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Risk-Managed Funds

edited July 2011 in Fund Discussions
Hi, MFO Contributors. First time poster, long time lurker...

I'm hoping to appeal to the astute readers of MFO for some research I'm doing for a consulting project (disclosure: I do marketing and sales work for asset managers interested in growing their presence in the RIA channel - see David's write up on WSCVX).

A current client has launched a series of mutual funds whose strategies aim to minimize losses by exiting markets prior to deep declines while maintaining material participation in up markets. The investment process is quantitative and looks exclusively at price movement to derive an in or out of market signal. The funds buy ETFs or index futures for exposure to specific areas of the market that an investor may want to hedge (EM, for example). In the realm of quant processes, the strategies seem low(er) frequency (tell me if I'm wrong here) averaging only 2.5 round trips in and out of the market annually.

If anybody has thoughts on a) other funds you might lump into a "similar" bucket that these funds might be compared to b) metrics as researchers you would be paying the most attention to (upside/downside, beta, downside vol, drawdown, etc.) c) what your approach has been to incorporating these "win by not losing" strategies into portfolios or why you've stayed away from them, I'd love to hear it.

Thanks for any thoughts you may have.

Comments

  • edited July 2011
    GTAA (Cambria Global Tactical ETF) is quite similar to this, although over the short-to-mid term it can stumble/lag if there's significant volatility; similar to managed futures, it appears to function best when there's a consistent trend. I also own Bluecrest Allblue, an alternative fund-of-hedge funds on the London market, which to me is a much more flexible/nimble absolute return-style vehicle for minimizing losses (while past performance is no guarantee, it gained (NAV) a low-to-moderate double digit % in 2007, 2008 and 2009. BH Macro would be another publicly traded hedge fund.

    GTAA is fine, although again, it appears to work best in markets with a consistent trend and it is purely a technically-driven fund. I'm waiting for far more complex funds along the lines of Bluecrest and BH Macro, but I'm doubtful that US retail investors will ever be offered such funds, sadly.

    Additionally, I'd prefer a fund of index futures (see AQR Risk Parity) over a fund of ETFs, although there are few global, multi-asset futures-only funds.

    Additionally, I do own and like AQR's Risk Parity fund. (AQRNX).
  • I will be very interested in your client's funds if the net expense ratio is at or less than 1%, and if they develop an attractive track record over the next few years, which would be noticed by the astute investors at MFO.

    I use many metrics in evaluating funds, including investment philosophy, track record, upside/downside capture ratios, and trailing standard deviations and sharpe ratios. Clearly, downside protection is paramount IMO, but I don't think that this necessarily means "in or out" movements in equities.

    Kevin
  • The user and all related content has been deleted.
  • Jakem...Look at the Forward Tactical Growth Fund (and other mutual funds run by the same manager). Seems to take a similar approach to what you are describing.
  • this seems like a market timing strategy based on the quant model. it is not GTAA or in any way fundamental. There are plenty of quant strategies, but i don't know of any also doing market timing. i believe lots of research show that long-term market timing doesn't work -- so good luck with your marketing effort.
  • MJG
    edited July 2011
    Hi Jakem,

    Welcome to the skeptical, suspicious, and sarcastic Mean Street within MFO.

    Probably not surprisingly, you will get very little succor from these quarters.

    You seek the investor’s vision of the Holy Grail. It is a commonly unfulfilled quest. The Holy Grail is so illusive because it is an illusion whose form varies in the mind of each seeker. The seekers themselves are a motley mob composed of many True Believers, but also many fakers, snake-oil salesmen, and charlatans. It has been that way for decades, no, more like for centuries.

    You said: “A current client has launched a series of mutual funds whose strategies aim to minimize losses by exiting markets prior to deep declines while maintaining material participation in up markets. The investment process is quantitative and looks exclusively at price movement to derive an in or out of market signal.”

    That’s the easily recognized signature of momentum investing. Many market wizards like John Bogle challenge its validity. So do I.

    I will first rant from a sarcastic perspective; I promise that if you persist to the end, I will provide some useful website addresses that might satisfy your needs.

    Market Timers have been searching for the signals that would identify floors and ceilings forever. They probably have deployed every metric ever conceived, grouped the metrics into a dazzling array of composite metrics, and invented their own sets to impress the uninitiated public. If this vast array of timing and technical tools ever worked, they worked unevenly, sometimes benefiting the True Believer, but often giving false signals that crash hope in the process.

    Unfortunately modern investment theory with its statistical emphasis on metrics like Alpha (excess returns), Beta (sensitivity to market direction and magnitude), Standard Deviation (volatility), Gaussian distributions (a rough approximation that ignores “fat-tails”), the Sharpe Ratio (measures the reward to risk ratio), and the Sortino number (measures the downside reward/risk sensitivity) give investment amateurs and professionals alike a false sense of an absolute science.

    While useful in the decision making process this statistical maelstrom is not the end all. Investing is not entirely a science and never could be because of the uncertainties in forecasting future events and outcomes. Solid investing decision making is based on some mixture of knowledge, mathematics, money discipline, patience, art, and luck elements. In that sense, the Holy Grail is a myth.

    And the speed, power, and ubiquitous presence of computers and communications networks has further exacerbated this situation. Every purveyor of investment products offers technical tools coupled to wonderful graphics, and makes this bewildering assortment of tools accessible to his customers. Customers beware false gifts.

    I guess some adventurous entrepreneur feels the urge to add to the 10,000 plus schemes for a momentum-based strategy that presently exist, or in your case, how to sell those schemes to potential customers.

    I suppose we should reassess the robustness of newly minted, infallible technical signals based on a Fibonacci number sequence, or an Elliot wave analysis, or a Kondratieff long wave interpretation, or an astrological observation, or perhaps a simple bone tossing exercise. The options and opportunities are nearly endless. Of course, the historical record of these mechanical theories are less then comforting. Any evidence of their successes are mostly fictions invented by its promoters.

    There certainly is data that supports a momentum factor contribution to total market returns. Academic Mark Carhart reported that finding in research papers published in the 1990s. His findings expanded the Fama and French 3-factor model into a 4-factor model that incorporated the momentum effect into mutual fund persistence analysis.

    However, the momentum factor usually contributed only a small increment to a portfolio’s return. Also it had short duration. It seldom persisted for more then one year, although in some instances it did show a residual impact for up to two years.

    There is no logical rationale explanation for any of the numerous momentum strategies. They lack a causal/effect relationship and seem to be the product of excessive data mining. Those outfits that really do apply momentum methods usually integrate them with more fundamentally inspired approaches.

    But, to each his own.

    Does the outfit that you represent have a scheme that employs a mix of technical parameters and/or charting tools? Or are you seeking a set of criteria to serve as a basis for a yet to be derived set of rules? Are you planning to plan?

    From my vantage point, all this falls into the data mining category. That form of research has produced major disasters. Recall the studies that James O’Shaughnessy completed and published in his book “What Works on Wall Street”. That book was given the Best Investment Book award in 1996 by the Stock Trader’s Almanac. The mutual fund that emerged from that data mining exercise soon failed. Most of these technical studies are quickly consigned to the investment scrap heap of history.

    In conclusion, I am dubious about your project and I doubt its prospects.

    That ends my skeptical and sarcastic commentary. As promised, I finish with some references that might benefit your quest.

    The MoneyShow offers access to financial money manager’s preferences of all persuasions, including many momentum oriented professionals. Here is their website address.

    http://www.moneyshow.com/

    The CXO Advisory Group maintains an extensive performance record of investment gurus. Here is their website address.

    http://www.cxoadvisory.com/

    The Stock Trader’s Almanac is another candidate resource for your purposes. Here is their website address.

    http://www.stocktradersalmanac.com/sta/home.do

    Many members on the defunct FundAlarm website respected the momentum predictions made by Pony Express Bob. Here is his website address.

    http://customer.wcta.net/roberty/

    Market wizard’s performance records are also maintained at the Guru Focus website. Here is its address.

    http://www.gurufocus.com/

    The most comprehensive website that provides free technical analysis descriptions is operated by Thomas Bulkowski. He claims impressive success. His address is as follows.

    http://www.thepatternsite.com/

    Thank you for allowing me to rant on this subject. I hope the rants and the closing references will help you just a little.

    Although I am not a protagonist for market timing methods, I wish you and your employers success to reward your efforts.

    Best regards.
  • Sounds like BLSHX (Buy Low Sell High). I doubt it will work if the funds jump in and out of the market 2 or 3 times per year.
  • Thank you for your comments! I enjoy the skepticism and sarcasm as much as the useful insight. I knew I could count on MFO to give it to me straight.

    What intrigued me about this manager was his realistic approach to the benefits AND limitations of his strategies. Like all investing models - fundamental, quantitative, predictive, reactive, et al - this one, too, is imperfect. It has performed well in certain environments, and less so in others, but broadly speaking those cycles of performance differ from much of what I sense is populating investor portfolios these days (at least those portfolios of the wealth managers with whom I speak), and inclusion of such a strategy in a portfolio would provide some actual diversification benefit when one needs it most - during big moves to the downside.

    If nothing else, the controversial nature of strategies that fly in the face of conventional investment theory should engender some lively debate!

    Thanks again for the comments. They are all very much appreciated.
  • thank You for not taking it personally!
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