From the April 01, 2010 issue of Futures Magazine • Subscribe!

Global Advisors: The best of both worlds

Daniel Masters and Russell Newton have been working and trading together for 25 years and they have added expertise at each step in their impressive careers, which has resulted in a unique and impressive trading methodology.

Trading advisor Global Advisors executes a completely systematic commodity-based program called the Global Commodity System (GCS). Global Advisors is based in Jersey, part of the Channel Islands situated between the United Kingdom and France.

Masters and Newton met in the mid-1980s while working for the Shell International Trading Company as physical crude oil traders. They both went on to trade for the energy department of Salomon Brothers. “We did a variety of things there including proprietary trading of North Sea and Brent contracts. We went on to trade refined products, derivatives and European gas and electricity,” Masters says.

In 1993, they moved to JP Morgan, where Masters sat on the risk committee in New York and Newton managed the energy operation in London. In 1999, they started Global Advisors and would begin trading a discretionary commodity fund based on fundamentals and money flow. In 2007, they wound down their discretionary fund and concentrated on the systematic program, GCS, which they began trading in 2005.
“It is an evolution of what we did as discretionary managers, which is in turn an evolution of what we did as investment bankers and traders, which in turn was an evolution of what we did as oil traders,” Masters says.

The discretionary program did well but the onset of electronic trading was changing how commodities markets traded. “As electronic trading took over and as commodities became a real asset class, we started to see the edges in that strategy disappear,” Masters says. “We got a lot of information about deal flow from the floor of the exchange and that disappeared.”

They already had to adjust from proprietary traders who had access to a tremendous information flow from the institutional customers whose flows they saw. “In today’s trading world, you have to create your edge through smarts and experience and technology because those [other] things exist less.”

The program trades 35 commodity markets, including spreads that they treat as individual markets.
“Most quants are looking at thousands of markets and are indifferent to what they are. We are an interesting hybrid. We are not a pure natural resource or discretionary commodity fund, which there are many; we also are not a pure quant fund, which there are also many,” Masters says. “We are taking a little bit of both of those worlds.”

GCS has three models. Two of them are based on numeric techniques like signal processing and are basically trend following in nature. “Our third model is what we call an agent based approach,” Masters says. “That model is assessing hundreds of theoretical strategies on different commodities for which there are unique identifiers for the strategy and commodity pair.”

The model looks at both technical and fundamental factors specific to each commodity and is based on seeing numerous strategies trade at investment banks. They refer to those different strategies as agents and have created an approach that selects which of those agents are likely to be successful. “We are periodically evaluating what the short-term and long-term profitability of each of those agents are,” Masters says.

They winnow down the numerous agents, making sure that they maintain their diversification and end up with the model providing the best risk/reward parameters. The third model tends to balance returns in poor trending environments. GCS was moderately higher in 2009, with the third model making up for losses in the first two.

“The third model can look fundamental in its nature but it also can look technical, so if fundamental strategies have been working well, they will rise to the top in our agent selection model and [the same with trend following],” Masters says. The end result is GCS tends to correlate with trend followers in strong trending environments, but not in weak trending environments. “We have a model that will cushion the blow when markets aren’t trending,” Newton says.

GCS is conservative, with a 4% margin to equity ratio. Yet they have additional overlays to reduce risk. They will cut positions across the board during drawdowns. “We avoid risk of ruin by scaling back positions in drawdowns,” Newton adds.

The final overlay is called “dead man’s hand” and allows them to exit all their positions in extreme circumstances. “Several times in our career we have seen systemic dislocations in the markets. That could be a platform blowing up in the North Sea or the collapse of Lehman Brothers. We want to avoid periods of systemic illiquidity,” Masters says. GCS may be cautious, but the program has produced an average annual return of 14.79% with a worse drawdown of 5.45% since July 2005, targeting annual standard deviation of 8% to 10%. They combine the best of both worlds. “We are really experienced commodity guys who know how to employ sophisticated quant strategies,” Masters concludes.

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