We have highlighted over the last few years how managed futures has faced a difficult environment. The Barclay CTA Index had never had back-to-back negative years prior to 2012, and 2013 was the third consecutive year the index was in the red.
Each year we highlight managers who excel and every year that includes managers who fall into the broad space of medium- to long-term systematic trend-following. But while that represents the largest category of CTAs, both in terms of strategy and money under management, some managers have had a pretty good run.
Commodity and more specifically agriculture based managers have flourished in recent years. Perhaps the most obvious reason for this is that ag-based managers usually trade off of fundamentals and use discretion. These managers typically come from the ag environment and though they will look at technicals to see where those folks are, they are trading on their vast knowledge of fundamental supply and demand factors and discretion figures prominently in their trading.
The use of discretion is important as the most obvious, and documented, reason for the difficult environment for managed futures over the last three years is the risk on/risk off nature of markets. It is hard for trends to develop, or be sustained, when a Federal Reserve announcement can turn a market on a dime. So it has been useful to be able to change course without consulting an inflexible trading program. And these announcements regarding quantitative easing, tapering and stimulus exit strategies have a much more profound impact on the fixed income, equity and currency sectors than on commodities.
It is not simply discretion, it is a combination of accessing non-correlated markets in a discretionary strategy (see “Back to the basics,”). The Barclay Agriculture Index not only outperformed the CTA Index over the last three difficult years, it outperformed the CTA Index in 2010, its last positive year. The chart also shows that it is not simply about discretion as the ag index outperformed the Discretionary Traders Index significantly.
What the numbers show is that access to active long/short commodity investment has been a winning trade over the last several years.
In 2007 Morningstar launched its Long/Short Commodity Index. According to a white paper written by Tom Rollinger, chief investment officer for Red Rock Capital (see “Rollinger: Commodities beat all,”), Morningstar saw the long/short approach as a better alternative to long-only indexes that would also be a better benchmark for actively managed futures strategies. And the index has outperformed traditional investments over the last 35 years, according to Morningstar data. The paper builds on work from a 2012 paper by William Blair. The Blair paper stated, “A historical comparison of the long-only GSCI to the Morningstar Long/Short Commodity Index shows the dramatic performance improvement that was made possible by adding a short component over the observed time period.”
The paper went beyond arguing for a simple long/short approach, making the case for the uniqueness of fundamental experts on specific market sectors. “We believe a portfolio of commodity long-short specialists can provide pure commodity exposure with more attractive risk and return characteristics than a long-only index or a purely systematic index.”