The trendsetters are hot again. After a run so bad that the FT three years ago ran a near-obituary, CTAs/managed futures funds/trend followers/momentums/whatever you want to call them are back in favour.
Even after July’s market rally abused many trend followers who were short, the strategy has returned 12.3 percent this year, according to HFR. That has beaten the performance of every other major hedge fund strategy and compares with an average loss of 4.1 percent for the industry as a whole. Some analysts even say CTAs have the strength of August’s stock market gains to thank.
But the most interesting thing about the performance of trend-following funds is the recent distribution of returns.
Campbell, Systematica and Aspect Capital are up 26.9 per cent, 22.9 per cent and 29.1 per cent respectively in the year to the end of July, according to documents seen by FT Alphaville. Roy Niederhoffer’s flagship fund has returned 44.5 percent through the end of June. Meanwhile, Man AHL’s trend-following funds, after a strong run, have been mostly average this year and Fort’s funds have declined.
Very often, the different performance of trend-following hedge funds can depend on the markets they play in, how much leverage they use and the type of time frame they specialize in. Short-term trend following did well in the violent early 2020 moves, but since then it seems that long-term trend followers have fared better.
However, Clifford Asness’s AQR Capital Management offered another intriguing cause for the muddled fortunes in a report the big house released last week: Some trend followers simply left their knitting when post-trend returns were dire.
The Federal Reserve has a clear dual mandate. Managed futures strategies have a bottom line – specifically, they 1) deliver positive returns on average and 2) generate particularly attractive returns during major stock market pullbacks.
This dual mandate is one of the main reasons why managed futures strategies can be valuable in a portfolio. Unfortunately, in general, the industry – intentionally or not – has optimized for one at the expense of the other.
As Asness admits, he’s talking a lot about his book here. After a long stretch, well. . . absorption — one of Asness’s favorite technical phrases — the AQR Futures Managed Fund is now up 30.2 percent this year. A larger version of the strategy returned 44.3 percent.
Asness argues that this is because AQR has tried to adhere to what he calls the second mandate of trend following. Here’s a chart showing how AQR’s more “pure” strategy has done compared to trend followers overall, using SocGen’s trend index as a proxy. (Yes, that’s the AQR emoji there).
Asness thinks the industry just “got carried away”—literally, he’s making a pun on carry.
Let’s go back a decade or so. Managed futures were a rare bright spot among alternatives in the Global Financial Crisis (GFC). However, since then—and until recently—strategies built to profit from price trends have had a rough road to the hoe. Since the GFC, markets have trended lower than their historical norm. Also until recently, while there have been some scary times, the markets have generally been pretty strong. Markets trending less than normal (ie, a challenge to Mandate #1) and few tails to hedge (ie, little need for Mandate #2) has been the wrong combination for the managed equity industry. the future.
But bad times happen to good strategies. Everyone knows that. So what is the right thing to do when a good strategy with over 100 years of proven track record in a very wide range of markets and with solid economic intuition has a decade of tepid performance for reasons that are easy enough to was it explained? Of course, you change it, don’t you? This is what seems to have happened to much of the managed futures industry.
. . . Anecdotally (from many sources) many managed futures managers try to improve their Sharpe ratios and total realized returns by adding carry strategies. This is fine if you’re trying to improve Mandate #1, but carry is often a “risk on” strategy. Thus, it can become a real problem when it comes to Mandate #2.
This is a point that several other notable trendsetters have made in the past. All strategies must evolve, and sometimes adding a few more bells and whistles can improve long-term risk-adjusted returns. But if you stray too far from the core, then you may not be able to offer one of your main selling points to institutional investors – portfolio ballast when the market waters are choppy.
This is likely only part of the explanation, or at least it is imperfect. Whatever the change in strategy, most trend followers are enjoying a good year. And after looking at some of the individual fund performances, it seems difficult to make definitive judgments.
For example, David Harding’s Winton Fund underwent a high-profile shift away from its traditional trend-following approach a few years ago, and after a dismal spell now looks to be on the cusp of its best year since from the financial crisis. So, despite seeming childish for what the AQR suggests, the results have actually improved.
Still, it’s an interesting report on one of the oldest but still misunderstood hedge fund strategies. And judging by AQR’s own improving results, the computer screens at Greenwich may once again be safe from Asness.