Rydex Introduces a Managed Futures Fund; Awaiting ETF Version

by: M F

I made a list a few years ago of ETFs/CEFs I would like to see hit the marketplace. Most of the products were simple alternative strategies that could be replicated with a systematic process. Bridgewater ("Hedge Funds Selling Beta as Alpha") and the Partners Group ("Factor Modeling of Hedge Funds") have some good research on the subject.

Managed futures was at the top of my list for a number of reasons. Low (or negative correlation) with mainstream asset classes and positive correlation with (unexpected) inflation. There is an entire book on the subject by Michael Covel, who also has his own blog. "The Way of the Turtle" by Curtis Faith, a former "Turtle" himself, just came out. Curtis runs the great software Trading Blox.

For more info on the Turtles, here is a fantastic PDF on the subject.

Another famous trendfollower and Market Wizard is Ed Seykota, who runs his own site here. As an aside, a great paper on stock trendfollowing is here, and my paper on asset class trendfollowing is here.

Previously, investors interested in managed futures had few options. They could invest in CTAs, but face the same problems encountered at hedge funds (lockup, liquidity, transparency, minimums, etc). Some of the most famous money managers on the planet are trendfollowing CTAs such as Henry and Dunn.

The second option would be with the retail version of Superfund, which charges ridiculous fees.

Finally, Rydex came out with a managed futures fund based on the S&P Diversifed Trend Indicator [RYMFX]. The prospectus is here (.pdf). Rydex also has a good periodic table of returns (.pdf), but with more asset classes than the typical bank dribble. The strategy invests in 24 futures markets, half in financials and half in commodities - although energy exposure is long only. I read somewhere they use the 7 month moving average for the model. They report pro forma performance as:

CAGR: 11.5%
Stdev: 5.96%
Sharpe: 1.08
Max DD: -7.57%

They do not make any concessions for management fees, commissions, slippage, or any other real-world considerations. They also do not mention their methodology for selecting the parameters or markets used, and looking at the results lends the observation that optimization was relied upon to pick the best model. For anyone familiar with the trendfollowing business, these returns would be a multi-$B fund. If you spend any time on IASG, it is hard to find a managed futures fund that has been around for more than 10 years with less than a -20% drawdown. Most are in the vicinity of -50%, and that includes survivor bias with funds not around anymore.

Mt. Lucas Management runs over a billion in a simple trendfollowing strategy using the 12-month SMA. I highly recommend their site if you are looking for info on managed futures trendfollowing. While they had decent performance since inception in 1988 (previous is pro forma), they have not had a year above 5% since 2000 (more on that below). Mt. Lucas has 4 special reports on their site (requires registration) that I recommend.

I want to take two seconds to talk about managed futures returns, because there is a HUGE amount of misunderstanding in the area. Most investors spend 99% of their time focusing on the trendfollowing aspect of timing futures. As evidenced in this paper (.pdf), the majority of the returns come from the account balance sitting in T-Bills. Smaller fractions of the total return come from trendfollowing and roll yield. As we have (possibly) concluded the longest bond bull market in history for the past 20+ years, the returns have naturally been subpar for the trendfollowing funds. Most talking heads then question, "are trendfollowing funds done/broken/etc?" without realizing that cash is yielding the lowest it has in 20 years. . .

What's going to be the next alternative category to hit the marketplace? And what's the over/under until we see a managed futures ETF?