Tue, Aug 30, 2016
A A A
Welcome Guest
Free Trial RSS
Get FREE trial access to our award winning publications
Opalesque Futures Intelligence

Index Tracker: Crisis and correlations: the managed futures exception.

Monday, September 20, 2010

Crisis and Correlations

Academic research on the market events of the past three years largely confirms investors' experience. Here is another perspective on the performance of various asset classes before and during the financial crisis, from a study by Edward Szado, sponsored by the Chicago Board Options Exchange.

Mr. Szado points out that correlations between equities, bonds and alternative investments tended to be relatively low before the crisis but rose significantly in 2007 and 2008 as the assets lost value. "As a result, many investors discovered that portfolios which they believed to be well diversified based on historical data, were effectively not diversified at all," he says.

He shows that correlations between alternative investments and the stock market were significantly higher in 2007-2008 than in the earlier period. Most alternatives fell into this pattern, with correlations rising to 80% or more for hedge funds, private equity and real estate (see chart). The notable exception was managed futures, which became less correlated to stocks as other assets became more correlated!


CHART
------------------------------------------------------------------------------------------------------------------------------------------------------
Correlation to Stocks Before and During Financial Crisis*

Period

2004-2006

2007-2008

 

 

 

Real Estate

56%

85%

Private Equity

77%

84%

Commodities

-22%

52%

Hedge Funds

77%    

80%

Managed Futures

52%

-22%

* Stocks are represented by the S&P 500, real estate by the S&P US REIT Total Return Index, private equity by the S&P Listed Private Equity Index, commodities by the S&P GSCI Total Return Index, hedge funds by the investable HFRX Global Hedge Fund Index and managed futures by the Newedge CTA Index.

SOURCE: "VIX Futures and Options - A Case Study of Portfolio Diversification During the 2008 Financial Crisis" by Edward Szado, August 2009.
------------------------------------------------------------------------------------------------------------------------------------------------------

Mr. Szado's main point is that the volatility index VIX rose sharply at the same time as almost all asset classes (with the exception of managed futures) fell and that therefore going long VIX futures would have effectively diversified conventional portfolios during the crisis. Of course, managed futures has a similar benefit.


VIX is not the only indicator of market commotion. State Street recently announced the launch of Turbulence Indexes, which measure the unusualness of daily market behavior. These cover US and European equities, currency, US fixed income and global assets. The underlying idea is that turbulence can result not only from the unusual performance of a single asset but also from the interaction between assets. It can arise from extreme movements in volatility or a sudden change in correlations among assets.

"One of the most valuable lessons learned over the last few years of market turbulence is that traditional portfolio construction techniques cannot comprehensively assess the full amount of risk inherent in a portfolio," according to Will Kinlaw, managing director and head of portfolio and risk management research at State Street Global Markets.

Institutional investors are concerned with the question of how to deal with the tendency of even alternative investments to fall into lockstep in crises, thereby spreading losses throughout supposedly diversified portfolios. It is clear that managed futures has a key role to play in meeting this challenge.
 



 
This article was published in Opalesque Futures Intelligence.
Opalesque Futures Intelligence
Opalesque Futures Intelligence
Opalesque Futures Intelligence
Today's Exclusives Today's Other Voices More Exclusives
Previous Opalesque Exclusives                                  
More Other Voices
Previous Other Voices                                               
Access Alternative Market Briefing


  • Top Forwarded
  • Top Tracked
  • Top Searched
  1. Strategies - The 'Holy Grail' hedge fund strategy to handle a black swan the size of World War I, Hedge funds get more pushback on terms as enthusiasm for strategy wanes[more]

    The 'Holy Grail' hedge fund strategy to handle a black swan the size of World War I From IBTImes.co.uk: To illustrate a strategic gap common to today's portfolio managers, George Sokoloff, PhD, founder and CIO at Carmot Capital, proposes an interesting thought experiment – a breakdown of

  2. Institutional investors - Investors set to increase allocation to private debt, With investment income key, Richmond retirement system faces funding challenges[more]

    Investors set to increase allocation to private debt Investors are set to increase their allocation to private debt, with 60% revealing they believe the private debt market will grow over the next 12 months, according to a new study by Elian, a leading funds services provider. 41%

  3. Investing - Hedge funds snap up banks, unload Apple, Some of hedge funds' favorite stocks are finally starting to beat the market, Einhorn's Greenlight shifts positions, Treasury yield climbs to two-month high as Fischer joins hawks, 9 stocks smart investors put their money in last quarter[more]

    Hedge funds snap up banks, unload Apple From Barrons.com: Prominent hedge funds have a newfound love of big banks, and some have a distaste for shares of Apple, regulatory filings released last week show. The filings suggest that the funds have been pivoting their portfolios in recent mon

  4. Chesapeake energy seeks $1 billion loan to refinance debt[more]

    From Bloomberg.com: Chesapeake Energy Corp. is seeking a $1 billion loan as the company battered by cratering fuel prices and credit downgrades takes a step to address its $9 billion debt load. The natural gas producer hired Goldman Sachs Group Inc., Citigroup Inc. and Mitsubishi UFJ Financial Group

  5. Institutions - Nordic pension funds magnify focus on unlisted and direct investing, building up teams[more]

    From IPE.com: As bond yields remain at low or negative levels, pension funds and other institutional investors in the Nordic region are stepping up efforts to find higher returns by adding more unlisted investments to portfolios and are expanding in-house teams in order to do this, according to new