Managed Futures: An All-Weather Alternative
December 7, 2012
Financial advisors and investors now see value of investing in managed futures, particularly in times of market stress.
As an asset class, managed futures offer four distinct benefits which justify inclusion in any investor's portfolio: low correlation, increased diversification, liquidity and opportunity.
When investors think of managed futures and diversification, they typically think about commodities (e.g. metals, grains or energy) investments. However, the diversification that managed futures can bring is much broader.
In addition to commodities, key categories include currencies, global fixed income and global equity indices.
Managed futures also offer the opportunity for global diversification with access to more than 150 markets worldwide and investments in the Americas, Europe, Asia and Australasia.
Managed futures exist across a wide range of highly liquid and transparent markets, which affords the investor a great degree of flexibility. Commodity Trading Advisors (CTA's) may trade intraday, daily, weekly or over longer term periods of up to several years and can take on both long and short positions depending on the manager's point of view.
In recent years, investors have had the option of investing in managed futures through mutual fund vehicles, with some mutual funds spreading allocations across a number of advisors. This can minimize advisor risk and provide access to many different managed futures strategies.
This permits the investment to be well diversified while maintaining a focus on advisor expertise. Many financial advisors believe the managed futures fund of CTA's to be the best alternative investment for their clients by providing diversification across a number of markets, strategies and time horizons. This can also diversify the source and timing of the returns and maintaining an efficient risk/ return profile.
While one-year annualized returns on managed futures investments have admittedly been lackluster due to a variety of market dynamics, when viewed over longer time frames, managed futures have historically delivered uncorrelated returns to a broad array of asset classes.
This lack of correlation can go a long way toward ameliorating losses suffered in other parts of an investor's portfolio. When considering total return, managed futures (as represented by CASAM/CISDM CTA Equal Weighted Index, which reflects the average return for CTAs, (through 9/30/2011) and the Barclays CTA Index, which measures the composite performance of CTAs with four or more years of trading history) have outperformed U.S. and international equities, bonds and commodities over the last five-, 10- and 20-year time periods.
While the stock market has experienced a recent rebound with some equities approaching their pre-2008 prices, and managed futures lagging, the current environment could present an ideal opportunity for portfolio diversification through an enhanced managed futures allocation. It's been proven time and again that investors who protect themselves before a crisis erupts tend to fare far better than those who are trying to cut losses after a downturn hits.
Managed futures investments have historically been shown to decrease risk and increase return over time.
Diversification is the key here, with a broad array of managed futures strategies employed by CTAs taking place in a wide variety of markets. These factors have helped managed futures realize positive performance in both up and down markets, making it no surprise that managed futures market growth has driven assets from only a few billion in the late 1980's to more than $328 billion in 2012.
Despite marginal performance year to date, that level continues to climb. Barclayhedge. com reported that CTA funds acquired more than $2 billion in August, bringing the total inflow since the beginning of the year to more than $10 billion.
Historically, managed futures have provided an uncorrelated investment response to global equity markets, and low correlation to fixed income markets, particularly during periods of extreme volatility. Additionally, managed futures have had low correlation to other alternative investments including hedge funds, real estate, private equity and real assets.
By way of example, compare the hypothetical growth of a $1,000 investment in U.S. stocks and in managed futures during the bull and bear markets of the century's first decade. During the bear market from September 2000 through September 2002, the S&P 500 realized a loss of 56%, while managed futures, as measured by the CASAM/CISDM CTA Equal Weighted Index, were up 27%. In the following bull market (10/02 to 9/07) the S&P rebounded and was up 87% from its low point, while managed futures climbed another 32%.
The next bear market (10/07 to 2/09) saw stocks down another 48% while managed futures continued trending upward (28%), followed by a bull run where U.S. stocks shot up 92% and managed futures measured by the CASAM/CISDM CTA Equal Weighted Index and the Barclays CTA Index gained another 13%. In sum total, over that 10-year period, a hypothetical $1,000 in managed futures investments would have appreciated 156% to $2,563, while that same amount in U.S. stocks would have lost a total of 14% and have only $856 of value.
As investors and their financial advisors have searched high and low for effective alternatives to traditional asset allocation strategies, they can now look to managed futures for the diversification and risk management benefits they can offer to a well-structured portfolio.
Greg Anderson is chief investment officer of Princeton Fund Advisors.