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New to Managed Futures? Be careful out there.
March 9, 2009
With all of the popularity managed futures has enjoyed recently after its positive 2008 performance (click here for details - Past performance is not necessarily indicative of future results), it seems everyone and their brother is starting up a fund of multiple managed futures programs (CTAs), or moving from recommending forex or online futures trading to recommending CTAs, or putting together a managed futures department.
We can speak from experience (we’ve been building our managed futures research, backend, and knowledgebase for years) that it isn’t as easy as it looks, but wish those new to the space the best of luck.
Why are so many new faces rushing to build infrastructure and ‘learn’ managed futures? It’s not rocket science. People are rushing to provide managed futures products because investors are asking for it. Investors are seeing that managed futures were one of the only asset classes up in 2008, and searching high and low for more information.
It is these new investors we’re concerned about, not the new brokers. With all of the supply side products and firms rushing into managed futures, new investors to managed futures need to be ever more careful with who they deal with.
At best, a newcomer to managed futures may have your best interest at heart, but simply not have the library of knowledge available to give the full due diligence picture or not have access to more established CTA programs. At worst, a newcomer may be creating a fraudulent fund and selling it as managed futures exposure. Now more than ever, you need to be careful out there. The unscrupulous and unorganized have a new keyword – managed futures – and they will use it to their advantage any way they can.
Our worry is that most investors new to managed futures NEED the exposure, but may end up getting a bad experience with one of these new entrants to the party, and thus tainted, leave managed futures before ever giving it a chance.
For those who have finally figured out that there is more to investing than stocks, bonds, and real estate, and that managed futures can provide some protection against financial crisis periods; just knowing that you want exposure to managed futures isn’t enough. You also must know how to go about getting that exposure without falling prey to common beginner mistakes and missteps.
Four Beginner’s Tips:
1. Don’t pay upfront fees – unfortunately the recent success of managed futures has led to brokers putting loads, or up front fees, on popular programs like NDX and Hoffman Asset Mgmt. If you take anything at all from this newsletter, take this – don’t pay these fees!
You can View our newsletter here on why upfront fees are a bad thing, but the three main reasons are: a. you don’t have to pay them to invest in the CTA (you can do so without any such fees at Attain, for example), b. the performance track record doesn’t include the effect of the up front fees (you start off down -5%), and c. you will underperform an investor who doesn’t pay the fee (perhaps significantly over time due to compounding).
2. Get paid interest through T-Bills – While this isn’t as important as it has been in years past, it is still sound advice and a good litmus test for whomever you are dealing with. If they recommend you put 75% or more of your account in T-Bills, they are worth their salt. If they never mention T-Bills, or say you can only put the margin excess in T-Bills or something to that effect, they are after that interest (the broker gets paid interest if it isn’t in T-Bills). One extra tip – don’t let anyone tell you to purchase a T-Bill in the same account you have the CTA trading. If you do this, the CTA will get paid incentive fees (20%) on the T-Bill interest. Open a related account and hold the T-Bill in there. Read more about T-Bills in your account here.
3. Make sure your managed futures exposure is actually managed futures exposure – It is not uncommon for an investor to start looking into managed futures because of their crisis period performance and exposure to commodities, and then wind up trading a stock index option selling CTA. Not all CTAs give the managed futures exposure you’re looking for. If the goal is to diversify away from stocks, then don’t include option sellers or stock futures traders like Pere or Paskewitz in the portfolio. Even if a stock index manager is lowly correlated to the actual stock market over the long term, it is important to remember that the same manager could be 100% correlated in the short term. Nothing is more frustrating than moving out of stocks into managed futures, and then finding out you are long S&P futures and losing money as the market goes down. Multi-market systematic managers like Clarke and APA with long and short exposure to traditional commodity markets as well as interest rate and currency futures are the best bet for getting the type of managed futures exposure you expect. Read our past newsletter on getting managed futures exposure here.
4. Distrust the numbers (at first) - What? Distrust the numbers? What are you talking about? You’ll see we have the qualifier “at first” listed. We ask people to distrust the numbers (at first), because more often than not new investors are not trained to read between the lines.
The most common of these mistakes is to implicitly trust the past Maximum Drawdown number. Many new investors take this as the worst risk of the program, but don’t realize that it is a month to month number not inclusive of daily equity swings. The month end peak to valley drawdown number is the industry standard and all that is required to be listed in the regulations, but it only looks at 12 out of the roughly 240 trading days in a year. The maximum intramonth drawdown, which is the worst peak to valley loss on a daily basis is higher than the listed end of month number 9 times out of 10, and sometimes significantly higher.
There is also a disturbing trend of magazines and websites merely regurgitating the statistics of CTA reporting companies. One recent list of 25 top ranked CTAs for 2009 included only 3 CTAs we would actually recommend Attain clients trade. The rest have been around for just a few months, are fund returns and not even attainable in an individually managed account, or are proprietary performance (and thus in our opinion not easily repeatable when applied to actual client accounts).
Because of these reasons, it is important to distrust any numbers you see out there trumpeting this or that CTA program’s returns….at first. The qualifier simply means that you need to look beyond the summary statistics to see what is really going on. What is the intramonth DD? Are the results all client returns or are proprietary returns included? How much money was the CTA managing in past profitable years? These are all questions which allow you to eventually trust the numbers you are looking at.
Three Tips direct from a client who has been there
One of our clients opened an account direct with an FCM in mid-2008, before finding Attain. He ended up in a portfolio of option selling CTAs right before the bottom dropped out for those as volatility spiked, and some other newer CTAs which ended up with drawdowns far exceeding what he expected from the past performance.
Displeased with the experience, but still keen on gaining managed futures exposure, he ended up at Attain. We asked him to share his thoughts on beginner’s mistakes to avoid/lessons learned from his experience. Below are three tips from Peter:
1. Use a reputable IB instead of an FCM, and do your due diligence on them as much as you would the CTA managers you’re employing. How long have they been involved in managed futures? How many clients? Do they have the resources/experience to perform due diligence? Are they trying to charge an upfront fee? Have they mentioned T-Bills?
2. Start slowly with a trial period. The markets will always be there, so there is no need to rush into this program or that one. You can always build up your position once you feel a comfort level with how the different CTAs you have selected work. Maybe start with just 5 or 10% of liquid assets. And hold off on notional funding until you've lived with CTAs for a while. It’s hard to grasp just how volatile managed futures can be when leveraged up until you see it actually happening in your account.
3. Don’t Over-Diversify – Simplistic portfolio construction techniques instruct you to get as much diversification as possible, and many brokers and investors alike apply this logic liberally to managed futures. The problem is, most people new to managed futures either don’t have or aren’t willing to invest $10 Million and over, which would be a good starting point for what it would take to get a really well diversified portfolio of best of breed CTAs. Sometimes it is better to select a portfolio of 2-3 quality managers who may have slightly overlapping trading styles, rather than trying to cram in 8-10 smaller minimum managers that all trade differently. While a perfectly diversified portfolio is always the goal, that must be balanced with the reality of how much capital is needed. Someone new to managed futures should probably concentrate on a select group of higher minimum quality programs at first, rather than putting together many unproven smaller minimum managers.
So be careful out there. The current stock market crash and managed futures outperformance may cause you to rush into the arena ill prepared and perhaps dealing with a “new to managed futures” broker or firm who doesn’t have the background and expertise you’ll need to see success with this type of investment. We, of course, hope you end up at Attain, where we specialize in managed futures accounts. But even if you don’t, please take the above tips to heart and make sure you don’t fall into some of the common missteps and mistakes new managed futures investors often do. At the very least, (this bears repeating) don’t dare pay an upfront fee.
IMPORTANT RISK DISCLOSURE
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Renewed world economic concerns and recessionary ideas continued to remain at the forefront during the past week, despite the announcement of a mortgage fix by the Treasury Department and news that China sees their industrial growth rate achieving a 6% plus target. The lack of investor confidence coupled with a World Bank announcement of further economic contraction sent major U.S. stock indices to levels not seen since 1996. Other sectors of commodities posted mixed results as the Chinese announcement of growth sparked some buying in various commodities, but not all as worries that the heavy economic downturn not only in the U.S., but abroad, could have some consequence on anticipated supply/demand projections. For the week Stock Index futures end with Russell -8.85%, Mid Cap -8.21%, S&P 500 -6.42%, Dow futures -6.46% and the tech heavy NASDAQ -3.77%.
News of another possible round of OPEC production cuts and the Chinese growth news sparked higher price activity in Crude Oil which was the first weekly gain it has posted in weeks. The other energy sectors headed lower as an oversupplied market and cut in demand was just too hard for them to overcome during the past week. Natural Gas lost –5.96%, Heating Oil -3.11% and RBOB Gasoline -2.82%.
The commodity and food sectors did find some life from the Chinese growth announcement with some contracts even posting gains for the week, but the pull from lower stock indexes and news of larger supplies in some kept the complex fractured. Grain price activity in some sectors also benefited from policy changes in the Southern Hemisphere export markets and dry conditions in the U.S. southern plains. Wheat +1.15% and Corn +0.56 benefitted from the news, but Soybeans ended -0.67%. The scorecard in the soft sector ended with losses across the board as Cocoa fell -6.64%, Sugar -6.92%, Cotton -4.335 and Coffee -4.29%. In the livestock sector Lean Hogs ended the week with gains of +2.71% while Live Cattle lost -4.12% on softening economic conditions.
The metals sector remained the safe haven area during the past week with investors looking to put their money in hard assets in this time of turmoil. The news out of China also helped keep price action firm on ideas that capital infrastructure investment would remain stable. This led to gains in Copper +6.53%, followed by Palladium up +4.24%, Silver +1.68%, Platinum +0.61% and Gold ended slightly higher +0.02%.
The currency and interest rate sectors were a mixed, although very volatile as most ended the week near unchanged levels. Investors seem unsure of which way to turn, although more banking woe news out of the U.K. induces a -1.43% decline in the British Pound. The balance of the currency sector settled a little above or below unchanged levels for the week. The interest rate sector did post gains during the past week due to falling stock markets as the 30-year Bond futures ended up +3.87% followed by the 10-year Notes futures +1.15%.
Systematic multi –market managers got off to a sluggish start in March with only two managers posting positive returns in the first week of trading. Hoffman Asset Management is the leader out of the gate and is up approximately +2.69% so far in March. Mr. Hoffman has legged into a nice portfolio after buying treasury & metals contracts and selling stock index futures, and now seems to be sitting pretty for a nice run in the market. The Attain Portfolio Advisors Strategic Diversification Program +1.20% est. and APA Modified Program +0.80% est. are the only other multi-market programs in the black thus far in March.
On the downside many other managers have gotten off to a slow start this month. The good news is that it is early in the month and the numbers really don’t mean much at this point. Programs in the red include Clarke Global Basic -0.60% est., Clarke Global Magnum -1.04% est. and Robinson – Langley at -0.29% est.
Discretionary multi-market managers have also started March slow with Dighton USA and DMH not trading at all, while Mesirow Absolute Return is down just a bit at -0.37% est. as is Lone Wolf at -0.47% est.
In stock index trading, the Paskewitz Contrarian 3X Stock Index has lived up to its name over the last week as the program has been holding long during the most chapter of the stock market decline. The bad news is that those trades have hurt and the program is down -4.11% est. in March thus far. Elsewhere, MSLO has avoided the recent stock market volatility and is near breakeven at -0.01% in March.
Option Trading CTA’s have been the performance leaders to start the year as most have enjoyed a slight decline in volatility across the markets they trade. For March, the first week saw mixed results as diversified option traders excelled and index option traders declined as a result of index markets breaking out below the market low made back in November. The MTD estimates are as follows: Ace Investment Strategists -2.03%, Cervino Diversified Options -0.03%, Cervino Diversified Options 2x -0.05%, Crescent Bay PSI -0.74%, Crescent Bay BVP -4.18%, FCI +1.3%, Raithel and Zenith have not traded in March.
Agriculture and Grain traders continue to remain quiet with very few new positions. The estimates for March to date are as follows: NDX Abednego +0.36%, NDX Shadrach +0.22, and Rosetta -1.64%.
Last week was relatively slow on the trading system front despite further declines in global stock indices. The common pattern was for stocks to open significantly lower, rally back midday and then close on their lows. Wednesday was the exception, with stocks trending higher throughout the whole session, finishing the day up over 2 % but well off the highs of the day.
Beginning with the day trading systems, ATB Trendy Balance v2 Dax was leader of the pack +2,487.50 € on one trade from Wednesday. Compass SP took the second spot +$1,075 after entering in line with the downward trend on Thursday, and sitting on the sidelines for the other four trading days. Waugh eRL was active as usual with four trades that totaled +$294.99 while BetaCon 4/1 ESX traded twice on Wednesday for a net result of +110 €. The rally on Wednesday that faded late in the day triggered entries for BounceMOC eMD and eRL that lost -$100 and -$160 respectively. Rayo Plus was caught on the wrong side of the Dax market Monday and Friday for a total weekly loss of -$2,687.50 €.
Elsewhere, swing trading programs performed poorly as a whole with nearly all systems that were active posting losses. The exception was Bounce eRL which managed to stay above water +$40 on one trade from Wednesday. Bounce eMD wasn’t too far off from the eRL program, finishing the week -$50. Both Jaws US 400 and 60 closed out losing trades on Thursday for -$818.90 and -$1,475 respectively. Finally, Strategic ES lost -$1,192.50 on one trade that it closed out on Tuesday while AG Mechwarrior ES traded twice for a combined loss of -$1,785.
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.