This is the 21st year Futures has profiled emerging commodity trading advisors (CTA). Every year is unique, and 2010 has been no different. Last year was tough and 2010 has been difficult and hard to define. The BarclayHedge CTA index is on pace to register only its fifth negative year since 1980 and the first time it would have back to back negative years (though there is a lot of time left).
When reviewing candidates, we look at not only recent performance but also overall performance and the manager’s general approach to trading. Because new managers with limited money under management may be more susceptible to volatility, we do not judge drawdowns as harshly as we would more experienced managers, though we do look at it.
Previous “Hot New CTAs” have gone on to great success and some have slipped into obscurity. This is not an endorsement but a review of new talent. We would like to thank all the managers who sent us their documentation. We will do this again next year, so look for our announcements.
Stratford: New fundamental approach
Kevin Benoit’s fundamental short-term equity index program is not the first he has run at Stratford Capital Management but it is so different from what he has done in the past that it might as well be.
Benoit started his trading career at Bear Stearns right as the muni bond futures contract launched. Benoit and a partner devised the first arbitrage for the muni bond contract. When he moved to Prudential a couple of years later, he continued to arb the muni bond contract.
“I did all the hedging for their retail and institutional desks and I was trading for my own account,” Benoit says. “I did well and brought some customers into Pru and my customers asked me to go out on my own, so I did.”
Benoit traded a short-term techncial program at Stratford from 1995 to 2005 and produced some eye popping returns including a compound annual return of more than 35%, but decided to end the program after a difficult year in 2005. “The market was brutal, I’ve done it for 10 years, made pretty good money so I took a couple of years off,” Benoit says.
When he decided to launch a program in 2008 it needed to be different. “I did technicals for 10 years. I wanted to take a different approach, that is why I came back. I could have done technicals again but that is a very crowded trade, so I looked at the fundamentals,” Benoit says.
However, his approach to fundamentals is not typical. He will look at what sectors or individual stocks are leading the major equity indexes and using that information make a directional play on the index. “In the last six weeks semi conductors has been the driving force in the Nasdaq so I have been focused on them,” Benoit says. “Yesterday, the semis were leading on the upside; I took that as a buy signal.”
Benoit trades the Dow, S&P 500 and Nasdaq.
The approach has worked as Stratford is up 62.60% through August after dropping 14.12% in 2009 when financials led the equities. “If you see the market rising and the financials were stuck in the mud or going down, then I would sell the market. I would sell into that strength,” Benoit says. “I use whatever the sector is that is driving the market and I look for anomalies. Either it is leading or it is lagging and that is how I determine which direction I am taking.”
The program has performed well in up and down markets. It sometimes follows the trend and sometimes appears to be countertrend in nature. He did well in the volatile markets of May this year, only losing money on two days and even earning money on May 6 when the flash crash occurred.
Benoit says that what is leading can change often. “Prior to six weeks ago Apple was leading,” he says. The market would open lower and then Apple would move higher, which would trigger a buy signal in the index. “I would be buying in and then the market would move up,” he says.
He takes profits around the time the market matches the move of Apple or the stock of sector that is leading.
“When I have trouble it is when there is either nothing that is leading or lagging or if the futures is leading the market instead of the cash. I try and wait until I see something that gives me a signal. I wait for the market to tell me what to do,” Benoit says.
So far the market had been steering Benoit in the right direction.
For more on Stratford Capital Management including contact information, click here.
Vergho: Profits over pedigree
Kevin Vergho is a self taught trader who credits the lessons of trading guru Linda Bradford Raschke for influencing his trading philosophy.
Vergho has been trading full time since 1999, and in 2008 launched his Northern California based short-term diversified technical CTA Vergho Asset Management.
Vergho worked for Fisher Investments after graduating from Santa Clara University in 1992 but was not involved on the trading side and wanted to be. He started his own education company in the late 1990s to spend more time on his personal trading.
By 2000, Vergho was concentrating on futures and the burgeoning equity index sector, trading intraday. “I gravitated to short-term strategies because I found it to be the easiest way to develop income on a monthly basis,” Vergho says.
As his expertise grew and philosophy evolved, he added other financial markets and metals and expanded his time horizon. “It has been an evolution. Even guys [who] develop black box systems tweak them,” he says.
Vergho describes his Kinematics program as a volatility breakout system. “The downside of such a program is that you get the false breakouts. I have gotten better at screening out those false breakouts, exiting when necessary to avoid any serious damage and being able to stay with the winners a little longer. That has been the tweaking that was going on for the 10 years before I launched the program,” he says.
No one can accuse Vergho of rushing the product to market or not doing his due diligence, as the program has returned 55.5% since its November 2008 launch (compound annual return of 28.73%) with a worst drawdown of 1.95%, monthly standard deviation of 2.22 and a Sharpe ratio of 3.71.
“I took what I was doing on a proprietary level and deleveraged to the point that it made sense for the average investor. The main concern was that I wanted to keep the drawdowns to a reasonable level. I tried to find the sweet spot for the average investor,” Vergho says.
Judging by his short track record, he seems to have found the spot.
Vergho uses two technical based systems: one short- to medium-term system that will hold positions two to 20 days that he applies to the approximate 15 markets he trades; the other is an intraday model based on the same underlying philosophy that he applies just to equity index markets.
“I have a model that generates signals, the discretionary element comes from how much we put on and in terms of managing the trade as well as keeping track of correlations among markets.”
Vergho looks at multiple timeframes. “We use a 15-minute chart to enter, which would be confirmed by the 60-minute chart. We are looking for a higher time frame consolidation, we step down to a lower time frame to initiate the entry,” Vergho says.
Even though he is entering a trend confirmed by a longer-term trend, the strategy can appear countertrend at times. “We could actually catch a reversal at some level because a lot of time the consolidation is at the top or the bottom,” Vergho adds.
The intraday program is based on the same philosophy, though looking at much shorter time frames. “I started out as an intraday equity index guy. The longer-time, I added later. It is just doing the same thing on the volatility breakout level.”
He says expansion into a longer timeframe was a natural progression. “You see these larger moves and say, ‘Hey I was in on that at the beginning, [so] how can I expand that out and take advantage of it?’ The only answer I could come up with is to step it out to a higher timeframe.”
Despite his impressive returns, Vergho is in no hurry to grow and understands institutional investors may be weary of his lack of pedigree. “They look at me and say, ‘You learned how to trade by yourself; that is so unusual.’ I didn’t come from a big bank background, which is fine. I am happy with the way we have grown so far. I am not in any hurry to make any changes to impress the institutional side.”
If Vergho keeps this up, the institutional side will come find him.
For more on Vergho Asset Management including contact information, click here.
Insignia: Trading options by feel
Joe Fallico began trading stocks while in college in the 1980s but moved to futures by the 1990s. His broker at the time, Farr Financial, was so impressed with his trading that they offered Fallico a position. Fallico, who lived in the Chicago area, did not want to move to California where Farr was located, so instead started an IB for Farr in 2001.
Fallico was perfecting his proprietary trading methods and by 2005 Farr approached him again about starting up a CTA. “I started testing it over a few years and when it was ready for the public I started it up in February 2009,” Fallico says.
The program, Medallion, is a discretionary option writing strategy. In July 2009 he launched Epoch 3, a similar but more conservative strategy.
Fallico started trading futures exclusively in 2000 and by 2005 began to mix options into his portfolio. “I kind of eased my way into options. I was doing a mixture of both and a year or two later I was only doing options. I just saw the better probabilities and better performance,” Fallico says.
As equities led to futures and futures to options on futures, option buying led to option writing. “I started [with] debit spreads and after a few months realized that was not the way to go,” Fallico says. “Then I [went] into strangles. That is when I really developed and from there I [did] credit spreads and short options positions.”
Fallico will trade naked options and credit spreads in a diversified group of futures markets covering all sectors. He will put on spreads to mitigate risk but there is no specific metric to determine when he gets in naked and when he spreads. “It is all in my head, I have a mental formula that I use depending on what the market is doing. I will look at direction [and where] I can collect a nice premium. It is all factored in but it is very discretionary.”
Fallico will sell options from one to three months out. He doesn’t use hard stops but usually knows when he will exit a position, though he gives himself the discretion of rolling out to a further strike.
“I don’t use stops per se. A lot of times I follow the futures and set mental stops. If the futures price gets to X then I would just liquidate, though I may hold it a little longer or sell a farther one out,” Fallico says, adding, “There is probably a formula I could apply but that is not how I do it.”
Fallico has always traded a diversified group of markets, which is not the norm for option writers who tend to concentrate on equity indexes. Being diversified allows him to take advantage of more opportunities.
But too much concentration bit him in 2009. Despite an impressive return of 32.12%, Medallion suffered two 20% plus drawdowns in May and July due to concentrated positions in energy markets.
“I had a lot going to those markets and got burned. We were in RBOB (unleaded gasoline) and crude oil,” Fallico says. He estimates that he had close to a 60% concentration in energy during the drawdowns and has since adjusted the program so that no sector will have more than 30% of the total allocation of capital at any one time.
The lessons seem to have held as Medallion is up 29.61% in 2010 through August without any double digit drawdowns despite some volatile markets. For Fallico, it is a matter of feel.
For more on Insignia Futures & Options including contact information, click here.