A Wealth of (Managed Futures) Common Sense

If you haven’t had the chance to check out the work of Ben Carlson over on his blog, “A Wealth of Common Sense,” we highly suggest it. We’ve written about his thoughts and ideas a couple times (here and here) and we couldn’t help but notice the subject of his musings on doing what works for you in his latest post, “The Importance of Intellectual Honesty in the Markets” is of Managed Futures.

“Managed Futures is a trend following strategy that trades futures contracts both long and short depending on the direction of the markets. The strategies are typically diversified across stocks, bonds, interest rates, commodities and currencies and follow a systematic approach. Also called CTAs (commodity trading advisors), these funds got a ton of attention following the 2008 crash because they were one of the few places to earn positive returns when stock markets around the globe sold off anywhere between 35-55%.

I looked at the Credit Suisse Managed Futures Index going back to 2008 and compared it to the annual returns on stocks, bonds and a 60/40 stock/bond portfolio through June of this year:

Asset Class Performance since 2008(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: A Wealth of Common Sense

But it wasn’t just his feature of explaining the asset class of Managed Futures, it’s about how investors tend to chase performance, getting in at the highs and out at the lows. As Ben puts it:

“The biggest problem most investors face is that they invest in something like managed futures after they see the impressive results it had in 2008. Then they bail when it falters. Or they change their strategy to a low cost indexed buy and hold approach after seeing how well it’s done since 2009. Once again, many will bail during the inevitable down period.”

Which fits quite nicely with our “In at the Highs out at the Lows” Managed Futures chart.

Managed-Futures-Performance-vs-asset-flow-1024x521(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: In at the Highs, Out at the Lows 

Back to Ben Carlson:

“Despite these numbers, I don’t think it makes sense to completely write off (or pile into) a strategy simply because it’s had a poor (or good) run over the past cycle. This is just one fairly short time frame. I’m all about intellectual honesty when discussing the markets. I don’t believe in disparaging someone else’s strategy just because I don’t invest that way. My motto has always been, ‘do what works for you, as long as it helps you reach your goals and allows you to sleep at night.”

We couldn’t have said it better ourselves, but since we’re in the Managed Futures space, we can’t help but take it a step further. We want to add one of Ben’s sentences.

“It’s worth noting that the Credit Suisse index isn’t representative of all trend following strategies, but it does give you an idea about the struggles the space has endured following the crash.”

The fact that the index isn’t representative of all trend following strategies is definitely worth noting, and shows Mr. Carlson is no newcomer to this game. But here’s where things get even a little more interesting. Because not only is the index not representative of all trend following- but trend following is not representative of all Managed Futures. As we talk about in our Managed Futures strategy review every year, there’s also Short Term, Multi-Strategy, Specialty, Agriculture, Spread, and Options strategies.  Not to mention the managed futures-like Global Macro programs. Which is why those who find managed futures ‘works for them’, in Ben’s parlance; may not have found it to be as much of a struggle as the chart suggests.

For instance, in 2013, the Barclayhedge Agricultural Traders sub index was up 5.71%, when the Credit Suisse index was down -2.6%. In 2011, The Barclayhedge Discretionary Traders Index was up +2.75%, while Credit Suisse was down -4.2%. In 2012, the Attain Short Term Fund was up 10.29%% while the Credit Suisse was down -2.9%. {Disclaimer: Past performance is not necessarily indicative of future results}. Of course, you would need a crystal ball to know which of those sub strategies was going to perform each year and which weren’t; but you get the point. Just like small cap stocks can diverge from large cap, or Asian stocks be up while US stocks down; different types of managed futures strategies can, and will (and have), diverge from the poster child trend following strategy. That’s why our Philosophy is to surround a core allocation to trend following with these other strategies to ‘diversify the diversifier’.

How about a Longer View:

Which brings us to a tweet asking for a little more data – something we’re happy to dive into.

 

 

Here’s what a 60/40 portfolio looks like using Carlson’s same table, with the Sharpe ratio added in to compare the different return and volatility levels (although you know we’re not huge fans of the Sharpe):

Asset Class Ratio Addition of Managed Futures
(Disclaimer: Past performance is not necessarily indicative of future results)
Data = (60/30 MF) is 60% SPY & 40% DJCS Managed Futures Index
Other data from: A Wealth of Common Sense

But as Mr. Carlson said, this is a “fairly short time frame.” What does it look like if we push it out back to the inception of the Credit Suisse index?  And while we’re at it, we’ll be the first to tell you managed futures isn’t meant to replace bonds (although that might not be a terrible idea in a rising rate environment). So what does it look like when diversified into managed futures and Bonds with an allocation of (45% Stocks / 28% Bonds / 30% Managed Futures)? Here you go:

Ratio Two 1994-2015
(Disclaimer: Past performance is not necessarily indicative of future results)
Data: DJCS Managed Futures Index
S&P 500 = SPY Bonds = Barclays Global Aggregate Bond Index

You can see argument for a managed futures allocation in these longer term stats, which speaks directly to Carlson’s main point:

“I don’t think it makes sense to completely write off (or pile into) a strategy simply because it’s had a poor (or good) run over the past cycle.”

For more information on Managed Futures Performance, check out our Whitepaper highlighting the “Performance Profile: Managed Futures

Infographic: 7 Traditional vs 7 Alternative Assets in 5 Bear Markets

We tried our hardest to find an easy to read article (or graph) of the major asset classes and how they performed over the various crisis periods in the last 20 or so something, and couldn’t… so we decided to do it ourselves.

Enter the infographic, which we’ve tiptoed into before with Han Solothe Nasdaq, and Risk On/Risk Off Roller Coaster. However, all of those look a little silly next to this infographic looking at 14 different asset classes performing during 5 different crisis periods over the past 20 years, thanks to our newly found graphic designer, which came as part of our merger with RCM.

P.S. — If you like this infographic and want more from us, sign up for our weekly (sometimes bi-weekly) blog digest emails.

(Click on the image to enlarge) 
Infographic_Investments-in-Crisis_Full-Image_5


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Revealed: Stock Futures Cheaper Than ETFs

It’s no secret that we’re not a fan of Commodity ETFs vs their future counterparts with past posts titled: “Commodity ETFs Suck.” We have a running monthly table going that tracks a simple strategy of just buying the December futures market of that commodity, under the theory that the ETF will have to roll their positions periodically throughout the year and in doing so take on costs the simple strategy does not have.

There’s one part of this discussion we’ve left out, the benefits and risks of Stock Futures Indices contracts, compared to their very popular ETF counterparts. Lucky for us, the CME group just released a succinct whitepaper titled, “The Big Picture: A Cost Comparison of Futures and ETFs.”

What we particularly enjoy was that they took the time to come up with multiple scenarios, and multiple short and long term investing options. Overall, here’s the conclusion the CME came to:

CME roll cost(Disclaimer: Past performance is not necessarily indicative of future results)
Table Courtesy: CME Group

They actually calculate how much better futures are than ETFs in the report, although it’s spread around and a bit hard to find – but don’t worry, we’re here to help. Here’s the cost savings, per CME, of doing futures versus stock ETFs over 12 months given different ‘scenarios’.

bps cost of 12 months

Now, the $10,000 trader isn’t going to lose too much sleep over this – after all, 50bps is just $50 (0.50%*$10k). But 50bps might keep the institutional investor doing $100 million blocks of stock up at night. That’s $500,000 worth of cost savings someone might enjoy saving.

Curiously, it looks like the CME came out with this report just as the advantage has been shrinking – with the “implied financing cost” in the futures rolls getting more expensive, meaning more roll cost, meaning a tougher comparison to ETFs (but maybe that’s their angle, after all, coming out with this report to say “we’re still better, even though not as good”) Here’s the growth in the “cost” of rolling the ES over the past 3 years with their explanation:

Historically, the implied spread to Libor of ES futures was below the lowest management fees on any ETF. Over the 10 year period between 2002 and 2012,the ES futures roll averaged 2 bps below fair value.

Since 2012, the pricing of the roll has become more volatile and traded at higher levels as shown in Figure 1, with the richness averaging 35bps in 2013 and 26 bps in 2014.

This recent richness is attributable to two main factors: changes in the mix between natural sellers and liquidity providers on the supply-side of the market, and changes to the costs incurred by liquidity providers (particularly banks) in facilitating this service.

In a balanced market, natural buyers and sellers trade at a price close to fair value – neither party being in a position to extract a premium from the other. When no natural seller is available, a liquidity provider steps in to provide supply (i.e. sell futures) at a price. The greater the demand on liquidity providers, the higher (and more volatile) the implied funding costs will be.

The persistently strong S&P 500 returns over the last three years – averaging 20.3% annual growth since the start of 2012 – has caused a decrease in the size of the natural short base as investors reduce shorts and bias their positions towards long exposure. This has increased the demand on liquidity providers – especially U.S. banks – to meet the excess demand.

Beginning in 2013, however, changes in bank sector regulation have increased the capital and liquidity requirements for banks, making it more expensive for them to facilitate futures buyers. The result has been a higher implied financing cost in the futures rolls.

Roll Richness High Low(Disclaimer: Past performance is not necessarily indicative of future results)
Table Courtesy: CME Group

Finally, we’re curious to see if the CME ever does such a report on commodity ETFs versus futures. We doubt they will, as the commodity ETFs (at least the ones not holding metals in a warehouse), actually use the CME’s products, holding futures on each commodity in the ETF.  The stock ETFs hold the actual stocks – making them a competitive target for the CME to try a convince people the futures are better than the stock holding ETFs. But the commodities – their winning no matter which structure you choose. But that doesn’t mean the investor is winning no matter which structure.

Speaking of which, we wouldn’t feel right discussing futures vs ETFs, without including our monthly table:

(Performance as of 2/27/15)

Commodity ETF Over/Under Performance 2015

CommodityFuturesETFDifference
Crude Oil$CL_F
0.91%
$USO
-11.00%
-11.91%
Brent Oil$NBZ_F
4.03%
$BNO
2.82%
-1.21%
Natural Gas$NG_F
-6.54%
$UNG
-6.97%
-0.43%
Cocoa$CC_F
3.33%
$NIB
3.21%
-0.12%
Coffee$KC_F
-15.37%
$JO
-18.24%
-2.87%
Corn$ZC_F
-0.86%
$CORN
-3.15%
-2.30%
Cotton$CT_F
2.22%
$BAL
7.26%
5.04%
Live Cattle$LE_F
-5.70%
$CATL
-6.09%
-0.38%
Lean Hogs$LH_F
-5.93%
$HOGS
-20.17%
-14.24%
Sugar$SB_F
-6.06%
$CANE
-5.76%
0.30%
Soybeans$ZS_F
-0.81%
$SOYB
-0.55%
0.25%
Wheat$ZW_F
-12.40%
$WEAT
-13.87%
-1.47%
Average-3.60%-6.04%-2.44%
Commodity Index $DBC-1.52%
Long/Short Ag Trader CTAs0.17%

(Disclaimer: Past performance is not necessarily indicative of future results)
(Disclaimer: Sugar uses the October contract, Soybeans the November contract.)
Long/Short Ag Trader CTA = Barclayhedge Ag Traders Index

The 10 Most Intriguing Attain Alternatives Posts of 2014

We wanted to go back through and reflect on our posts that you found the most interesting this year. Without Further Ado, The Top 10 Posts in 2014 based off of how many of you read it.

  1. What a Hedge Fund Failure Looks Like
    This year, social media cannot get enough of the news that hedge fund legend Paul Tudor Jones is shutting down one of his eponymous funds, the Tudor Tensor Fund. But just how bad was the Tensor performance that they are deciding to shut the fund down?  What does a hedge fund ‘failure’ actually look like? The answer is, not that bad…
  2. A Big List of Alternative Investment Folks on Twitter
    We couldn’t find a list of alternative investment folks, and specifically those focused on commodities, managed futures, and global macro strategies on Twitter. So we went out and did it ourselves. Here’s our compilation of people and firms currently out there on twitter (in no particular order, despite the numbering) providing the latest insight, humor, debate, and news on investments – especially the alternative kind.
  3. CNBC Didn’t Screw up their Interview with David Harding
    CNBC made another attempt at interviewing Winton’s David Harding and this time around they managed to ask questions actually dealing with the Managed Futures industry. Here are our takeaways from the interview:
  4. 23 Commodity, Equity, and Currency Markets since the 2009 Low
    March 2014 officially marked 5 years since we had 700 point down moves in the Dow, Lehman going bankrupt, and new market lows dragging down commodities. We all know where the equity markets have gone since then, but what about 23 other markets since the March 9th, 2009 low? Plus, asset class performance 5 years before and 5 years after March 2009.
  5. A Brief History of Man AHL, Winton, & Aspect
    It’s hard to believe, but three of the biggest managed futures programs in the world, Man AHL, Winton, and Aspect Capital; all trace their roots back to three 20 something Brits at Oxford and Cambridge in the 80’s. Here’s a brief history.
  6. Why Hedge Funds Don’t Care if They’re Underperforming the S&P
    The problem with saying hedge funds are underperforming the S&P 500 is that the grand majority of them aren’t even trying to beat the S&P 500 in returns, for any set period. They are trying to deliver better risk adjusted returns than the stock market, but that doesn’t make for as good of a headline.
  7. Our Interview With Winton’s David Harding
    Since Winton CEO David Harding was in Chicago this summer receiving his pinnacle award, we thought we’d put some questions directly to him on the industry, how they trade, and so forth… enjoy:
  8. Complacency Everywhere” 
    Here’s the thing that was driving those who do more than just stocks — CRAZY. This spring, It wasn’t just the stock market that was seeing record low volatility. Complacency was everywhere. It was for sure in stocks, but it was also in…
  9. Rise of the Robo-Advisors?
    What are Robo Advisors? Why the sudden attention from the financial media? Some believe they threaten to shift the way the financial advisor business model works. More importantly, what would this mean for alternative investments.
  10. Under the Hood: Wisdom Tree’s Managed Futures ETF
    You got to hand it to the marketing folks over at Wisdom Tree…. No sooner had the ink dried on Managed Futures good 3rd quarter and the Dow hit new 8 month lows we started to see Wisdom Tree advertising their Managed Futures ETF ($WDTI) on CNBC. Marketing 101 = strike while the iron’s hot. But how much “managed futures” exposure are you really getting with this product? Let’s take a look under the hood, shall we?

This Year’s Santa Claus Rally

It’s the most wonderful time of year for those heavily weighted in the stock index ETFs… At least if you’re a believer of the famous “Santa Claus Rally,” which simply means that in the past, December has been historically kind to stock market returns. You know how we feel about past performance… it is not indicative to future results.

Santa Claus Rally

But we can’t deny if said past performance has been good for stocks. We talked about the Santa Claus Rally last year, and there is a lot of debate of whether the Santa Claus rally is a myth, or if there is some basis in fact.

Here’s this year’s observation from Stock Trader’s Almanac:

“According to the 2015 Stock Trader’s Almanac, since 1969 the Santa Claus rally has yielded positive returns in 34 of the past 44 holiday seasons—the last five trading days of the year and the first two trading days after New Year’s. The average cumulative return over these days is 1.6%, and returns are positive in each of the nine days of the rally, on average. Nevertheless, each year there is at least one day of declines.

Alternative research over a longer period confirms the persistence of these trends: According to historical data going back to 1896, the Dow Jones Industrial Average has gained an average of 1.7% during this seven-day trading period, rising 77% of the time.”

No one can really pinpoint the cause of such a rally, but this year’s run can be attributed to better than expected economic growth, via NBC news:

“The wind in the stock market’s sails lately has been the pledge by the Federal Reserve last week to be cautious about raising borrowing costs amid signs that the economy is picking up steam. Investors got another signal of the economy’s emerging strength on Tuesday when the government revised upward its final estimate of third quarter economic growth to the fastest pace in 11 years — 5.0 percent from 3.9 percent reported last month.”

Just today, stocks reached new all time highs off of this news but it hasn’t been slow small gains. Just days ago (5 trading days), the Dow Jones Industrial Average was down -4.3% on the month, and is now past 18,000. By our estimation, historically, there’s only been a 17% chance that the index finishes the month positive after a down move like that, let alone only 5 days {past performance is not necessarily indicative of future results).

But it hasn’t just been this rebound, or the last rebound. It’s that it only took the DJIA six months to go from 17,000 to 18,000. Before that, it only took seven months to go from 16,000 to 17,000 {past performance is not necessarily indicative of future results}. Will it take six months to reach 19,000? A year from now, will it be at 20,000? We’ll let others do the speculating.  Enjoy the ride while it lasts, and happy holidays.

P.S – Stocks aren’t the only thing at new all time highs. Managed Futures hit new all time highs in November {Past performance is not necessarily indicative of future results}.