Monday, November 5, 2018

Managed futures beat both stocks and bonds over short-run, yet many are not feeling good

The investor pain from low correlation; you can be diversified and lose money. An investment can have a low correlation with equities and still have a bad month when equities decline. Low correlation is no guarantee of protection when markets reprice. Investor may believe in the diversification "free lunch" and it does exist, but it may not exist in the short-run or mean that loses will be avoided in down markets. 

Many are saying that the managed futures hedge fund style did not do its job, yet everything depends on your time perspective and what you expect from diversification.

Take a look at a comparison of recent performance. The equity markets sold off and there was limited protection from fixed income. Managed futures, as measured by a pure trend fund (CSAIX), provided diversification and positive returns over the last three months. The more diversified SG CTA index which includes a broad set of strategies called managed futures showed similar return behavior, albeit lower. Over the longer run for this year, managed futures subtracted value. 

The timeframe matters for performance review. One month tells us little about a strategy. One year is better, but not convincing of strategy value, yet every investor is forced to pass judgment as quickly as possible. For the month, managed futures may not seem that bad. For the year, a different conclusion is reached. Placing too much weight on either time frame is dangerous. 

Expectations for correlation also matter. Correlations change through time and are different based on the time frame reviewed. The benefits of diversification are time dependent. An investor's feeling about the quality of an investment is very much dependent on the time frame used for comparison and these factors can be subjective.

October reinforces the not often discussed problem of determining how much time is necessary to measure success or failure for diversification. Good investment time perception means being a patient investor, and patience cannot be found in one month of performance, but how long is enough?  

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