By: Mark Rzepczynski
Harvest Exchange
December 17, 2017
Buy in a drawdown? Focus on future and not the past performance
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Managed futures, as a hedge fund strategy, have moved off of its max drawdown since June, its worst drawdown in the last five years, as measured by the SocGen CTA index. For some investors this type of drawdown means an exit from the strategy; however, some of the broader data on manager selection suggest a different approach. The idea of being careful about making investment decision based on a drawdown is consistent with the mean reversion performance analysis of winners and losers.
See,
"Buy the losers and sell the winners? Reverse your thinking and be careful about avoiding or exiting losers"
<span style="color: black; font-family: Trebuchet MS, sans-serif; font-size: small;">"Predicting managed futures returns - Follow the mean reversion"</span>
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Some things to think about before using a drawdown as a decision variable:
1. Style performance is dynamic. The best (worst) style today may not be the best (worst) tomorrow. The real question is whether it has added to portfolio diversification.
2. Momentum strategies have been subject to steep drawdowns. The reason so many have not gotten on the momentum bandwagon has been the strong downdrafts in performance. If a deep drawdown has occurred, there is less reason for it to be sustained.
3. Trend-following success is conditional. If there is no price dispersion (trends), trend-following will not make money. Breaking down performance attribution is critical in a drawdown.
4. Trend-following does better the there is greater risk-aversion or a "risk-off" environment. The last year has been a risk-on period which generally means lower returns for managed futures. A drawdown should not be surprising and investors likely made money with their risky asset portfolio.