$14B Hedge Fund Struggling To Find Investments In Low Vol Market

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Quiet market environments can be challenging for certain alternative investment strategies, particularly those of a quantitative nature. Just ask Graham Capital Management founder Kenneth Tropin, who manages more than $14 billion in a variety of quantitative and discretionary strategies. In a July letter to investors reviewed by ValueWalk, 13 of the hedge fund’s 14 strategy types are negative performers year to date, with the Graham Quant Macro Series A being the only winner. On a monthly basis, however, most of the strategies found success in July, particularly those that mixed discretionary and quantitative style sets. Tropin, however, thinks markets could change direction as geopolitical and central bank maneuvers could surface.

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Graham Capital Management – Market environment has not been positive for CTA strategies

While performance has been challenging for Graham in 2017, with the firm’s Tactical Trend Capped Beta Series A strategy down -15.36% year to date leading the way, such CTA strategies are having difficulty across the board in 2017. The BarclayHedge BTOP 50, for instance, a gauge of the largest CTA strategies, is off by -3.79% year to date while the Societe Generale CTA index is lighter by -2.22%.

The Graham quantitative strategies are one of the strategies early adopters and have engaged in numerous strategy updates since their founding. The Proprietary Matrix strategy dates back to since 1999, while the $2.3 billion Global Investment Fund II was established in 1995. The firm engages in daily risk management meetings where it assesses, among other items, trend strength and other factors, a source close to the strategy says. Those meetings, which started happening in 2007 after the collapase of Bear Sterns, have had a lot to discuss as many of the market envornments for quantitative strategies have been challanging as of late.

The 2017 market environment for many trend following strategies has been challenging, as should be expected in a low volatility environment governed by range bound trading. The SG Trend Index, a simple measure of price persistence across a variety of markets, if off -4.25% while the SG Short-Term Traders Index is off by -7.37%. Systematic currency traders have also run into trouble as, in part, an on-again, off-again US Federal Reserve switching from perceived dove to hawk and back again has created a muddled environment for discernable market price trends.

Of the trending markets, stock indices, agricultural commodities, and energies have been challenged. Of ten asset categories, only one, base metals, is in a positive trending environment, according to analysis from Niels Kaastrup-Larsen of Dunn Capital Management. In this market environment, Graham Capital is generally finding challenges at present, but that could change.

Graham Capital Management portfolio benefits from equity market exposure to various degrees

The Graham Capital Management portfolio, in some respects, mirrors the larger beta market environment. In the Tactical Trend Capped Beta Portfolio, for instance, found monthly difficulty in the energy markets, agricultural commodities, and precious metals. It performed positively in foreign exchange and base metals. On the year, however, foreign exchange remains its most challenging market, subtracting -4.90% from performance, while Long / Intermediate Term Rates portfolio sleeve is down -3.66%.

The K4D Portfolio, which was up 0.82% in July, benefited from short exposure to the US dollar, which has been in a downtrend for much of 2017 with July seeing strong downside momentum. The fund also benefited from long US and Asian equity exposure.

“U.S. dollar weakness has become a thematic focus of macro traders in recent weeks,” Tropin wrote to investors. Certain some fundamental analysts looking for a trend change. Bank of America Merrill Lynch, for instance, is looking for a dollar trend reversal on a fundamental basis as the US Federal Reserve starts to reduce its nearly $4 trillion balance sheet. Technical indicators as well point to the length and force of trend on a near term basis changing.

“Following more hawkish rhetoric from global central bankers in June and continued rising yields in July, much remains to be seen in terms of the tolerance that central banks will have for relative currency strength,” the report noted. “As global markets react to shifting expectations for interest rate normalization, central bankers in Canada, Australia, and the eurozone are tasked with managing the implications that strengthening regional currencies may have on their respective economies.”

The Graham Capital Management Quant Macro strategy, the one winner year to date, has primarily benefited from significant long equity exposure, which has delivered positive 11.29% performance on the year, while currency, energy, and precious metals trading subtracted -3%, -2.14% and -1.32% respectively.

Markets could change materially in August, Tropin observed, pointing to a normally quiet period of time. But with “ongoing political tensions” colliding with concerns over “the sustainability of equity market strength” amid quantitative easing rolling off around the world, trends could change quickly.

The firm combines discretionary and quantitative strategies in a relatively unique method.

The discretionary strategies involve “several dozen” portfolio managers in a wide variety of markets, such as foreign exchange, sovereign debt, global equity indices, commodities and to a lesser extent credit instruments.

When combining the discretionary with quantitative strategies, Graham uses a quantitative based model and input from an investment committee to adjust allocations based on the strategy type that is working, according to the source. If the market environment for trend following appears to have strong forces supporting it, the allocation to this strategy type increases. 

A spokesperson for Graham Capital declined to comment.

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