF.

The Goddard to Graham Capital Arc

The Institutional Investor profile is one of the more compelling career narratives in the trend following world because it tracks so far from the conventional path. Tropin did not come from a finance family. He went to a college without grades. He ran a painting crew. He stumbled into Wall Street through a family friend’s suggestion, not through recruiting or credential-seeking. And he built one of the most successful trend following firms of his generation.

What the profile makes clear is that the entrepreneurial impulse was the constant. From the painting business to the brokerage desk to the President roles at Dean Witter and JWH, Tropin was working toward something he had not yet identified. The moment he identified it was the moment he started buying computers and teaching himself to program in a guest cottage. Within nine months he had back-tested his own trading ideas. That sequence, from intuition to self-directed learning to systematic verification, is the pattern that runs through the careers of most of the traders on this site.

The Long Options Analogy

Tropin’s description of trend following as having a “long option profile” is one of the cleanest articulations of the strategy’s return structure in the literature. An options buyer pays a premium for the right to profit from a large move in one direction. If the move does not happen, the premium is lost. If the move happens, the gain can be many times the premium paid.

Trend following has the same asymmetry. Every entry is a small defined cost: the stop loss represents the maximum loss on the trade. If the market does not trend, the position is stopped out for a small loss. If it does trend, the position is held for weeks or months and the gain can be many multiples of the initial risk. The TurtleTrader rules produce exactly this profile: small losses on trades that fail to develop, large gains on trades that catch major trends. Tropin’s academic language for this is identical to what Larry Hite called playing a defensive game: limit downside, let upside run.

Graham Capital and $120 Million in 2008

Graham Capital Management earned Tropin $120 million in 2008, the year the global financial crisis produced some of the largest trend following returns on record. The crisis created sustained directional moves across currencies, bonds, equities, and commodities as global capital repositioned in response to the unwinding of leveraged positions across the financial system. Trend following systems that were long bonds and short equities in that environment captured the full magnitude of those moves.

That result is not an outlier in the trend following world. The largest returns in systematic trend following have come in periods of macro stress, when prices move far and fast in one direction and stay there long enough for a position to accumulate substantial gains. The Richard Dennis generation demonstrated this in the commodity moves of the 1970s and 1980s. Tropin’s generation demonstrated it again in 2008. The framework is the same across both eras.

Frequently Asked Questions About Ken Tropin

Who is Ken Tropin?

Ken Tropin is the founder and chairman of Graham Capital Management, a systematic trend following firm. He was President of Dean Witter Futures and then President of John W. Henry and Company before founding Graham Capital. He earned $120 million in 2008 from his trading. His background includes Goddard College in Vermont, a painting and contracting business, and self-taught programming skills developed in nine months while building his first back-testing systems.

What is Graham Capital Management?

Graham Capital Management is Tropin’s systematic trend following CTA. Its systems are designed to capture sustained price changes over days, weeks, or months. The firm uses volatility and price behaviour data to determine when to enter and exit positions. Successful positions are held for about six months; losing ones are exited after a month. The systems are designed to risk modest amounts per trade and stay with winners as long as possible.

What is the long options analogy for trend following?

Trend following has an asymmetric return profile similar to buying options. The downside on each trade is defined and limited by the stop loss. The upside is open-ended: if the trend continues, the position is held and the gain grows. This means many small losses and occasional large gains. The expected value of the strategy is positive because the large gains are large enough to outweigh the accumulated small losses. Tropin uses this analogy to explain why trend following works over long periods even though the majority of individual trades are losers.

Why did Tropin leave JWH to found Graham Capital?

He realised that neither Dean Witter nor JWH had satisfied his entrepreneurial drive. Teaching himself programming and back-testing his own trading ideas made clear that he wanted to build a firm around his own approach. The guest-cottage programming period was not just skill acquisition; it was the process of developing conviction in a proprietary system that he could run on his own. Graham Capital was the outcome of that conviction.

Trend Following Systems

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