Part One of a Five Part Series
The holy grail of investing is to develop an investment vehicle that operates during a variety of market environments. In this article, we are going to discuss the first key to developing an uncorrelated managed futures portfolio: recognizing performance drivers.
In this article we are going to address a very basic concept: recognizing the macro performance driver.
When investing in stocks, for instance, many micro factors can influence a stock's price: earnings, management changes, distribution problems, legal issues are just a few examples of the many factors associated with the individual stock that can influence a stock price. For our purposes, however, these individual factors are not of concern, but rather the macro performance driver. On a macro level, stocks are generally driven by economic strength. When the perception of economic strength is intact, stocks in general are likely to experience a positive market environment - and when the market environment turns negative, stock values can fall in unison. This is particularly the case during a credit or debt crisis, when "most assets correlate to one." It is this period of crisis that should be a primary concern for designing the uncorrelated portfolio, a period of systematic risk that Nobel Prize winner William Sharpe has said is the reason it is impossible to "diversify" a portfolio with different stocks.
The problem with most investments is they are primarily driven at a macro level by economic strength. Stocks, real estate, long only commodities are all examples of investments that primarily benefit from economic prosperity and suffer during times of economic stress.
Understanding the macro performance driver of most investments is the key to developing the uncorrelated portfolio. In the next Opalesque Futures Strategies, released at the end of this month, we will review the various macro performance drivers in managed futures and demonstrate how to develop an uncorrelated investment portfolio that depends not on economic strength, but rather the market environments of price persistence, price dislocation and volatility.