Managed futures have a proven track record in times of crisis, yielding better returns than global equity markets. Harry Skaliotis, Head of Client Portfolio Management at AHL Investments tells Banker Middle East how the role of technology helps determine trends in the market and why investors should consider the segment in the latest crisis
WHAT ARE MANAGED FUTURES?
Managed futures have been used successfully by investment managers for more than 30 years. With the ability to go both long and short, managed futures are a highly flexible financial tool with the potential to profit from both rising and falling markets. To put it simply, managed futures programmes display strong negative correlation in bear markets and moderately positive correlation during bull markets.
"Managed futures is an industry that has been around now for a least a couple of decades or more, we have a consistent track record of generating very respectable absolute returns and we have done this with a very low correlation. Performance and diversification are two very important reasons for investor appetite".
Worldwide managed futures funds' assets under management have grown to represent roughly 20 per cent of the hedge fund world. According to Barclay Hedge, as of the third quarter 2011, total assets under management in the hedge fund industry was $1717 billion, and the managed futures (CTA) industry was just over $320 billion.
Although not entirely identifiable as an asset class, managed futures programmes (run by commodity trading advisors, or CTAs) are multi-strategy 'alternative' investments that invest in futures contracts and options on any tradable entity (commodities, currencies, interest rates and equities).
There are three main managed futures trading strategies:
1) Trend following
2) Non-trend following
3) Relative Value
TECHNOLOGY AT PLAY
Trend following gets the most attention among investors. Its strategies aim to profit from trends by using quantitative momentum analysis. CTAs take advantage of market inefficiencies by exploiting 'serial correlation' seen in asset prices.
"There are a lot of people building the model. It is not just one man and his dog. AHL is one of the largest in the industry, we have 95 people just working on researching and developing our model and our execution capabilities. We build models which first of all, look at vast quantities of data to try and identify certain market anomalies that happen repeatedly through time and then we create a trading system to try exploit those anomalies profitably".
CTAs make no attempt to predict where the market is heading; instead they apply their analysis to determine in what direction the market is currently moving and act accordingly.
"It is very technical and completely systematic, there is no human involvement."
"If we are trading equities; let's say that equities are rallying; we have a $100 net long exposure in equities, if the market movement in equities is more volatile the system will recognise that we are now running more risk, and we can reduce our risk exposure instantaneously."
"In 2008 our flagship AHL Diversified Fund was up 33 per cent and that wasn't because we predicted the crisis, it was because of the nature of our trading. The majority of the models we use are using price data, so they are being fed up to date prices and they are referring to a library if you like of recent prices to measure the direction and strength of the trend.
TRACK RECORD
Over the past decade, managed funds have provided excellent protection in down markets and yielded better returns than global equity markets. They have virtually no correlation to traditional asset classes, enabling them to enhance returns as well as lower volatility. In other words, when risk assets go down, managed futures can still generate profits, and they certainly proved that in the last crisis.
In 2008, when most investment strategies became highly correlated, CTAs collectively delivered one of their best years on record.
"What happened in 2008 is that we saw huge trends in the market and we have the ability to trade in both directions, so being able to not just make money when the markets rise but to profit when they are selling off by going short was really key in that year."
"One of the most profitable trades for us in that year was trading crude oil, because we entered it in 2008 with oil teetering on the brink of $100 and wondering if it could hold its level, what actually happened was in the end prices were rallying upwards of $150 and as a trend following futures manager we held on to that position and even increased that position as the trend continued. We held on to the position right up to the end, when the market turned in July. Obviously we lost money during that correction in July, but we then profited from the subsequent reversal through the second half of the year."
It may sound like an ideal platform, but it is not without risks. "In any strategy trying to generate a return there has to be a certain amount of risk involved, we tend to take a very measured approach to risk, so risk is at the forefront of everything we do from designing a trading programme through to trading and risk oversight."
AHL has a variety of products that target different levels of risk, so it can easily turn up or down the risk depending on investor appetite.
By aiming to achieve this predefined risk targets consistently through time, however, AHL is able to contol its losses during unfavourable trading environments.
"Our worst peak-to-trough drawdown was somewhere in the region of 20 per cent. If you think about the Nasdaq bubble between 2000 and 2003 stocks were down almost 50 per cent, if you think about the credit crisis again stocks were down 50 per cent, so twice in a decade, equity markets have lost half of their value, much more than us."
Many big institutions are known to include managed futures, or funds of funds, as part of their portfolio. Given the market volatility is probably here to stay for some time, managed futures will likely garner more and more of investors' attention.
© Banker Middle East 2011
