One of the annoying aspects of modern investment theory is the constant bucketing of different investment styles and strategies and the attempt to create a “beta,” for every investment type.
Investopedia defines beta as: “a measure of the volatility, or systematic risk, of a security or a portfolio in comparison to the market as a whole.”
In investment circles it basically is used to describe the return one should expect in a specific strategy. Sometimes it is simple. For example, if you are invested in a long biased mutual fund attempting to track the S&P 500, the return from the S&P 500 index is the beta. If a manager doesn’t beat it, he really does provide anything above what a cheaper index fund could. You can say the same for vanilla bond funds and even real-estate to some extent.
However, many alternative investments claim to provide alpha, which is defined as returns above the risk free rate. Or put another way, any excess return above the “beta” of that investment strategy.
As Managed Futures begins to move into the mainstream, many analysts and fund managers have attempted to define a "Managed Futures beta." This is a bit tricky.
Thomas Rollinger and Scott Hoffman, principals of Red Rock Capital, provide a comparison of CTA Indexes in a recent white paper.
They write, “Although most Managed Futures programs trade equity index, fixed income, and foreign exchange futures, their returns have historically been uncorrelated to the returns of these asset classes. The reason for this is that most managers are not simply taking on systematic beta exposure to an asset class, but are attempting to add alpha through active management and the freedom to enter short or spread positions, tactics which offer the potential for completely different return profiles than long-only, passive indexes.”
Rollinger and Hoffman do not attempt to create a managed futures beta, instead breakdown the various CTA indexes and let you know what they reveal.
The paper also does a good job in describing Managed Futures and its most popular style, diversified systematic trend following. While there is a high level of correlation among the different CTA indexes, which typically encompass systematic trend followers, I don’t believe they really provide a beta similar to say the S&P Index for long equity investors.
There are some new products on the market that are attempting to capture a so called Managed Futures beta by entering into basic trend following strategies across the most liquid markets but remember CTAs attempt to provide alpha not beta and while CTA indexes and off the shelf trend signals may work as a general benchmark for a relatively basic trend following approach, there are too many variables for them to capture what is unique in these strategies.
I have interviewed hundreds of CTAs including many of the oldest and most successful trend followers in the industry. And to a man, and woman, they all say that their success is much more a product of their risk management, diversification and trade sizing than their entry signals. They typically will say that their trend signals are probably not that much different than others in the space.
In years where there are numerous long-term trends in different sectors, nearly all trend followers will perform well. But in difficult years for trend followers where there are choppy markets and sharp reversals and the majority of CTAs underperform, there are always a few trend followers who manage to have strong years. That is testament to the complexity, versatility and diversification within the broad category of medium- to long-term trend following, which simply cannot be pigeon holed into any type of generic beta program.