Alternative Investing
Demystifying Managed Futures
February 1, 2013
Commodity trading advisors (CTAs) managed approximately $320 billion as of the end of the first quarter of 2012, running “managed futures” funds that invest long or short in futures contracts on a variety of commodities, such as metals, grains, cotton and other physical goods, as well as futures and forwards on equity indices, Treasury bonds and currencies. But how do these managed-futures funds actually work and why? Though these funds have existed for decades and attracted large amounts of capital, they have not been well understood, perhaps because they have been operated by opaque funds that charge high fees.
In this paper, we show that simple trend-following strategies — specifically, time series momentum strategies — can explain the returns of managed futures funds. A time series momentum strategy goes long a market when it has experienced a positive excess return over a certain look-back horizon, and goes short otherwise.
Trend-following strategies only work if market prices exhibit trends, but why should price trends exist? We discuss the economics of trends based on initial underreaction to news and delayed overreaction as well as the extensive literature on behavioral biases, herding, central bank behavior and capital-market frictions.
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The information contained herein is only as current as of the date indicated, and may be superseded by subsequent market events or for other reasons. Charts and graphs provided herein are for illustrative purposes only. The information in this presentation has been developed internally and/or obtained from sources believed to be reliable; however, neither AQR nor the author guarantees the accuracy, adequacy or completeness of such information. Nothing contained herein constitutes investment, legal, tax or other advice nor is it to be relied on in making an investment or other decision. There can be no assurance that an investment strategy will be successful. Historic market trends are not reliable indicators of actual future market behavior or future performance of any particular investment which may differ materially, and should not be relied upon as such. Diversification does not eliminate the risk of experiencing investment losses.
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