Friday, June 10, 2016

Managed futures as long volatility - the meme many follow

The managed futures industry tries to use factor descriptions to explain what they do. The member or story often used is that managed futures is long volatility. This was the main theme at the CBOE Futures Exchange Volatility seminar in Boston. 

The story goes that managed futures managers will generally make money when volatility is high or rising.  In shorthand, managed futures is long volatility. It is often thrown out as a truism without much support. I have used that story in the past but have found it to be more nuanced after looking at the data. In fact, 

If the volatility story is to be used, it has to be discussed in the context of timeframe. The managed futures manager is generally, long long-term volatility and short short-term volatility. The type of volatility matters. We don't want to say there is good and bad volatility but there are volatility environments that are better for managed futures. We have looked at this issue in the past with our posting,  Managed futures and VIX - beware high daily volatility - embrace high monthly volatility and Managed futures and volatility - a little harder to link than some would think.

The better story is that the world is divided into convergent and divergent traders, and trend-followers are divergent or mean-fleeing managers. Higher volatility may be necessary but not sufficient for higher returns.

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