Are these Points Still Valid?
Some of these features have been challenged lately especially in the second half of 2008 when the Dow Jones-UBS Commodity IndexSM lost 50% in USD and commodities came crashing down in lockstep with other so-called risky assets. That did not however significantly alter the overall relationship between commodities and
traditional asset classes as sweeping near-sighted judgments might suggest.
Commodities remain very lowly correlated to both bonds and equities on a rolling basis (inferior to 0.3 in absolute terms) and prove to be no more volatile over time. More importantly, in the long run, commodity return patterns tend to be desynchronized from return patterns of traditional asset classes thus mitigating downside risks at the overall portfolio level. Although
commodities may not always outperform or over a long time period generate a higher return than other asset classes, their unique pricing dynamics may actually provide excess return when traditional asset classes are faltering.
MAC Strategy: A New Approach to Commodities Investing
Investors willing to access the commodities asset class basically face a straightforward choice. Either they opt for an index fund which tracks a well-known benchmark, such as the newly rebranded Dow Jones-UBS Commodity Index or the S&P GSCI™ Commodity Index, or they use an active strategy. In any case, the vast majority of investments are made through commodities
futures contracts, whether in a passive or active strategy.
Active solutions offer by far the most flexibility and return potential. They can capture price inefficiencies and mismatches by drilling down to the individual commodity level. They have a capacity to mitigate downside risk as they may opt out of specific commodities by reducing exposure or going short in downward trending markets contrary to commodity index solutions which
offer no such alternative.
SSgA and SSARIS, a long-time commodity trader and a State Street Global Alliance company. have joined forces to launch the Multisource Active Commodity strategy.
Investment Process
The idea for this strategy was to combine the expertise of SSgA in state-of-the-art quant techniques and SSARIS's proprietary commodities trading program in order to come up with an active commodity strategy that would seek to outperform the Dow Jones-UBS Commodity Index by 5 to 7% on an annual basis with a tracking error in the 8 to 10% range. The Dow Jones-UBS
Commodity Index is typically more balanced and somewhat less volatile than the S&P GSCI Commodity Index, as a sector cap of 33% applies which naturally constrains the prevalence of the energy complex.
Dual Approach
The Multisource Active Commodity or MAC strategy is structured around a dual approach, bringing together two complementary pools of positions, a core and a tactical pool, each making up 50% of the notional amount of the strategy.
Core Pool
The core pool is based on the output of two distinct models which take a medium term view of the markets. The Backwardation model focuses on the slope at the front end of the futures curve to determine the premium or discount associated with each market's "roll". The second model is a Markov regime-switching model which uses probability analysis to disaggregate
the "fat-tailed", leptokurtic returns found in commodity markets into more normal, Gaussian distributions. Both were developed by quantitative researchers in SSgA's Advanced Research Center. Both models generate an expected return estimate for each commodity market, which is used as a key input for an optimization process. This optimization results in a set of
over-or underweight positions relative to the benchmark as shorts are allowed within the core pool insofar as the core pool exposure remains 100% in net terms.
Tactical Pool
The tactical pool is more short term in nature and is managed independently by SSARIS based on the output of trend-following models. The tactical pool may incorporate off-benchmark commodities. Positions are likely to be adjusted swiftly intra-month to capture market momentum. Leverage is allowed in the tactical pool so the exposure level may vary from 0% in adverse markets
to close to 300% at the highest.
The overall exposure level of the strategy, therefore, ranges between 50% and 200% of the notional amount. All trades are executed through the SSARIS platform, both for the core as well as the tactical pool. SSARIS traded over USD 17 billion in commodities from 2006 to 2008.
Cash Collateral
Last but not least, the cash collateral is invested in money market funds managed by SSgA. The strategy remains very conservative in this regard: collateral is not meant to generate excess return. For investors who choose to implement via a separate account, a choice of collateral options is available.
Performance
Since the strategy was launched, the markets have been very challenging with a surge in commodity prices until the summer of 2008, followed by a 50% drop, and then a roller coaster 2009. In spite of all this, the strategy has managed to perform as we had expected in both up and down markets.
Apart from the strategy itself, we also offer blend solutions which combine MAC with a commodities index solution for investors who are not willing to take on 100% of the active risk inherent in MAC.
Conclusion
We believe the MAC strategy is an innovative way to gain exposure to the commodities asset class whose diversification virtues within a global portfolio are well established. The strategy allows investors to take advantage of potentially attractive long term benefits of investing in the commodities space while opportunistically navigating the markets thereby mitigating
downside risk.
Thank you.
|
