Managed Futures Spotlight: M6 Capital Management
February 5, 2013
In our Semi-Annual CTA Rankings, we try to answer the age old investor question of which managed futures program is the best, and end up with our unique Top 15 ranking which incorporates dozens of different statistical measures rather than just looking at which program made the most money last year.
Traditionally, we highlight the top program in that list in this newsletter one week later. But this time around, it wasn’t so straightforward. At the top of the focus list rankings was Tanyard Creek. It’s certainly a quality program from our view and traded by many of our clients, but they’re closed to new investors, making a spotlight for new investors pretty pointless. Then came Briarwood, Covenant and Mesirow - three programs we’ve already done relatively recent spotlights on.While it’s good to know our top ranked managers have been ranked highly so consistently that we’ve already profiled them in the past, we thought our readers could benefit from seeing a fresh face. So today, we will take a look at #5 ranked M6 Capital - what is, in our opinion, a strong, unique agricultural program worth considering.
M6 Capital is run by Chris Myers, who, despite his proclivity for numbers and trading, is a master story teller. Chris eats, lives, and breathes the stuff he trades. He was born and raised on a sprawling family farm that worked in grains, cattle, and, most notably, catfish. Catfish? Yes, their 2000 acre property boasted over 400 acres of catfish ponds, along with a family-owned hatchery, feed mill, processing plants and rails for transport.
As he made his own way in life, he didn’t stray too far from the family interests, receiving a Master’s in Agri-Business Management from Mississippi State University. He then went on to work for a contact from the family business - Willard Sparks. In the 70s, 80s and 90s, Sparks was considered by many to be a guru in agricultural research and trading, making him a more than fitting mentor for Mr. Myers. With Sparks Companies, Myers traveled throughout North and South America, analyzing crops and estimating production for the traders back home.
In a pre-digital era, this was not as simple as it sounds. They were asking questions like whether the farmer’s financial circumstances would necessitate a quick or below market sale, or whether the supply and demand dynamics of the region would lead to higher or lower exports, and what that might do to crop markets in other regions. This information was not as easily accessed as it would be today, meaning every scrap of information could turn into an edge for the well-researched trader. Myers left Sparks Companies in 2001 to join Cattlco, the Sparks family cattle feeding operation and 7th largest cattle feeder in the world. There Myers worked under Willard Sparks researching grains and livestock markets and conducting hedging and trading activities.
Willard Sparks knew early on that Myers wanted to trade as a CTA, and spent years teaching him the ropes. This tutoring, paired with the support and instruction of Sparks crop estimation wizard Hosea Harkness, fostered a dedication and discipline in research that has shaped Myers as a trader today.
Sparks passed away in early 2005, speeding up Myers' timeline for entering the managed futures space. He registered as a CTA later that year, using the fundamental analysis tools he’d picked up from his years with Sparks to craft a discretionary program that specialized in Agriculture markets. A family man through and through, Myers named the program “M6” as an homage to his last name, plus the six members (him, his wife and four children) of his household.
The M6 Capital program is the definition of an agricultural market, focusing on the agricultural markets that Myers grew up studying - in his mind, the only logical route. As he puts it, “I don’t know anything about Crude, Natural Gas, the S&P pits. I know about Grains and Livestock. I’m sticking with what I know. I not only know the ins and outs of the industry - I have the contacts, I have the people, and I have the day to day information flow.”
In an era where farmers are tweeting about their crops from combines, and USDA reports are broadcast around the world, just how valuable can this kind of information be? Apparently, quite valuable. Myers argues, “Technology has made information more accessible - but that doesn’t mean that people know how to interpret it.”
Interpreting the information is not as easy as taking a glance at a number. Indeed, this is part of the reason adequately describing the trading methodology of a discretionary program can be so difficult. When the edge is the trader's head, how do you help investors understand what they’re getting into? When conversing with Meyers, he doesn’t claim that HE is the edge. No, he attributes the success of the program to the prolific research and preparation that goes into placing any trade on any given day.
“I do ludicrous amounts of research - I couldn’t even tell you how many hours. We buy research from others, as well. We do as much research, if not more, than the vast majority of people out there as far as identifying potential trades.”
But simply being well-researched does not make one a trader, and Myers is simply being humble. It really isn’t just about compiling information; it’s the ability and experience required to effectively contextualize and sort through that information that really makes a discretionary trader, and in the case of M6, the process of digesting the information is a long one indeed.
“Before I ever enter a trade, I am a ridiculously patient person,” Myers explains.
Patience would have to be a pre-requisite. Before any trade is placed, Myers and his team spend countless hours identifying the set-up. The first thing they’re looking for is the potential for a trade opportunity to open up. Are supply and demand metrics evolving in a given market in such a way that significant price movement can be expected? Just because it’s expected doesn’t mean the movements will come to fruition, though, so the next thing he’s looking for is the anticipated price movements of a market based on its behavior in recent and similar circumstances. The goal is to determine whether the trade has enough upside potential to be worthy of further consideration.
“Let’s say you want to go long on the soybeans trade at $14.90, for instance,” Myers says. “If I think upside is $15.50, and downside is $14.50, that means placing a trade at that point has a potential 60 cent upside and 40 cent downside. That’s a “flip a coin” type of trade. We’re not flipping coins.”
But it’s not just about looking for theoretical upside. It’s also about finding the trade opportunities where you can adequately monitor factors which could significantly impact the dynamics of the trade. For M6, because of the markets they trade, these factors are largely fundamental. They answer questions like what the average cattle weights are in a given time period, and how that might impact demand for feed, which in turn might impact the price of a crop. While any Joe on the street might be able to draw out some of these connections, M6 is picky about what they’ll pay attention to, and when. For them, it’s about whether you can monitor the factors in play, as these elements will play into how much risk you’re putting on your plate.
“If you cannot monitor your factors on a live basis, you cannot realistically calculate risk versus reward,” Myers explains.
But even if all the pieces fall into place, it still might not be enough to trigger a trade for M6. They’re also paying close attention to market reactions and price movements.
“What new pieces of information are coming into a market, and how is the market behaving with that information? If I want to be long Corn,” Myers says, “and the cash price is going up, we’re getting export demand, your Hog numbers are big, your Cattle numbers are big, and the corn market is sitting still, and the March contract is losing on the May… something’s not adding up.”
In other words - is the market behaving rationally? This has become a unique challenge in recent years. In fact, he points to 2008 as a shining example of the kinds of climates he’s become wary of.
“Sometimes correlations get messed up. When that happens, we’d simply be trading the S&P in the Corn pit. We’re not going to play that game.”
But the risk on/risk off trade isn’t the only market behavior Myers keeps an eye out for. Is the USDA Crop Report due out tomorrow? If so, you shouldn’t expect Myers to have substantial positions in any market. The rise of algorithmic traders has made these days perilous. Sometimes there’s no reaction. Sometimes, the market goes haywire. Sometimes, the algorithmic traders read a headline about one crop, and extend the logic to the rest of grains. These are the warning signs he’s looking for.
Myers is also paying attention to larger trends, and the way those trends might alter the structure of a market. One example of this is the long-only commodity fund. While some managers have seen their presence as a trading opportunity, given their frequently predictable roll, Myers is wary of their influence, and monitors the climates they create vigilantly.
“Take wheat, for instance,” he says. “Last summer, Wheat was a significant short for speculators, but when the markets started going up, the speculators had to cover their shorts. But the funds aren’t about to sell, are they? Unfortunately, that meant there was no natural seller to act as a governor on the markets, and they were going up 20-30 cents a day.The seller used to be farmer, but now I believe long-only funds are around 25% of the Wheat open interest. At this point, you just have to learn how to work with it– this is sink or swim.”
Assuming all of the data is pointing to a solid trade, Myers then has to decide the appropriate trading vehicle to attain the desired goal. This might range from a traditional long or short position to options and calendar spreads - two tools that M6 has used more frequently as the years have gone by. For Myers, it’s about appropriate and acceptable volatility.
“When money flows into the markets, it often times creates interesting dynamics in calendar spreads. There’s a fair amount of implied volatility in options, too. There have been some massive swings over the past several years. At one point, we were long way out of money calls in Soybeans. It started with low volatility - around 19 or 20 - and jumped up to around 36.5. We were right directionally, and made money off the volatility,” he explains. “Personally, I like being able to sleep at night. I like being able to calculate my risk. When you have a large futures only position… that’s a lot of overnight risk. In volatile markets, you better know your stuff!”
Even after all that, the trade may never get placed. That’s where we get into the program’s risk management.
Let’s imagine a world where a trade qualifies by all of Myers’ standards. Before it gets executed, Myers takes a step back to ensure the trade fits within the parameters of his risk management.
“Most trades don’t go through,” he admits. “We’re not doing 10 things at once - throwing spaghetti against the wall and hoping it sticks.”
Indeed, the program typically ranges between having 1-3 open trades on any day, and Myers is demonstrably uncomfortable with the idea of having more than 4 open trades at any given point in time. This piqued our curiosity a bit - what if there were five or six trades that more than qualified for execution under his standards? Then, he argues, it comes back to correlation concerns.
“You pick the best story among the markets. If you’ve got bullish stories in four correlated markets, and something rattles them, you could be losing on four separate trades instead of one,” he pointed out.
He’s also very diligent about managing risk in terms of position sizing, commoditizing risk relative to account equity. He defines a unit of risk as 1/3 of 1% of equity in an account. This is held relative to the market price and the way that it moves, so the risk is calculated on a fluid basis. On any given trade, M6 will typically accept 1 to 3 units of risk. On occasion, there will be a 4 unit trade, but that’s maybe a couple times a year.
“If it’s a 4 unit trade, you’re willing to bet the farm, the wife - everything - on it,” Myers chuckled.
But they don’t really bet the farm. In fact, the margin-to-equity ratio on the M6 program is statistically very low, averaging 2.3%.
More importantly - you remember that incredibly involved research process they go through before they place the trade? That doesn’t stop once the trade goes through - it continues throughout the life of the trade. If at any point the fundamentals or market behavior begins to change, that’s a cue for M6 to begin scaling down the position or exit, depending on the strength and speed of the changes. If the fundamentals they were tracking suddenly become unreliable? Same cue. It doesn’t matter if the untrackable fundamentals aren’t changing the market movement; for Myers and M6, it’s about logical calculation of risk, and they won’t “risk” trading blind.
That’s a lot of work going on behind the scenes, you might be thinking. But what has it yielded?
We’re glad you asked.
Since launching in 2005, M6 has had only two down years - 2008 and 2009. The rise of risk on/risk off trading during the time period certainly contributed, and M6 has since adapted their trading style to be far more cognizant of market correlations. Their max drawdown of -15.40% may make some investors uneasy, but the duration of the drawdown was far shorter than even some of our systematic programs, at a mere 16 months. Past performance is not necessarily indicative of future results, and we often advise investors to expect 1.5 to 2x the level of the prior max drawdown to occur at some point in the future, but we are heartened by the way the program has handled negative performance in the past.
Why? Because it makes M6 very different. Not only does it boast the typical non-correlation to stocks, it also has a very low correlation to the BarclayHedge CTA Index. For a managed futures investor seeking a diversifier for their managed futures portfolio, that’s a metric they want to see. Not so sure? Take a look at their performance over the past several years relative to managed futures as a whole.
Disclaimer: Past performance is not necessarily indicative of future results.
That’s nothing to turn up your nose at… many programs would envy those returns at this point. Of course, this does not guarantee an encore for such performance in the future, but it is certainly reflective of the work and research that goes into each trade placed by M6. With a Sortino ratio of 0.90, M6 joins agricultural peers Global Ag and Rosetta Capital atop our focus list, and that is exactly the kind of company they should be glad to have.
All in all, we find M6 to be a solid agricultural program worthy of consideration. The manager is knowledgeable, experienced, and committed to his process. The performance lines up with the trading style described. It could prove to be a valuable diversifier for a managed futures portfolio of allocations.
However, from our perspective, there are a couple of other elements to be aware of prior to making an allocation. The first is that, by some definitions, despite over 7 years of performance, M6 is still considered emerging due to their AUM levels. At a mere $28mm with only a handful of accounts, an obvious concern is whether the firm is operationally stable enough to handle an influx of allocations. M6 was not launched with the intention of becoming the next Winton Capital. Myers is however actively soliciting allocations. He recently hired Craig Holliday to manage this side of the business for him moving forward, which tells us that he is ready for expansion.
Another concern also applies to size, but this time, it’s on the upside. One question that every manager has to deal with at some point is what their limit on capacity for their program might be. For M6, Myers estimates that capacity - or at least, a moment to consider where they go from there - will likely be around $300mm. With his experience in trading sometimes illiquid markets for Cattlco (where they would be upwards of 15% of open interest) he’s familiar with navigating sometimes tricky waters, and feels confident that he’ll be able to continue the strategy for some time to come.
On one hand, with a minimum investment of only $300k, that capacity level is a ways off. However, in our experience, smaller programs that start to perform well tend to get big in a hurry. And there is a bit of a run on Ag managers right now with many closing to new investors or raising their minimums to meet demand after strong non-correlated performance over the past few years.
From our perspective, that provides a limited window of time for allocations to M6. Further, Myers made it clear that while he doesn’t anticipate a problem, he doesn’t want to see the strategy suffer from growth, either. That lends a certain level of unpredictability to the capacity level, again creating a bit of a timeframe concern for allocations.
Finally, there is always going tobe an unquantifiable risk in investing in a discretionary manager; one need look no further than Dighton Capital for proof of that. This is particularly true when one individual is making the final calls on the trades, as it compounds discretionary risk with “bus theory” risk (click here for more). However, the openness of Myers about his trading philosophy makes ongoing due diligence and monitoring of the trading a little easier than it would be with a pure discretionary manager, mitigating some of that risk.
All in all, we’re pleased to see M6 rank highly this time around. For the investor looking to diversify their managed futures portfolio, it’s certainly worth a second look as a low minimum option for QEP investors. We look forward to seeing how M6 fares in 2013 and beyond.
IMPORTANT RISK DISCLOSURE
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IMPORTANT RISK DISCLOSURE
Futures based investments are often complex and can carry the risk of substantial losses. They are intended for sophisticated investors and are not suitable for everyone. The ability to withstand losses and to adhere to a particular trading program in spite of trading losses are material points which can adversely affect investor returns.
Past performance is not necessarily indicative of future results. The performance data for the various Commodity Trading Advisor ("CTA") and Managed Forex programs listed above are compiled from various sources, including Barclay Hedge, Attain Capital Management, LLC's ("Attain") own estimates of performance based on account managed by advisors on its books, and reports directly from the advisors. These performance figures should not be relied on independent of the individual advisor's disclosure document, which has important information regarding the method of calculation used, whether or not the performance includes proprietary results, and other important footnotes on the advisor's track record.
The dollar based performance data for the various trading systems listed above represent the actual profits and losses achieved on a single contract basis in client accounts, and are inclusive of a $50 per round turn commission ($30 per e-mini contracts). Except where noted, the gains/losses are for closed out trades. The actual percentage gains/losses experienced by investors will vary depending on many factors, including, but not limited to: starting account balances, market behavior, the duration and extent of investor's participation (whether or not all signals are taken) in the specified system and money management techniques. Because of this, actual percentage gains/losses experienced by investors may be materially different than the percentage gains/losses as presented on this website.
Please read carefully the CFTC required disclaimer regarding hypothetical results below.
HYPOTHETICAL PERFORMANCE RESULTS HAVE MANY INHERENT LIMITATIONS, SOME OF WHICH ARE DESCRIBED BELOW. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN; IN FACT, THERE ARE FREQUENTLY SHARP DIFFERENCES BETWEEN HYPOTHETICAL PERFORMANCE RESULTS AND THE ACTUAL RESULTS SUBSEQUENTLY ACHIEVED BY ANY PARTICULAR TRADING PROGRAM. ONE OF THE LIMITATIONS OF HYPOTHETICAL PERFORMANCE RESULTS IS THAT THEY ARE GENERALLY PREPARED WITH THE BENEFIT OF HINDSIGHT. IN ADDITION, HYPOTHETICAL TRADING DOES NOT INVOLVE FINANCIAL RISK, AND NO HYPOTHETICAL TRADING RECORD CAN COMPLETELY ACCOUNT FOR THE IMPACT OF FINANCIAL RISK OF ACTUAL TRADING. FOR EXAMPLE, THE ABILITY TO WITHSTAND LOSSES OR TO ADHERE TO A PARTICULAR TRADING PROGRAM IN SPITE OF TRADING LOSSES ARE MATERIAL POINTS WHICH CAN ALSO ADVERSELY AFFECT ACTUAL TRADING RESULTS. THERE ARE NUMEROUS OTHER FACTORS RELATED TO THE MARKETS IN GENERAL OR TO THE IMPLEMENTATION OF ANY SPECIFIC TRADING PROGRAM WHICH CANNOT BE FULLY ACCOUNTED FOR IN THE PREPARATION OF HYPOTHETICAL PERFORMANCE RESULTS AND ALL WHICH CAN ADVERSELY AFFECT TRADING RESULTS.