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Comparing CTA Indexes

In their recent white paper, “A Comparison of CTA Indexes,” Red Rock Capital principals Thomas N. Rollinger and Scott T. Hoffman compare the major CTA indexes.  Below is an excerpt of the paper’s primary thesis.  To view the entire paper, click here: A Comparison of CTA Indexes (Nov 2013)

 

By Thomas N. Rollinger and Scott T. Hoffman

ALTEGRIS 40 INDEX

The Altegris 40 Index is designed to represent the performance of the 40 largest CTA programs based on program assets. All programs in the Altegris CTA database are eligible for inclusion in the index. Each month all CTA programs in the Altegris database are ranked by program assets. The 40 largest programs are selected as index constituents for the following month. The index return for the month is the asset weighted average return of the constituent programs for that month. As of September 2013, the 40 programs in the index represented assets of approximately $94 billion.

The proprietor of the Altegris 40 Index is Altegris Clearing Solutions, LLC, and they, in conjunction with Altegris Advisors, LLC, calculate the index. The index is available without cost online at www.managedfutures. com and Altegris Clearing Solutions.

BARCLAY BTOP50 INDEX

The Barclay BTOP50 Index is designed to represent the performance of CTA programs in the Barclay Hedge database representing at least 50% of total assets in all CTA programs that are open to new investment. To qualify for inclusion in the index the program must be open to new investment, the manager must be willing to report daily returns, the program must have two years of performance history, and the pro­gram CTA must have at least three years of operating history.

The index calculation methodology is such that the index performance represents the return of a hypo­thetical portfolio comprising an equal dollar allocation to each index constituent at the beginning of each calendar year. During the fourth quarter of each year, all CTA programs in the BarclayHedge database that meet the inclusion requirements (candidate universe) are ranked by third quarter ending program assets. Beginning with the largest program, the constituent list for the following year is compiled by successively adding the next largest program to the constituent list until a minimum of 20 programs have been included and the cumulative program assets of the constituent list equals at least 50% of the total program assets of the candidate universe. The result of this process is the constituent list for the index for the following calen­dar year. At the beginning of the year a hypothetical portfolio is formed with each constituent program given an equal dollar allocation. The index daily return is simply the daily return of this hypothetical portfolio. There is no rebalancing of allocations during the year.

As of October 2013 there were 20 constituent pro­grams in the index.

The proprietor of the Barclay BTOP50 Index is Bar­clayHedge, Ltd., and they also calculate the index. The index is available without cost online at www.bar­clayhedge.com

BARCLAY CTA INDEX

The Barclay CTA Index is designed to broadly rep­resent the performance of all CTA programs in the BarclayHedge database that meet the inclusion re­quirements. To qualify for inclusion in the index, a program must have at least four years of performance history. Additional programs introduced by qualified advisors (advisors who have at least one program that meets the four year history requirement) must have at least two years of performance history.

The index constituent list each year is comprised of all CTA programs that meet the inclusion require­ments at the end of the prior year. At the beginning of the year a hypothetical portfolio is formed with each constituent program given an equal allocation. The index monthly return is simply the monthly return of this hypothetical portfolio. There is no rebalancing of allocations during the year.

As of October 2013 there were 582 constituent pro­grams in the index.

The proprietor of the Barclay CTA Index is Barclay­Hedge, Ltd., and they also calculate the index. The index is available via a $150 yearly subscription which provides a complete monthly historical data set for all of the Barclay CTA Indexes and monthly updates for the next 12 months. BarclayHedge’s website is www. barclayhedge.com

BARCLAY SYSTEMATIC TRADERS INDEX

The Barclay Systematic Traders Index is designed to represent the performance of CTA programs in the BarclayHedge database whose approach is at least 95% systematic. To qualify for inclusion in the index, a program’s approach must be at least 95% systematic and have at least two years of performance history. The index constituent list each year is comprised of all CTA programs that meet the inclusion requirements at the end of the prior year. At the beginning of the year a hypothetical portfolio is formed with each con­stituent program given an equal allocation. The index monthly rates of return are simply the monthly rates of return of this hypothetical portfolio. There is no rebalancing of allocations during the year.

As of October 2013, there were 466 constituent pro­grams in the index.

The proprietor of the Barclay Systematic Traders Index is BarclayHedge, Ltd., and they also calculate the index. The index is available via a $150 yearly subscription which provides a complete monthly historical data set for all of the Barclay CTA Indexes and monthly updates for the next 12 months. Bar­clayHedge’s website is www.barclayhedge.com

CISDM CTA EQUAL WEIGHTED INDEX

The CISDM CTA Equal Weighted Index is designed to broadly represent the performance of all CTA programs in the Morningstar database that meet the inclusion requirements.

The index calculation methodology is designed to exclude, each month, constituent performance deemed to be an outlier observation. Each month, statistics are generated for CTA programs in the Morningstar database that meet the inclusion requirements and that have reported returns for that month. Programs whose returns are +/- 3 standard deviations from the average return are excluded. The index return for the month is the simple average return of the non-exclud­ed programs.

As of October 2013 there were 435 constituent pro­grams in the index.

The proprietor of the CISDM CTA Equal Weighted Index is the Center of International Securities and De­rivatives Markets (CISDM) and their research analysts calculate the index. CISDM provides Morningstar with the index on a monthly basis and it is available without cost on both Morningstar’s and CISDM’s websites. See CISDM’s website at www.isenberg. umass.edu/CISDM

CREDIT SUISSE MANAGED FUTURES HEDGE FUND INDEX

The Credit Suisse Managed Futures Hedge Fund In­dex is designed to broadly represent the performance of Managed Futures hedge funds (in contrast to CTA programs) in the Credit Suisse database representing at least 85% of total Managed Futures hedge fund assets under management. To qualify for inclusion in the index, a fund must provide audited financials, have a minimum $50 million in assets, have a minimum one year of performance history, and consistently report to the database.

At the end of each quarter, funds that meet the in­clusion requirements are added to the constituent list for the following quarter. Constituent funds remain in the index until they cease operations even though they may not continue to meet the initial inclusion requirements. The index return each month is the asset weighted average return of all constituents for that month.

As of September 2013, there were 34 constituent funds in the index.

Credit Suisse is both the proprietor and responsible for calculating the Credit Suisse Managed Futures Index. The index is available without cost online at www.hedgeindex.com

“A rolling 36 month standard deviation of each constituent’s returns is used as the measure of volatility.”

ISTOXX® EFFICIENT CAPITAL® MANAGED FUTURES 20 INDEX

The iSTOXX® Efficient Capital® Managed Futures 20 Index is designed to represent the aggregate return of 20 of the largest CTA programs and be easily replicat­ed as an investment product. To qualify for inclusion in the index, a program must have a minimum of $100 million in assets, be open to new investment, be available through a managed account, be offered with fees lower than or equal to the corresponding publically traded fund, and have at least three years of performance history. At the end of each year all CTA programs that meet the inclusion requirements are ranked by program assets. The 20 largest programs that meet the inclusion requirements are selected as index constituents for the following year. The index return each month is the simple average of the individual volatility adjusted (normalized) return of each constituent. A rolling 36 month standard deviation of each constituent’s returns is used as the measure of volatility.

As of September 2013, the 20 constituents in the index represented over $70 billion in assets.

The proprietor of the iSTOXX Efficient Capital Managed Futures 20 Index is STOXX Ltd, and they independently calculate and publish the index value on a daily basis. Efficient Capital Management serves as the research partner. The index is available online at http://www.stoxx.com/indices/index_information.

NEWEDGE CTA INDEX

The Newedge CTA Index is designed to represent the performance of the 20 largest CTA programs. To qualify for inclusion in the index, a program must be open to new investment and report returns on a daily basis.

At the end of each year all CTA programs in the Newedge CTA database that meet the inclusion requirements are ranked by program assets. The 20 largest programs are selected as index constituents for the following year. At the beginning of the year a hypothetical portfolio is formed with each constituent program given an equal allocation. The index daily return is simply the daily return of this hypotheti­cal portfolio. There is no rebalancing of allocations during the year.

As of October 2013, the 20 programs in the index rep­resented assets of approximately $76 billion.

The proprietor of the Newedge CTA Index is Newedge Group, and they, in conjunction with Bar­clayHedge, calculate the index. The index is available without cost online at www.newedge.com

STARK 300 TRADER INDEX

The Stark 300 Trader Index is designed to represent the performance of the 300 largest CTA programs in the Stark database that meet the inclusion require­ments. To qualify for inclusion in the index, a pro­gram’s CTA must be registered with the NFA and be willing to report performance to the Stark database on the monthly basis.

Each month all CTA programs in the database are ranked by program assets. The 300 largest programs comprise the constituent list for the following month. The index return for the month is the asset weighted average return of the constituent programs for that month.

As of October 2013, the 300 programs in the index represented assets of approximately $75 billion.

Daniel B. Stark & Co., Inc. is both the proprietor and is responsible for calculating the Stark 300 Trader Index. The index is available without cost online at www.starkresearch.com

STARK SYSTEMATIC TRADER INDEX

The Stark Systematic Trader Index is designed to broadly represent the performance of the all CTA programs in the Stark database whose approach is systematic and that meet the inclusion requirements. To qualify for inclusion in the index, a program’s ap­proach must be systematic, the program’s CTA must be registered with the NFA and be willing to report performance to the Stark database on a monthly basis.

The index return for the month is the asset weighted average return of all programs that meet the inclusion requirements for that month.

As of October 2013, there were 357 constituent pro­grams in the index representing approximately $69 billion in assets.

Daniel B. Stark & Co., Inc. is both the proprietor and is responsible for calculating the Stark Systematic Trader Index. The index is available without cost online at www.starkresearch.com

Index 1

In the above table, rebalance frequency refers to how often the index is reset back to its original weighting scheme. The annual rebalancing methodology of the equal weighted Barclay and Newedge indexes has the effect that during the calendar year between rebal­ancing, the effective weight or contribution of well performing constituents increase relative to poorer performing constituents. In this way, the hypothetical portfolio of the initial equal weighted constituents become unbalanced over time; hence the need to re­balance. Technically, rebalancing only has significance when the index reporting period is different than the rebalance period. If the index reporting period is the same as the rebalance period, the index never has a chance to become unbalanced.

Is an asset weighted index better than an equal weighted index? The answer will depend on what aspect of the Managed Futures space the reader is interested in. An asset weighted approach is more representative of the total assets under manage­ment (AUM) in the space. Equal weighting is more representative of the diversity of different trading styles. They both have merit. If one wants to gauge the performance of the majority of AUM allocated to Managed Futures, then they should focus on an asset weighted index. If, on the other hand, they are interested in how the average program did, then they should concentrate their focus on an equal weighted index.

Are more constituents better than fewer? The num­ber of constituents in an index is a measure of how broadly the index represents the performance of CTA programs. Since the large majority of assets in the Managed Futures space are concentrated in a relative­ly small number of the largest managers, the number of constituents in an asset weighted index becomes less significant once the number of constituents in the index represents the large majority of assets being managed in the space. For an equal weighted index, the more constituents represented in the index, the more broadly the index represents the entire diversity of CTA programs in the Managed Futures space. Ad­ditionally, rebalancing and reconstitution events have a bigger impact with a smaller number of constituents since each constituent has a larger percentage impact on the index as a whole, i.e. with 500+ constituents, dropping, adding, or rebalancing will not have much impact on the entire index.

“Some indexes have been designed to be easily replicated in an investable product”

Index 2

Some indexes have been designed to be easily rep­licated in an investable product, such as the Barclay BTOP50 Index, both the Newedge CTA Index and the Newedge Trend Index and the relatively new iSTOXX Efficient Capital Managed Futures Index. Such indexes will necessarily have fewer constituents and qualify constituents by size. These qualifications are necessary to facilitate the practical considerations of actually replicating the index methodology, partic­ularly the issues of manager capacity, reallocation, and rebalancing events.

Index 3

Indexes with a larger number of constituents tend to be less volatile than indexes with a smaller number of constituents possibly due to the more diversification represented by the more broadly defined indexes.

During the analysis period the maximum drawdowns for all CTA indexes were substantially lower than for U.S. Stocks and the traditional 60% Stocks / 40% Bonds institutional portfolio. Furthermore, all three traditional asset class variants exhibited significant amounts of negative skewness, which means the distribution of monthly returns was impacted more by negative outliers than positive outliers – i.e. they showed a propensity for downside volatility / negative fat tails.

When comparing the performance of CTA indexes to those of traditional asset classes like stocks and bonds, it is important to recognize that the return report­ed by CTAs does not include the return on interest earned on any notional amount invested in the pro­gram. This is a significant point which will understate, and in periods of higher interest rates significantly understate, the actual return earned by an investor in a CTA program.

This is because of the notional funding possible in a futures account whereby an investor in a CTA pro­gram is only required to deposit a small fraction of the nominal account size used by the CTA to determine the size of trading positions. The amount not on deposit as margin with the futures broker, termed the notional amount, is retained by the investor and can earn interest outside the futures account. This interest is in fact earned by the investor, but is not includable in the CTA’s reported performance. Current regula­tions prohibit CTAs from imputing interest earned on notional funds; they may only report returns actually earned in the futures account.

All indexes in our survey were very highly correlated to each other regardless of index size, composition, weighting method, or calculation methodology. For the period of 2003 through 2013, the average correla­tion was 0.94 with a minimum of 0.90.

Index 4

To view the entire white paper, click here: A Comparison of CTA Indexes (Nov 2013)

 

About the Authors:

Thomas N. Rollinger Managing Partner, Chief Investment Officer

A 16-year industry veteran, Mr. Rollinger previously co-developed and co-managed a syste-matic futures trading strategy with Edward O. Thorp, the MIT professor who devised blackjack “card counting” and went on to become a quantitative hedge fund legend (their venture together was mentioned in two recent, best-selling books). Considered a thought leader in the futures industry, Mr. Rollinger published the highly acclaimed 37-page white paper Revisiting Kat in 2012 and co-authored Sortino: A ‘Sharper’ Ratio in mid-2013. He was a consultant to two top CTAs and inspired the creation of an industry-leading trading system design software package. Earlier in his career, Mr. Rollinger founded and operated a systematic trend following fund and worked for original “Turtle” Tom Shanks of Hawksbill Capital Management. After graduating college in Michigan, Mr. Rollinger served as a Lieutenant in the U.S. Marine Corps. He holds a finance degree with a minor in economics.

Scott T. Hoffman Partner, Chief Technology Officer

Mr. Hoffman graduated Cum Laude with a Bachelor of Science degree in Electrical Engineering from Brigham Young University in April 1987. In the 1990s, Mr. Hoffman began applying his engineering domain expertise in the areas of statistics, mathematics, and model development to the financial markets. In April 2003, after several years of successful proprietary trading, Mr. Hoffman founded Red Rock Capital Management, Inc., a quantitative CTA / CPO. Early in his trading career, Mr. Hoffman participated in a CTA Star Search Challenge, earning a $1M allocation as a result of his top performance. Since then, Red Rock Capital’s outstanding performance has earned the firm multiple awards from BarclayHedge. Mr. Hoffman is active in the research areas of risk and investment performance measurement as well as trading model development. His publications include Sortino: A ‘Sharper’ Ratio which he co-authored with Mr. Rollinger.

DISCLOSURE: These are the opinions of the author and may not have considered all risk factors. Nothing on this web site should be construed as an individual recommendation, talk to your independent advisor. The author and Opalesque may have relationships with those people they cover in the publication. Mr. Melin provides a full disclosure of his business relationships to regulators and certain eligible participants who engage him in consulting projects. Managed futures investing involves risk and there are no guarantees of safety or future performance being implied. Managed futures can be a risky investment. This web site and its content is subject to the terms of the web site. Risk Disclosure and terms of web site are available here: http://www.uncorrelatedinvestments.com/templates/Disclaimer.html Performance information received on this site is provided by third parties and deemed reliable but there is no guarantee relative to same. Performance reporting sources and quality assurance techniques may include, but are not limited to: disclosure document, CTA self reporting, brokerage firm reporting, consultant reporting, spot checking other reporting databases; nonetheless no guarantee of accuracy or implication performance verification or auditing is being made by the publishers. The CTA Database is a project separately managed from www.uncorrelatedinvestments.com.

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