Investing in a CTA? Do your due diligence!
June 18, 2007
You may have seen that Attain added a few CTAs to our recommended list over the past few weeks. Two mangers who collect option premium, one spread trading specialist, and one commodity option seller. See below for a summary of the four new managers (click their name to see performance histories):
PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
| Advisor/Program Name | Avg Ann RoR | Max DD | Min Invest (000s) | Description |
|---|---|---|---|---|
| BC Capital Management | 17.70% | 42.30% | $50 | Index Option Seller |
| Chicago Capital Mgmt. - Spread Program | 12.10% | 9.90% | $100 | Spread Trading |
| CKP Finance Associates - LOMAX Program | 42.80% | 31.80% | $100 | Commodity Options |
| Raithel Investments - Target Volatility | 19.40% | 14.00% | $100 | Index Option Seller |
How did we settle on these managers out of the hundreds of professional Commodity Trading Advisors out there? And how can you become comfortable enough to trust these or any other money manager to handle your assets? The answer to both questions is the often heard phrase "Due Diligence".
But have you done your due diligence on your "due diligence"? Are you, your broker, or investment advisor asking the right questions? The goal of any due diligence process is to shed light on all of the risks, so that an investor isn't surprised in any way. Once all of the risks are known - then you can asses whether the return you are making is worth those risks.
Knowing all of the risks requires knowing the right questions to ask. Most investors look at the track record only when performing due diligence, asking questions such as how much money is under management, what's the minimum investment, what is the correlation with the S&P 500, and what are the fees. That's all important, but paints only a small portion of the overall picture.
To get the full picture - we want to look even closer. We don't want to assume anything about a CTA, and sort of treat them as guilty until proven innocent. For example, Attain asks the advisor for copies of client statements - both recent and from early in the track record. This allows us to spot test different months in the track record to insure the performance they are reporting is the performance that actually happened in the accounts. We're not trusting the performance they have posted until we can test it ourselves.
Another piece of our due diligence is to assess the management team. Is it a one man band or a corporate-type set up with an infrastructure to grow assets under management? There are definite risks if it is simply a one man show, like knowing what happens if he gets hit by a bus. We then check the manager out with not only the regulators, but also with references, the brokers they place their trades with, and online to see if their are negative experiences on chat boards, blogs, or the like.
From there - its on to a further breakdown of the strategy beyond what is listed in the Disclosure Document. We want to know what exactly happened during the worst drawdown phase, what the best and worst types of market environment are for the program, if the strategy has changed over time, and what their response would be during another 9/11 type event during market hours.
We also want to pin down the CTA on what their normal trading is like - so we can better monitor the advisor for anything out of the ordinary, and "call them out" if things ever change. For example - with an option selling CTA and their - we will find out how close average strike prices are, what percent of positions expire worthless, and how much against a position the market must go in order to trigger action on their part.
With this information in hand, we can continue our ongoing due diligence of the advisor and their strategy, and alert our clients when and if things don't line up with the parameters given to us in the beginning. This happened a few months ago, with Argus Capital - an advisor who suddenly changed his strategy after suffering losses selling calls into a rising market (which per the due diligence was possible and likely given his strategy of collecting premium primarily on the call side of the market).
What wasn't possible per the due diligence - was holding positions as the market went through the strike prices, or moving from option selling to day trading S&P futures. With this new information in hand, we alerted our clients to these new risks so they could make a decision on whether they remained comfortable with the new profile of the CTA.
As you can see above - doing extensive due diligence does not insure that an investment won't lose money. We wish it did - as we could then guarantee our clients made money just by performing our due diligence. The truth is, the due diligence is merely a method of getting more information - of digging deeper than what's available in the disclosure document. It is not a duty to be taken lightly - and it does not end once you invest with the CTA. The due diligence process should be an ongoing investigation of the CTA's ability to make you money and stay away from risks not associated with their strategy.
Seem like a lot - we're not even a quarter of the way done. We want to know what the intramonth drawdown is - not reported by most CTAs. We want to know the average commission of the past results, whether the past results include proprietary capital or a pool or fund, whether the manager invests his or her own money and that of friends and family, how many accounts they manage, what their max capitalization is, and more.
This is agreeably a lot for the individual investor to handle, and could get overwhelming in a hurry - but that is why firms like Attain exist. We are here to perform this due diligence for you, and we do it for free. So whether its the qualitative view of the CTA's operations, background, and trading approach - or quantitative view of the performance and risk statistics, Attain does its best to dig that little bit deeper so we can provide the investor with a better overall picture of a particular CTA.
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.
Feature | Week In Review | Chart of the Week |
Feature | Week In Review | Chart of the Week |
***Overview***
Grain prices continue to surge as drought conditions worsen across the heartland. Temperatures hit the low 90’s without a hint of rain in sight last week - making growing conditions even worse on farmers. Add in previous droughts this year in other growing regions like Australia and grain supplies are starting to become real tight. The wheat crop has been hit the hardest thus far, and futures were up +14.27% last week alone in reaction. Corn futures were next in line gaining +8.16% and Soybeans were up +3.01%.
Stock futures were up for the week due to positive inflation reports which held down bond yields. The recent rally in yields had started to worry some stock traders who feared that investors would start taking profits on stocks and shifting assets into treasuries. However, last week’s CPI (Consumer’s Price Index) and PPI (Producer’s Price Index) reports calmed those jitters - allowing SP 500 futures to climb 1.65%. NASDAQ futures were up +1.85%, Russell 2000 futures moved +2.29% higher, and SP Midcap 400 futures gained +1.63%.
In commodity trading, energies prices were up for the week with RBOB Gas futures gaining +6.25%, Heating Oil futures rallying +6.28%, and Natural Gas futures moving +3.10% higher. Surprisingly, Crude Oil futures continue to trade in a choppy, tight pattern and remained unchanged for the week. Metals traded higher as well with Copper futures gaining +4.94%, Silver futures were up +1.69%, and Gold futures climbed +1.29% higher. Finally softs followed the grain markets and traded higher with Cotton futures climbing +4.43% and Sugar futures climbed +1.47%.
***Commodity Trading Advisors (CTAs)***
With stock markets grinding higher and commodity markets running rampant - many CTA’s have been busy positioning themselves for a continued run and/or taking profits (i.e possible top in stocks).
This months leading strategy so far is our own Attain Portfolio Advisors - It is not too often that one gets to toot their own horn, so we’ll take this opportunity to do so – APA is up approximately +4.2% this month, pushing the program up to new all time equity highs. The strategy is designed to include 3 fundamental facets of trading (long term trend following, intermediate term swing trading , and short term day trading).
It has been hard to find a trend following CTA which has done well over the past few years, and granted APA only has 1/3 of its program using trend following models - but the strength of that time tested methodology has shown through recently as short positions in global and domestic bonds, long grain positions, and long stock index positions have seen profits due to the recent trends. Credit can also be given to the day trading element, which is designed to capitalize on increased market volatility. With stock market volatility picking up we are excited to have “some†exposure to the day trading elements.
In other trading – Index Options sellers successfully traversed last week's June option expiration, and will likely be looking to add to their July positions this week. Look for any Put sellers to try and wait for a bit of a market correction in the next week or so, enabling them to collect a bit higher premiums.
Finally, a quick positive note for Dighton Capital USA investors, who after hitting a 40%+ drawdown level a mere 45 days ago, are now back within 5% of a new equity high. 20% to 40% swings are normal for the program, even though it hadn't been seen on a month end basis until this year, and they can be tough to sit through. We commend Dighton for following their rules and making it back, and commend Dighton clients for stocking through the DD to see the gains on the other side.
***Day & Swing Trading***
After a brief pullback the week prior, global stock indices went for another leg higher last week - breaking into record territory in select markets. A common saying amongst floor traders is that a bull market will always give you an opportunity to get long, and several swing systems capitalized on that small window of opportunity last week.
Swing trading system Adaptive EUR had a monumental week with profits of +$21,395.42 after going long two contracts in the Dax and one contract in the FTSE. Tzar eRL came through with much more modest profits of +$1,420 and Tzar NQ made +$715. Adaptive US portfolio was much more mixed in terms of direction than its EUR counterpart and ended the week up +$617. SeasonalST ES and eRL both closed out long trades before the big rally at the end of the week for +$132.50 and -$60 respectively.
Elsewhere, day trading programs were fairly quiet as many of the big moves occurred in overnight trading. Rayo Plus Dax was the top performer amongst day trading systems with profits of +$1,374.76. OPXP eRL had two trades that made +$350. Voyager had two trades for a small profit of +$80. Compass SP broke its recent winning streak losing -$425 on a short trade from Wednesday. Bounce eRL MOC went long on Thursday but lost -$347 due to a late sell-off fueled by profit taking in the overextended Russell 2000 market.
***Long Term***
Action in interest rate futures during the past week was a little more supportive as the sector posted moderate gains on ideas the recent move to 10+ month lows (with prices at lows, rates were at 10 month highs) may have exhausted itself for now. Figures from economic releases last week came in a little lower than expected giving market some hope that just maybe the freefall has subsided for the time being. The recent acceleration of a downtrend has boosted activity for long term trend followers as Aberration is short the Sept. Bund currently making +3,240.00 Euros (open trade) as well as a short Sept. TY position with a current gains of $1953.13 (open trade).
Currency activity was a mixed bag last week as the Euro posted a moderate bounce versus the U.S. dollar, while the Japanese Yen was again fixed in the recent elongated downtrend it has maintained for well over a year. The loss in the Dollar was attributed to the slight bounce in rate yields in the U.S. The Yen continues to be dogged by the stagnant Japanese economy, which has left market pundits realizing that the Bank of Japan will not be raising interest rates anytime soon. Most long term trend followers remain on the sidelines due to high volatility although Aberration remains short Sept. SF with a gain of +$437.50 (open trade).
Most soft commodities headed higher again during the past week, sparked by inflationary ideas along with worries that the upcoming crop season in the U.S. will be less than ideal for development. Grains and oilseeds found support from long range weather forecasts still indicating a strong possibility for a hot/dry summer in the U.S. Weather will probably be the most dominating factor in the coming months for the softs as any crop problems will cut into already touchy world supply situation despite the fact a very large U.S. corn crop was planted. Wheat rallied sharply last week on word that yields are very poor for the early reaped U.S. crop. Soybeans continue to benefit from less planted acres with support also coming from soybean oil which is trading at levels not seen since March ’04. Aberration is currently long BON making +$2062.00 (open trade), Short LCQ Losing -$550.00 (open trade), Short SBN losing -$67.20 (open trade) and Long KWN making +$1968.75(open trade).
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.