Sign up now to receive our free newsletter
Is a (down) trending US Dollar just what the doctor ordered for Managed Futures?
October 5, 2009
Most of us in the USA unfortunately don’t pay too much attention to the strength of the Dollar on a daily basis. Some people may blame this on Americans being too ethnocentric to care about what goes on with other currencies, or too short sighted to realize the longer term implications. I could argue that with 90% of commodities priced in US Dollars, and the US Dollar regarded as the global reserve currency – there is less of a need for Americans to track how the so called ‘Greenback’ does against the Euro, Aussie Dollar, and so on.
But with the US Dollar threatening the 20+ year low made in April 2008 (just 3.5% above it), it may be time for Americans to consider that it will take a lot more Dollars to pay for that trip to Spain, dress from Paris, or retirement home in Australia. The dollar has been in a steady down trend since the stock market put in a low on March 9th of this year.
The main issue the US Dollar is facing is the huge amount of debt the US has taken on to save the world from the financial crisis. More debt means more US Dollars have to be printed to pay off that debt, which means more supply. From Economics 101 – the greater the supply, the lower the demand and therefore lower the price. Overhanging all of this is China’s veiled desire to diversify their $800 Billion in US debt holdings to other currencies and hard assets like Gold; and now a rumor out last week was that Russia, China, and France are conspiring with powers in the Middle East to stop using the US Dollar for Oil trading.
So far this year, the US Dollar Index, an index which tracks the US Dollar against 6 major currencies (Euro, Yen, Swiss Franc, British Pound, Canadian, and Kronas), is down about -8%.
This downward trending US Dollar has been a welcome sign to Managed Futures investors, as it has brought with it some much needed trends to hook onto (the Euro is up +16% since the March 9th stock market low, for example). These trends have helped the Tremont Managed Futures Index post back to back winning months for the first time in 2009.
Part of this is the skilled trading by the managers compiling the index - getting into short dollar exposure trades (long foreign currencies); but a large part of it (larger than most people realize or admit to) is the fact that the US Dollar is in a trending mode. And while it may seem like a trending US Dollar will only affect those positions which are either long or short the US Dollar – the implications for a managed futures program’s overall portfolio are very significant.
How the US Dollar affects CTA performance
Consider that approximately 90% of the instruments CTAs track and trade are based in US Dollar. We can all see the US Dollar dropping and hope that the CTA we invest with “got that trade” by going short the Dollar or long the Euro or Swiss Franc.
But there is something sneakier going on here as well. Because all of these commodities in a managed futures advisor’s portfolio are dollar based – every other commodity in the portfolio is also tied to this trend in the US Dollar. Every dollar based commodity has a special relationship with the US Dollar where it can move based not only on its own supply and demand structure, but also on the relative strength or weakness of the US Dollar.
When the US Dollar falls, items priced in US Dollars become less expensive for foreign investors. Individuals usually think of those cheap items as a trip to New York City, while an economist may think of it as the purchase of a Boeing airplane; but these principles also hold true for items like Crude Oil, Gold, Cotton, and so on. When the US Dollar falls against the Euro, Crude Oil is immediately cheaper for people buying it using Euros, which means the price of Crude Oil must rise slightly to retain its equilibrium (in Euro terms).
Consider the Gold market since the US stock market low on March 9th. Gold is a US Dollar priced commodity currently hovering around $1,000 per 100oz. It was at $924 on March 9th, for a gain of approximately 9.20% from that low to the Sep 30th close of 1009. Now, the Euro/USD conversion rate back on March 9th was at 1.00 Euro per 1.26 USD; meaning that Gold as priced in Euros was 732 Euros per 100oz. A little more than 6 months later, on Sep. 30th, the Euro/USD conversion rate had moved all the way to 1.00 Euro per 1.46 USD. That means that Gold in Euros on Sep. 30th was 1009/1.46 = 689 Euros per 100oz, or about -6% less than what it was on March 9th.
since March 9th stock mkt low
in US Dollars
This concept of the same physical 100oz bar of Gold having appreciated 9% if held in a safety deposit box in New York, but having depreciated nearly -6% in a safety deposit box in Berlin is admittedly confusing (more so for Americans than for those from countries where thinking of the currency rate is second nature); but it underlines just how important the movement of the US Dollar is to the trends commodity trading advisors rely on (whether they be trend followers or not, most CTAs need markets moving to hope to make money).
From this real world Gold example, you can see that a trend has been manufactured in a way, with Gold in US Dollars seeing a +9% up trend when the same commodity as priced in Euros, Aussie Dollar, or Canadian Dollars is actually lower than where it was 6+ months ago.
If it makes you a little uncomfortable to be long Gold in a supposedly nice up-trend, when it is actually flat to down in other currencies – join the club. There is a danger to this, and that is the problem that if there isn’t really a trend in the commodity, and the move is basically just because that commodity is priced in USD – you may not be as diversified as you think you are. Your long Gold trade, long Crude Oil (and long US stocks to a certain extent) may really been more about the weakness in the US Dollar than strength in the underlying commodity; meaning you really just have one big short US Dollar trade going rather than a few long trades in disparate markets. If you are short a US Dollar based commodity, you are essentially long the US Dollar.
More than a few CTAs we know of, however, have made money being long Gold over the past few months. Still more have made money being long Sugar, Silver, and other commodities which have appreciated across all currencies, thus seeing their up moves amplified by the down trend in the US Dollar. [Past performance is not necessarily indicative of futures performance]. But this just begs the question – does it really matter whether managed futures profits are because the dollar is trending or because the underlying commodity is trending?
The purist in me says it should matter. CTAs profits should be based on identifying real trends, not by stumbling onto a pseudo trend caused by a trending US Dollar. But the realist in me says this surely isn’t a new phenomenon – commodities have been priced in US Dollars for as long as there have been commodity futures exchanges - and why not take advantage of such periods. Finally- the analyst in me says let us see just how pronounced this reliance on the US Dollar trending is for managed futures.
Managed Futures performance during US Dollar Trending Periods
To test how managed futures have performed both during trending and non-trending periods for the US Dollar Index, we turned to our old friend the ADX, or Average Directional Index. The ADX is a technical indicator which measures the so called trendiness of a market. When the indicator is sloping upwards, it indicates that market is in a trending mode, and when the indicator is sloping downwards, that indicates the trend is ending and/or in a choppy, sideways market condition.
We applied the ADX to a monthly chart of the US Dollar Index going back to January 1993, and logged which months had upwards sloping (trending) ADX values and which had downwards sloping values. We also looked for extended periods of the ADX sloping upwards, logging periods which had 3 months of upwards sloping ADX in a row, and periods of at least 6 months of upwards sloping ADX values in a row. Armed with each of these upwards sloping ADX periods, we then looked at what the corresponding performance was for the CSFB/Tremont Managed Futures Index during those months (finding the average monthly gain during those periods, and outside of those periods).
The results are in the chart below, and show that there is a significant performance bias for managed futures towards periods when the US Dollar is in a trending mode. It was also interesting to see that this bias became more pronounced the longer the US Dollar remained in a trending mode – with the periods of at least 6 months of an upwards sloping ADX on the US Dollar showing an average monthly gain of +1.02%, versus periods with six months of downward sloping ADX in the US Dollar Index seeing an average of -0.15%.
Past Performance is Not Necessarily Indicative of Future Results. Average monthly performance for CSFB/Tremont Managed Futures Index for listed conditions between 1994-2009
We were curious if a similar pattern would hold for some of the programs on our recommended list, and ran the same test using the program we have the most data on - Clarke Capital’s Global Basic. (JimAndersen of Clarke Capital actually mentioned the US Dollar-commodity link in his comments for our ‘What’s Ailing Managed Futures in 2009’ newsletter).
The results were very similar, and even more pronounced for those periods where the ADX was in trending or non-trending mode for at least 6 months, with the Global Basic program earning an average monthly gain of +5.17% during the trending periods while losing an average of -1.05% a month during those months when the ADX was downwards sloping for 6 consecutive months.
Past Performance is Not Necessarily Indicative of Future Results. Average monthly performance for Clarke Capital Global Basic for listed conditions between 1994-2009
The conclusion is that most, if not all, managed futures investors should pay much more attention to the US Dollar’s movements. What is going on with the US Dollar can and will impact how your managed futures portfolio performs, with a trending Dollar (either up or down) likely to help the performance of the managers in your portfolio, and a non-trending Dollar likely to cause non-trending activity elsewhere.
And as we saw above, the longer the US Dollar stays in a trend, the better it is for managed futures. We are currently in month 6 of the down trend in the US Dollar, which was on the heels of 6 consecutive months of non-trending (part of the problem with managed futures performance in the first half of the year).
Where we go from here is anyone’s guess, but there have been two extended trend periods for the Dollar in the past 15 years, one lasting 13 months and the other 15 months. Could we be at the start of one such period? Or is this trend about to end, putting more pressure on managed futures? No one knows for sure, but the Dollar chart above sure looks like the Dollar either wants to keep heading lower, or breakout of the secular down trend which has been in place since 2001(chartists would call it a pennant formation). Either way, when the US Dollar is in trend mode, you want to be in managed futures.
- Jeff Malec
PS – you may find the following two US Dollar related topics of interest:
1. If you believe there are worse times ahead for the US Dollar, it may be time to hedge your currency risk. Most people only think of hedging after it is too late – after the move has happened – when the time to do hedging is when the conversion rate is at a place you are comfortable with. Read our past newsletter on Hedging Currency Risk: 4 Options for the Plummeting Dollar.
2. If you are a non-USA investor considering US Dollar based CTAs – this could be a great time to get involved. For example, a CTA with a $100,000 minimum would have cost you 80,000 Euros a few months ago to get involved with, will now only cost 70,000 Euros. Read our past newsletter on: Attention Non-US Investors: CTAs on Sale!
IMPORTANT RISK DISCLOSURE
Not on our mailing list? Sign up now to receive this weekly newsletter.
Feature | Week In Review: Month in Review: Option Sellers continue to shine as volatiltiy decreases, Clarke bounces back.
Improving worldwide economic conditions continued to be the main catalyst for most market sectors in September, continuing on their multi-month trek higher, especially in stock index and metals futures. Economic reports were again construed as improving in September as several releases pointed to renewed manufacturing and building growth especially in Asia. Results of the monthly FOMC were more of the same, although the Fed governors indicated that some of the recent stimulus programs will be slowed to a minimum due to ideas the programs are no longer needed. The marketplace continued to be fixated on the potential for inflation as several rounds of stimulus injection not only by the U.S. government, but abroad have led to large moves in several protein commodities, although the biggest boost from inflationary ideas came into play with the Metals sector. Metals prices were also buoyed by talk emanating from China that the government plans to increase storage facilities to build a larger stockpile furthered upside enthusiasm. For the month Silver futures ended +11.63%, followed by Gold futures +5.85%, Platinum futures +4.28%, and Palladium futures +1.94%. Copper futures ended -0.27% as building stocks created concern that demand has waned a bit after a steep price rally.
U.S. stock indices and their corresponding futures markets continued on their impressive run higher buoyed by strong economic indicators and ideas earning will improve in the next several quarters. The Russell 2000 futures led the way up 5.92% for the month, followed by NASDAQ 100 futures +5.84%, S&P Midcap 400 futures +5.71%, S&P 500 futures +3.71 % and the Dow Jones 30 futures rounding out the sector +2.41%.
Moving on to currency markets, the U.S. Dollar Index declined by - 2.11% for the month and the British Pound lost -1.84% on worries of further job market deterioration. The biggest increase against the U.S. Dollar was the Japanese Yen up + 3.77% for the month as support stemmed from ideas that the new Japanese government will focus on domestic demand shifting away from an export driven economy. The Swiss Franc +2.19% and Euro + 2.06% followed the Yen higher.
Bond markets posted a positive month as support stemmed from strong longer term auction results with the 30-Year Bonds finishing the up +1.58 % and the 10-Year Notes up +0.88%.
The energy sector was a bit under the weather in September as the complex seemed to be fixed on the oversupplied market rather than expected future demand growth. RBOB Gasoline futures -2.79% lead the complex lower followed by Heating Oil -0.38% and Crude Oil -0.07%. Natural Gas futures +21.09% found support from seasonal retail stocking ahead of winter.
The Food and Ag sectors were mixed last month as supply/demand situations came more to the forefront taking over from the pro growth inflation rage that had taken over in most market sectors. Activity in the grains saw Corn +4.37% on planting delay worries with Wheat -8.26% and Soybeans -5.35% finding pressure from ideas that more CRP land will be used for these crops next year. The livestock sector saw Lean Hogs +7.31% finding support from ideas that the recent sharp break might be a bit overdone and Live Cattle -0.81% continued to be hampered by lagging domestic seasonal demand. Soft commodities were mixed with Cocoa +12.38%, Cotton +5.19% and Coffee +4.50% finding a bid from weather worries and Chinese stocks building. OJ -3.02% and Sugar -1.67% were under pressure from ideas that recent crop worries have subsided for the time being.
Option Trading Managers get September’s award for “most consistent” as the majority of managers we track were able to post modest gains for the month. September’s top performer was FCI OSS which earned an estimated +2.77% and is now ahead an estimated +20.65% for 2009 thanks to their diversified/multi market approach and improved risk management. In general, option traders have historically offered investors income potential during flat and slow trending markets, range bound markets, and or during periods of contracting volatility (much like we have seen over the past few months); however, as always, there will be periods of rapid price increases, market breakouts, and increased volatility where you’ll want to ensure that you are properly diversified and not ONLY invested in a short option profile.
Other Option estimates for September are as follows: Ace Investment Strategist +1%, Cervino Diversified Options +0.27%, Cervino Diversified 2x +0.60%, Crescent Bay PSI +2.21%, Crescent Bay BVP +0.82%, FCI CPP -1.18%, and Raithel Investments +1.07%.
Specialty Manager (Agriculture and Spread trading) results were mixed for the month with Rosetta leading the way +4.06%. Rosetta is now just shy of breakeven for 2009 YTD. Elsewhere, both NDX Abednego and Shadrach were both down -3.83% and -4.34% respectively and are down slightly for 2009. Meanwhile, Spread Trading Manager Emil Van Essen fell -1.10% yet remains ahead approximately 17.03% YTD
Multi-Market managers battled through another month of mixed performance with approximately 1/3 of the managers we track posting positive numbers for the month. Leading the way was Clarke Capital Management Global Basic which posted estimated gains of +6.42% for the month in a nice bounce back from losses the previous month.
Integrated Managed Futures Global Concentrated posted another strong number at +3.28% in September. This is the fifth positive month in a row for this program. Dominion Capital Management Sapphire Program also continues to trade well and finished September at +1.34% est. Other multi-market managers in the black for the month include GT Capital CTA Dynamic Trading +2.48% est., Lone Wolf Investments LLC Diversified +1.12% est., and Hoffman Asset Management +0.61% est.
Managers who finished in the red include Attain Portfolio Advisors Strategic Diversification -0.32% est. as well as APA Modified at -1.20% est. Mesirow Financial Commodities Low Volatility -0.24% est, Mesirow Financial Commodities Absolute Return -0.80% est., Quantum Leap Capital -0.66% est., DMH -0.87% est, Dighton Capital USA Aggressive Futures Trading -2.45% est., Futures Truth MS4 -3.89% est., Robinson Langley Capital -4.56% est., Clarke Capital Global Magnum -6.63% and Futures SAM101 -6.94% est.
Elsewhere, short term index trader Paskewitz Asset Management Contrarian 3X Stock Index was down -0.60% est. Meanwhile yield curve trader Typhon Capital Management Drakon Yield curve was down -0.80%.
Trading system performance was mixed in September with swing systems getting a boost from the interest rate sector but ending roughly even across stock index futures while day trading systems had some success trading the Emini Russell and Eurostoxx 50 but didn’t fare as well in the Dax, S&P or Emini S&P.
Beginning with the swing programs, Jaws US Daily and Jaws US 60 welcomed the increased volatility in the 30 Year Bonds and finished the month +$1,564.76 and +$787.50 respectively. Jaws US Daily was the more selective of the two programs with just two trades for the month, one that was initiated in August while Jaws US 60 traded five times for the month. AG Mechwarrior ES broke a two month losing streak to finish the final month of the quarter+$708.39 averaging three trades per week. Ultramini ES put together a strong month of trades totaling +$921.25. Bounce ERL rounded out the other positive swing systems +$80 on a single trade from early in the month.
On the losing side, Polaris ES lost -$1,047.50 on a pair of trades, Waugh Swing ES lost -$1,347.50 on an equally small number of trades for the month. Strategic SP and ES lost -$3,025 and -$656.84 respectively with the majority of the damage taking place on a bearish trade mid-month.
In day trading, Clipper ERL solidified the top spot for September +$970. BetaCon 4/1 ESX was quiet in September with just three trades but ended +€140. BounceMOC ERL was the only other day trading system to finish the month above water +$20 on one trade. Unable to finish the month positive, Freedom ES dropped -$200, PSI! ERL -$400, Compass SP -$544.27, Upper Hand ES -$780 and Waugh ERL -$864.57. Moving into larger losses for the month, ATB TrendyBalance v2 Dax lost- €3,295 and Rayo Plus Dax lost -€4,472
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.