CAN MAKE
04 ANALYSIS
TRUMP CTAs GREAT AGAIN?
CAN
MAKE
Will Trump-driven volatility lead to a resurgence in trend or will CTAs suffer in a rising interest rate environment? by Chris Hawes
FEBRUARY 2017
004_007_CTA47_Coverfeature.indd 4
01/02/2017 15:25
added to yearly gains finishing 2016 up 13.4%, according to Morningstar data. “If you’re looking for some sort of inflationary hedge, the best markets would be energy, metals, and softs. Markets that either have high inflation or very low or negative inflation,” says Per Ivarsson, head of investment management at RPM Risk & Portfolio Management, a Stockholm-based FoHF. “If you look at inflation as a proxy for rising interest rates, FX is the one sector that has historically underperformed,” adds Ivarsson. “Companies that have financed operations with dollar debt are going to get hurt in a strong dollar environment because they are going to have to either hedge or they’re going to have to find more money to pay for their dollar debt roll-overs.”
The resurgence of trend? In a recent analysis into the prevalence of trend in macro returns, founder and CEO of Paris-based XR Research Paul Buigues makes the point that “a perfect investor is not a trendfollower. Instead, he is a perfect trend anticipa-
fully convinced that Trump’s economic policy, centred on protectionism and fiscal stimulus, will work out well for US small cap companies.” The hope for an economic rejuvenation under Trump also extends to a belief that the economy will be able to absorb two potential rate hikes this year. However, Janet Yellen is providing little clarity as to when, or even if we are likely to see this rise in rates as she waits to see how the market will react to Trump’s initial policy implementations. As managed futures enter a rising rate environment for the first time in a generation, opinions are split as to how the CTA sector will fair. As recently set out in CTA Intelligence by RCM Alternatives managing partner Jeff Malec, the first view is that managed futures “is a long/ short strategy, and is just as profitable and capable of capturing big down trends in bonds as it was in capturing the big up trend in bonds.” On the other hand, contrarians such as Roy Niederhoffer argue that a downtrend in bonds/ rise in yields would not be as profitable as the previous bond rally because of the negative carry associated with the trade. He has shown
We have not seen an incoming president quite like Trump, but there is no reason at this stage for undue concern” Robert Frey, FQS Capital Partners tor at a given trading frequency”. According to a Société Générale report: “Hedge funds have very high expectations for the domestically orientated US small caps of the Russell 2000. “This would suggest that hedge funds are
that roughly two-thirds of the return trendfollowers extracted from bond markets was due to the roll yield and that if bonds remain in backwardation while interest rates go up, CTAs could lose that roll yield and achieve nowhere near the returns they saw on the up-trend. If
Trump: Policy uncertainty vs S&P 500 change News-based policy uncertainty index S&P 500 Index
300
2300
2200
250
2100 200 2000 150 1900 100
S&P 500 index
News-based policy uncertainty index
S
ince 8 November, markets have exhibited a resumption of clear trends: higher dollar, higher stocks and lower bonds. President Donald Trump’s inauguration speech, which did little to outline future policy intention, also did little to dull the anticipation that the incoming administration may actually provide some much needed economic stimulus. As every market force, from the Fed to the trading desk, waits in anticipation for Trump’s first actions as president, the market has edged higher against spikes in the level of policy uncertainty. While hopes that 22 January would be a gigantic break-out day failed to materialise there is still a mood of positivity among CTA managers, as the likelihood of Trump tripping up could result in some sustained trends, and perhaps push trend-following back into vogue. Beyond the unprecedented unpredictability of a Trump administration, the scarcity of CTA performance data in comparable economic environments makes it difficult to predict how CTAs will perform over the next 12 months. With the emergence of financial futures in the mid-80s coinciding with the start of the long bull-run for bonds, providing any sort of comparison is difficult. “I really don’t believe that Trump can fit into any sort of back-testing, so that will give an edge to discretionary managers,” says former Graham PM and Abingdon Global founding principal Stephen Klein. “[Discretionary managers] can control their outstanding open equity a bit better through volatility and risk controls and they can initiate positions based on whether Trump takes action, which may not be on the chart. “For me, I’ve found that my best trades over the years have come through what’s on the chart and then the fundamentals make sense of it – Donald Trump could throw that on its head.” With the Fed continuing to move away from central bank intervention and quantitative easing, the next 12 months should see significant currency dislocation as other markets continue to tighten their control over fiscal policy, says Mark Rzepczynski, former president of John Henry & Co, and current CEO of Amphi Research and Trading. Combined with Trump’s “trillion-dollar” infrastructure investment plan driving interest rates, the potential for a stronger dollar is going to have a significant effect on global currency markets. “A stronger dollar is going to have huge ramifications for emerging markets, which will spill over into commodities,” says Rzepczynski. While interest-rate-sensitive commodities suffered losses in Q4, industrial commodities
ANALYSIS 05
1800
50 Jan-15
Jul-15
Jan-16
Jul-16
1700 Dec-16
FEBRUARY 2017
004_007_CTA47_Coverfeature.indd 5
01/02/2017 15:26
06 ANALYSIS
Obama: Policy uncertainty vs S&P 500 change News based policy uncertainty index S&P 500 (%) Change
1600
1400
200
1200 150 1000
100
S&P 500 index
News-based policy uncertainty index
250
800
50 Jan-08
Jul-08
CTAs do struggle in a rising rate environment, a large number of managers who are heavily focused on bonds may be faced with a diminished return profile in the coming months and years. The chances of any sustained trends are also skewed by how Congress will react to Trump. “If the tea-party republicans have an 11th-hour moment of judgement and move to block Trump in congress, it could lead to 100 point swings in the S&P 500,” says Abingdon’s Klein.
Jan-09
Jul-09
600 Dec-09
some episodes of counter trend and reversal.” If sustained trends fail to develop, size and speed will become a manager’s greatest asset, and these could draw both significant investor interest and positive returns. “As larger managers tend to trade slower, their effectiveness at capturing trend reversals becomes compromised,” says Prashant Kolluri, president of Quest Partners, which was one of the better performing CTAs of 2016.
I think that a guy like Trump will look to reach a few milestones, which will subsequently create more volatility through headlines” Jean Jacques Duhot, Arctic Blue Capital For CTAs this could widen the gap between winners and losers. “There is more strategy performance dispersion in managed futures than there has been in the past,” says Rzepczynski. “You have two managers that classify themselves as a trend-followers but one could be down double digits, while the other could be up almost double digits [for the year].” With policy uncertainty at a 20-year high, according to the US Economic Policy Uncertainty Index, CTA strategies able to filter out “noisy” markets may prosper over the coming months as others fail to find their footing. “As we move to the next step, the central banks cannot control the tail risk and suddenly we’re in a position where CTAs can benefit from that diverging price action re-emerging in a more sustainable fashion,” says Jean Jacques Duhot, CIO of Arctic Blue Capital. “I think there will be more breakouts and potentially more sustainable trends, but with
“This relationship between manager size and time horizon of trades has not be penalised in recent years due to the extended trend in fixed income that was exasperated by QE,” he adds. With a de-centralisation of fiscal policy adding to a climate conducive to short-term trend, Kolluri isn’t the only one to be bullish over the prospects for short-term traders. “If there’s going to be some volatility breakout in either direction and some trends that could persist over a relatively short time period, before reversing, I would think that would be beneficial for short-term managers,” says Stephen Klawitter, vice-president at IASG, a Chicago-based introducing broker. “[It would be positive for] the smaller managers who have exposure to commodities and aren’t as heavily anchored in financials, particularly bonds, the managers who have a little bit more of a flexible mandate.” For now, however, managers are cautious,
and are waiting to get a gauge on what we can come to expect over the next four years. “We have not seen an incoming president quite like Trump and that brings a certain amount of uncertainty with it, but there is no reason at this stage for undue concern,” says Robert Frey, CEO and CIO of FQS Capital Partners. “It is not an interval where I would seek additional leverage of debt.” Beyond which CTA strategies are more likely to prosper in 2017, the uncertainty around equity markets compounds the importance of having a diversifier in an investor’s portfolios. “It’s always a story of having a balanced portfolio between trend following and some of the shorter term strategies on a portfolio level,” says Ivarsson.
Media-driven markets Despite spikes in policy uncertainty around Brexit and the US election, investors have remained bullish on US equity growth, with a steady upward trend in the S&P500 developing throughout 2016 and in to 2017. Although to date, Trump’s tweets have had a significant impact on the share price of individual companies such as General Motors and Boeing, experts predict @realDonaldTrump will be an important factor behind broader market moves over the next 12 months. “Obama was a little bit thin in having progress to report,” says Duhot, from Arctic Blue. “I think that a guy like Trump will look to reach a few milestones, which will subsequently create more volatility through headlines.” The graph overleaf shows that to-date investors have been cautiously optimistic that the Trump administration will implement policy to stimulate US economic resurgence, despite high policy uncertainty. Comparatively, the graph above left demonstrates the challenges Obama faced when entering office in clarifying policy and driving through fiscal stimulus amid the financial crisis. Obama failed to encourage any meaningful S&P 500 growth until February 2009 when he signed the American Recovery and Reinvestment Act, pushing the index into an upward trend that would continue through to the end to the end of the year. With the uncurated release of news and policy through social media becoming a cornerstone of the Trump administration, particularly given the president’s frosty relationship with traditional media outlets, we could see social media influence much sharper stock market moves over the next 12 months. Chris Hawes
Senior Correspondent, CTA Intelligence [email protected]
FEBRUARY 2017
004_007_CTA47_Coverfeature.indd 6
01/02/2017 15:26
TRUMP CTAs GREAT AGAIN?
CAN
MAKE
Will Trump-driven volatility lead to a resurgence in trend or will CTAs suffer in a rising interest rate environment? by Chris Hawes
FEBRUARY 2017
004_007_CTA47_Coverfeature.indd 4
01/02/2017 15:25
added to yearly gains finishing 2016 up 13.4%, according to Morningstar data. “If you’re looking for some sort of inflationary hedge, the best markets would be energy, metals, and softs. Markets that either have high inflation or very low or negative inflation,” says Per Ivarsson, head of investment management at RPM Risk & Portfolio Management, a Stockholm-based FoHF. “If you look at inflation as a proxy for rising interest rates, FX is the one sector that has historically underperformed,” adds Ivarsson. “Companies that have financed operations with dollar debt are going to get hurt in a strong dollar environment because they are going to have to either hedge or they’re going to have to find more money to pay for their dollar debt roll-overs.”
The resurgence of trend? In a recent analysis into the prevalence of trend in macro returns, founder and CEO of Paris-based XR Research Paul Buigues makes the point that “a perfect investor is not a trendfollower. Instead, he is a perfect trend anticipa-
fully convinced that Trump’s economic policy, centred on protectionism and fiscal stimulus, will work out well for US small cap companies.” The hope for an economic rejuvenation under Trump also extends to a belief that the economy will be able to absorb two potential rate hikes this year. However, Janet Yellen is providing little clarity as to when, or even if we are likely to see this rise in rates as she waits to see how the market will react to Trump’s initial policy implementations. As managed futures enter a rising rate environment for the first time in a generation, opinions are split as to how the CTA sector will fair. As recently set out in CTA Intelligence by RCM Alternatives managing partner Jeff Malec, the first view is that managed futures “is a long/ short strategy, and is just as profitable and capable of capturing big down trends in bonds as it was in capturing the big up trend in bonds.” On the other hand, contrarians such as Roy Niederhoffer argue that a downtrend in bonds/ rise in yields would not be as profitable as the previous bond rally because of the negative carry associated with the trade. He has shown
We have not seen an incoming president quite like Trump, but there is no reason at this stage for undue concern” Robert Frey, FQS Capital Partners tor at a given trading frequency”. According to a Société Générale report: “Hedge funds have very high expectations for the domestically orientated US small caps of the Russell 2000. “This would suggest that hedge funds are
that roughly two-thirds of the return trendfollowers extracted from bond markets was due to the roll yield and that if bonds remain in backwardation while interest rates go up, CTAs could lose that roll yield and achieve nowhere near the returns they saw on the up-trend. If
Trump: Policy uncertainty vs S&P 500 change News-based policy uncertainty index S&P 500 Index
300
2300
2200
250
2100 200 2000 150 1900 100
S&P 500 index
News-based policy uncertainty index
S
ince 8 November, markets have exhibited a resumption of clear trends: higher dollar, higher stocks and lower bonds. President Donald Trump’s inauguration speech, which did little to outline future policy intention, also did little to dull the anticipation that the incoming administration may actually provide some much needed economic stimulus. As every market force, from the Fed to the trading desk, waits in anticipation for Trump’s first actions as president, the market has edged higher against spikes in the level of policy uncertainty. While hopes that 22 January would be a gigantic break-out day failed to materialise there is still a mood of positivity among CTA managers, as the likelihood of Trump tripping up could result in some sustained trends, and perhaps push trend-following back into vogue. Beyond the unprecedented unpredictability of a Trump administration, the scarcity of CTA performance data in comparable economic environments makes it difficult to predict how CTAs will perform over the next 12 months. With the emergence of financial futures in the mid-80s coinciding with the start of the long bull-run for bonds, providing any sort of comparison is difficult. “I really don’t believe that Trump can fit into any sort of back-testing, so that will give an edge to discretionary managers,” says former Graham PM and Abingdon Global founding principal Stephen Klein. “[Discretionary managers] can control their outstanding open equity a bit better through volatility and risk controls and they can initiate positions based on whether Trump takes action, which may not be on the chart. “For me, I’ve found that my best trades over the years have come through what’s on the chart and then the fundamentals make sense of it – Donald Trump could throw that on its head.” With the Fed continuing to move away from central bank intervention and quantitative easing, the next 12 months should see significant currency dislocation as other markets continue to tighten their control over fiscal policy, says Mark Rzepczynski, former president of John Henry & Co, and current CEO of Amphi Research and Trading. Combined with Trump’s “trillion-dollar” infrastructure investment plan driving interest rates, the potential for a stronger dollar is going to have a significant effect on global currency markets. “A stronger dollar is going to have huge ramifications for emerging markets, which will spill over into commodities,” says Rzepczynski. While interest-rate-sensitive commodities suffered losses in Q4, industrial commodities
ANALYSIS 05
1800
50 Jan-15
Jul-15
Jan-16
Jul-16
1700 Dec-16
FEBRUARY 2017
004_007_CTA47_Coverfeature.indd 5
01/02/2017 15:26
06 ANALYSIS
Obama: Policy uncertainty vs S&P 500 change News based policy uncertainty index S&P 500 (%) Change
1600
1400
200
1200 150 1000
100
S&P 500 index
News-based policy uncertainty index
250
800
50 Jan-08
Jul-08
CTAs do struggle in a rising rate environment, a large number of managers who are heavily focused on bonds may be faced with a diminished return profile in the coming months and years. The chances of any sustained trends are also skewed by how Congress will react to Trump. “If the tea-party republicans have an 11th-hour moment of judgement and move to block Trump in congress, it could lead to 100 point swings in the S&P 500,” says Abingdon’s Klein.
Jan-09
Jul-09
600 Dec-09
some episodes of counter trend and reversal.” If sustained trends fail to develop, size and speed will become a manager’s greatest asset, and these could draw both significant investor interest and positive returns. “As larger managers tend to trade slower, their effectiveness at capturing trend reversals becomes compromised,” says Prashant Kolluri, president of Quest Partners, which was one of the better performing CTAs of 2016.
I think that a guy like Trump will look to reach a few milestones, which will subsequently create more volatility through headlines” Jean Jacques Duhot, Arctic Blue Capital For CTAs this could widen the gap between winners and losers. “There is more strategy performance dispersion in managed futures than there has been in the past,” says Rzepczynski. “You have two managers that classify themselves as a trend-followers but one could be down double digits, while the other could be up almost double digits [for the year].” With policy uncertainty at a 20-year high, according to the US Economic Policy Uncertainty Index, CTA strategies able to filter out “noisy” markets may prosper over the coming months as others fail to find their footing. “As we move to the next step, the central banks cannot control the tail risk and suddenly we’re in a position where CTAs can benefit from that diverging price action re-emerging in a more sustainable fashion,” says Jean Jacques Duhot, CIO of Arctic Blue Capital. “I think there will be more breakouts and potentially more sustainable trends, but with
“This relationship between manager size and time horizon of trades has not be penalised in recent years due to the extended trend in fixed income that was exasperated by QE,” he adds. With a de-centralisation of fiscal policy adding to a climate conducive to short-term trend, Kolluri isn’t the only one to be bullish over the prospects for short-term traders. “If there’s going to be some volatility breakout in either direction and some trends that could persist over a relatively short time period, before reversing, I would think that would be beneficial for short-term managers,” says Stephen Klawitter, vice-president at IASG, a Chicago-based introducing broker. “[It would be positive for] the smaller managers who have exposure to commodities and aren’t as heavily anchored in financials, particularly bonds, the managers who have a little bit more of a flexible mandate.” For now, however, managers are cautious,
and are waiting to get a gauge on what we can come to expect over the next four years. “We have not seen an incoming president quite like Trump and that brings a certain amount of uncertainty with it, but there is no reason at this stage for undue concern,” says Robert Frey, CEO and CIO of FQS Capital Partners. “It is not an interval where I would seek additional leverage of debt.” Beyond which CTA strategies are more likely to prosper in 2017, the uncertainty around equity markets compounds the importance of having a diversifier in an investor’s portfolios. “It’s always a story of having a balanced portfolio between trend following and some of the shorter term strategies on a portfolio level,” says Ivarsson.
Media-driven markets Despite spikes in policy uncertainty around Brexit and the US election, investors have remained bullish on US equity growth, with a steady upward trend in the S&P500 developing throughout 2016 and in to 2017. Although to date, Trump’s tweets have had a significant impact on the share price of individual companies such as General Motors and Boeing, experts predict @realDonaldTrump will be an important factor behind broader market moves over the next 12 months. “Obama was a little bit thin in having progress to report,” says Duhot, from Arctic Blue. “I think that a guy like Trump will look to reach a few milestones, which will subsequently create more volatility through headlines.” The graph overleaf shows that to-date investors have been cautiously optimistic that the Trump administration will implement policy to stimulate US economic resurgence, despite high policy uncertainty. Comparatively, the graph above left demonstrates the challenges Obama faced when entering office in clarifying policy and driving through fiscal stimulus amid the financial crisis. Obama failed to encourage any meaningful S&P 500 growth until February 2009 when he signed the American Recovery and Reinvestment Act, pushing the index into an upward trend that would continue through to the end to the end of the year. With the uncurated release of news and policy through social media becoming a cornerstone of the Trump administration, particularly given the president’s frosty relationship with traditional media outlets, we could see social media influence much sharper stock market moves over the next 12 months. Chris Hawes
Senior Correspondent, CTA Intelligence [email protected]
FEBRUARY 2017
004_007_CTA47_Coverfeature.indd 6
01/02/2017 15:26
