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Opalesque Futures Intelligence

Managed futures as part of a broader investment business: How does it work?

Thursday, October 15, 2009


Starting a CTA within a Larger Company

Your typical hedge fund manager or commodity trading advisor creates a free-standing firm. But many managers express an interest in being affiliated in some way or another with a larger entity. Here we present an example of a CTA that was built as part of a broadly based alternative investment group.

Man Group’s AHL is a well-known instance of a futures trading program within a larger company—see Practitioner Viewpoint on new developments at AHL. Man Group acquired AHL. By contrast, we’ll talk about how an internal CTA business starts.

Integrated Asset Management Corp., a publicly-traded company in Toronto, Canada, launched a managed futures division in March 2003. IAM has over $ 2.1 billion under management in hedge funds, managed futures and other investments. BluMont Capital, a provider of hedge funds to the Canadian retail market, is a wholly owned subsidiary of IAM.

Three executives discuss the development of the managed futures business. Roland Austrup pitched the idea to IAM. He started Integrated Managed Futures Corp. and is president and chief executive. Previously he was an investment advisor with BMO Nesbitt Burns and a commodities broker with ScotiaMcLeod.

David Mather, executive vice president of IAM, and Paul Patterson, the company’s vice president for private investment, offer a perspective from the broader organization. They explain its interest in building the managed futures business.

Earlier in his career Mr. Mather held positions at SEI Investments, Fidelity Group Pensions, Crown Life Investment Management and other firms. Mr. Patterson was previously an executive of BluMont Capital and worked as a lawyer for Lang Michener LLP and the Toronto Stock Exchange.

Integrated Managed Futures’ team includes Adam Kolkiewicz, who is a professor at the University of Waterloo and a co-founder of its Centre for Advanced Studies in Finance. One of his graduate students recently joined Integrated as a quantitative researcher. The firm has exclusive research agreements with Waterloo math faculty and the Centre for Advanced Studies.

Opalesque Futures Intelligence: What led to this partnership?

Roland Austrup: Working on both the commodities and traditional sides of the investment business, I  noticed that a tremendous amount of quantitative research was being done in Canada. I decided to start a  commodity trading advisor with a Canadian partner that would provide infrastructure. IAM gave me the resources to build the team and do the research.

David Mather: IAM was formed in 1998 to buy and build teams of alternative investment managers. When we began talking with Roland in 2003, we already had a retail hedge fund division and an agreement with Man Group to distribute their  retail products in Canada. These products included the futures program AHL as well as Man’s fund of hedge funds. We continually research asset classes and were intrigued by managed futures. So by the time we started a discussion with Roland, we had already decided we wanted to be in managed futures and we wanted systematic, quantitative strategies.

OFI: How did you decide that Roland is the right person to work with?

DM:  It was clear to us that research is a critical to constructing a viable, sustainable managed futures program and we wanted a partner who shared that view. That’s how we came to this venture with Roland.

OFI: What does IAM contribute to the managed futures program?

Paul Patterson: Unlike other startup CTAs, Roland had the resources and capacity of IAM behind him to take care of everything from marketing and sales to information technology,  legal and compliance. Our object is to take over these functions so that our managers can focus on running and enhancing their investment program. IAM’s administrative and operational support frees a manager to concentrate on investing and research.

OFI: What makes a managed futures program successful?

RA: You have to combine the experience of traders with the analytical skills of mathematicians. Our management team is comprised of three experienced traders and two very solid mathematicians. One of our researchers teaches in the statistics and actuarial science department in the faculty of mathematics at the University of Waterloo, which has the world’s largest faculty of mathematics. So we have access to superior academic analytical talent.

OFI: Please describe the investment program.

RA: Our core model is trend-based but we also use other algorithms such as mean reversion. Many of the markets we trade have persistent serial correlation that lasts several months. That’s what our model catches.

OFI: Does it differ from traditional trend following?

RA: We’re focused on whether the market will move, not so much the path it will take. We care about where the initial risk is in the trade and our profit potential — so  our approach  captures market trends but is not path dependent.

OFI: What does the research look at?

RA: Our research investigates what the drivers of return are and how much risk is associated with the return. We look at diverse sources of risk, including extreme events that cause returns in the left-tail of the distribution. The key question is whether we’re compensated sufficiently to take a certain risk. For each type of trade, we have an allowable risk budget. When we see an opportunity that gives us a high return compared to the risk budget, we put on the trade.

OFI: How do you decide when to take off trades?

RA: We monitor the risk and reduce our exposure to an area if we believe the market has become less rational. For instance, in May we started to build a long position in sugar and continued building it in July.  But by the time the rise in sugar prices hit the news, we were reducing exposure, not because the opportunity had disappeared but because by then the volatility suggested that the risk was too high compared to the return.

OFI: Is there an advantage to being in Canada for investing in commodities?

RA: That would be hard to quantify. There are many agricultural economists that we talk with, but there are probably many agricultural economists in the Midwestern US as well. We do talk extensively with people about what’s going on in Canadian oil fields. About 50% of our risk allocation is to commodities.

DM: Commodities may be in our blood, but we often don’t recognize that we have an information advantage in commodities, because it is a subtle effect. But we talk a lot about commodities – oil & gas, grains, precious metals, base metals and minerals –  with local people. As Canadians, with an embedded interest in commodities, we are naturally highly sensitive to currencies as well.

OFI: Isn’t the Canadian market for managed futures small?

DM: Yes, but in the past year our retail division,  Blumont Capital, introduced a platform called Exemplar that makes managed futures available to retail investors for an initial investment of as little as $5000, with daily liquidity and very competitive fees. The IMFC core program is on this platform, as well as sold though other channels and managed accounts. Until now, Canadian retail investors had no practical way of accessing such an investment. We’re hopeful that this will open up the market for managed futures in Canada.

OFI: Do you seed managers in the US?

DM: No, we do not. But a large part of our marketing focuses on the US. Future product development initiatives include a multi-strategy product that would include other CTAs and take advantage of our research and analytical capabilities.

OFI: What happened to managed futures this year?

RA: In the first half of the year, the trends reversed. That was not good for trend followers. As for us, we were not using much of our risk budget early in the year because we did not see opportunity. That helped us do better than most of our peer group. In the past month and a half, we put more money to use because there are opportunities in currency, equity and bond markets. We’re optimistic about the rest of the year. Our portfolios are still long equities, precious metals  and Treasuries , short the US dollar and variously long and short a number of agricultural markets. Exposure to industrial commodities, though, is still low .

OFI: How does the future look?

DM: Managed futures is a very attractive asset class that provides tremendous diversification benefit. The key to investing successfully is to have a strong research team and strong risk management.   



 
This article was published in Opalesque Futures Intelligence.
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