Thu, May 28, 2015
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. Opalesque Exclusive: SEC approves proposed changes to Form ADV, '40 Act - comment period to follow[more]

    Bailey McCann, Opalesque New York: Hedge funds and providers of liquid alternatives will want to pay close attention to proposed reforms approved by the SEC yesterday. The changes will require more frequent reporting, as well as a closer look into social media, liquid alternative strategies, and

  2. Investing - Hedge funds buy swathes of foreclosed subprimes, force up rents, float rent-bonds, Hedge funds buy Actavis, Valeant. ETFs join the party, The most loved biotechs of big hedge funds, Stocks to buy ... according to hedge funds, Atlantic City bond offering attracts hedge funds as buyers, Okumus Fund Management discloses huge new Ascent Capital Group stake[more]

    Hedge funds buy swathes of foreclosed subprimes, force up rents, float rent-bonds From Boingboing.com: When a giant hedge fund is bidding on all the foreclosed houses in a poor neighborhood, living humans don't stand a chance -- but that's OK, because rapacious investors make great landl

  3. Institutions - Institutional investors turn to real estate, planes, Assets at Bostonís five biggest family nonprofits rise to $3.5bn[more]

    Institutional investors turn to real estate, planes From Joins.com: The National Pension Service and domestic emerging market specialists who did not know where to invest in a low interest rate environment are turning to other investments like the blue-chip real estate market abroad.

  4. Opalesque Exclusive: BMO launches multi-strat '40 act fund[more]

    Bailey McCann, Opalesque New York: As we reach new market highs, investors are looking for a way to diversify and protect their portfolios from a potential market correction. Liquid alternatives are rapidly gaining ground as a critical tool for investors to use to mitigate downside risk. The BMO

  5. All hedge fund strategies rebounded last week as market conditions normalize[more]

    Komfie Manalo, Opalesque Asia: After a difficult start this month, all hedge fund strategies ended last week in positive territory, as the Lyxor Hedge Fund Index gained 0.9% (-0.2% MTD, 3.3% YTD). According to Lyxor AMís latest Weekly Briefing, in t

banner