Thursday, September 6, 2007

Managed Futures: A Cure for 'Buy-and-Hold' Investor Strategies

Does it make good sense to buy a truck load of stocks when sourpuss pundits are negative about the economy?

Stock investor and author Ken Fisher thinks so. In his new book The Only Three Questions That Count, Fisher preaches against listening to the gaggle of grousers who complain that the United States is on the verge of monetary self-immolation.

Instead, Fisher uses the collective voices as a kind of technical indicator: loud, shrill cautionary declarations mean buy, buy, buy.

Boiled down, the message Fisher and Forbes publisher Rich Karlgaard, whose column in the January 29, 2007 issues of his magazine features Fishers book, may be this: Dont listen to what might happen. Watch what the markets are actually doing.

Fisher and Karlgaard may have good reason to crow, if the record highs in the Dow Jones Index mean anything. In spite of growing deficits and a bloated war budget the stock market closed strong in 2006 and has started the New Year in fine style. Who can argue with success?


I too believe it makes more sense to watch the behavior of price rather than be influenced by the opinions of market sages.

But what are long-term investors to do when dramatic events suddenly reverse market gains? Resist panic, yes. Yet the tech stock downturn in 2000 is a bitter reminder of the inherent risk in stubborn buy-and-hold strategies.

There is a method of investing that allows you to enjoy the long-term gains of a trending market, while at the same time having the flexibility to liquidate short-term positions without serious tax liabilities. (If you buy and sell a stock within 12 months youll be taxed at a higher rate than those stocks that are liquidated after a year or more of ownership.)

The method Im referring to is managed futures.

Managed futures are not new. Investment managers have been using managed futures for more than 30 years to diversify and stabilize portfolios. In recent years, this practice has spread to pension funds, endowments, trusts and banks.

Managed futures have grown as portfolio managers have become more acquainted with futures contracts. Also, investors have insisted on greater access to world markets, with more exposure to non-financial sectors, such as agriculture and precious metals.

It is estimated that managed futures reached about $150 billion in the second quarter of 2006 a 17.62% increase in assets over the previous 12 months. One reason for this incredible growth is independent studies that show managed futures offer far too many benefits for wise investors to ignore:

Reduced portfolio volatility risk
Possible enhanced portfolio returns
Opportunity for gains in any economic environment and hard times are often very good for commodities
Easy access to global markets

Perhaps one of the most significant studies of managed futures was released in 2004 by the Yale International Center for Finance. Authors Gary Gorton and K. Geert Rouwenhorst wrote Facts and Fantasies About Commodity Futures after creating their own commodities index based on returns between July 1959 and March 2004. The authors discovered that between 1962 and 2003, the cumulative performance of futures has been triple the cumulative performance of matching equities.

The term matching equities refers to stocks that are related to commodities. Many investors buy oil and food companies, for example, rather than futures assuming stocks are the safer vehicle.

But that fantasy is only one of many that Gorton and Rouwenhorst debunk with facts:

Volatility of the futures they studied was slightly below that of the S& P 500.
Equities have more downside risk than commodities. A stock can shrink to nothing very fast. But commodities like corn, sugar and oil, for example, will always retain value.
Commodity returns were negatively correlated with equity and bond returns. This means that commodities may do very well in the event of a stock market downturn or low interest rates.

Finding the right managed futures fund can be tricky for amateurs, because there are so many to choose from, and many claim to offer excellent gains.

To assist those investors who are eager to enhance their portfolios, George Mahshigian, a 30-year veteran of the markets, founded Lions Futures Management, Inc., a research and advisory brokerage firm in Van Nuys, CA.

Mahshigian has developed a system for analyzing professional money managers known as commodity trading advisors (CTAs). His system is designed to stop investors from making a common mistake: choosing a money manager based only on annual returns.

Mahshigian believes it is far wiser to focus on risk management because investors are more likely to stay with a fund that doesnt have dramatic dips on its way to making great gains.

Also, since he knows that individuals often dont do their homework, Mahshigians firm does it for them: Lions Futures Management makes CTAs jump through hoops proving their trading records are accurate, and back-office management techniques are sound.

Copyright 2007

Douglas Glenn Clark is the author After The Noise and T-Bonding with the Trend, and the founder of the wealth blog Clark teaches simple methods for creating wealth. Visit for free e-books.