ofi10mar2009

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Trends, Tails and PoliticsFutures “speculation” continues to be blamed for driving up oil prices in 2008. That this notion resonates with the public, despite the fall in prices as demand slumped, may be taken as an indicator of ignorance. Futures and options are difficult to understand. I, for one, always wondered how anyone can successfully ride the trends in these volatile markets. Luckily, Ken Tropin of Graham Capital is good at explaining how he does it (next page).

The key is to go for small losses and big gains —thin left tail and fat right tail, in the parlance used a lot last year as big losses emerged in financial firms. In Futures Lab, we present a Graham Capital study that compares the tails of various hedge fund strategies. Even experienced investors can miss the patterns obscured by monthly performance data.

What are the odds that politicians will understand these complex markets and make wise policy? I worry about the conventional wisdom of the day that more regulation is needed to stamp out speculation, especially as the rationale that futures investors drove up commodity prices is likely false.

Stanford professor John Taylor showed that dollar-denominated oil prices rose in tandem with the federal funds rate in 2007 and early 2008 as the Federal Reserve cut rates ahead of other central banks and the US dollar depreciated. A recent report from JP Morgan documents a surge in the demand for diesel, largely due to market disruptions in China and other countries, in the 12 months before the oil price peak.

A combination of these effects probably explains almost all of the 2008 price increase. Nevertheless, our review of futures-related regulatory proposals suggests that a major overhaul may be on the way. Let’s hope managed futures does not end up as a whipping boy—according to the dictionary, someone raised with a prince and whipped for the latter’s misdeeds.

Chidem [email protected]

In This Issue

Founding Father Q&AKen Tropin, founder and chairman of Graham Capital Management, tells us how he approaches market trends...........................................2

Futures LabInsight on how to make the tails of the distribution work for you in hedge fund investing ....................4

Insider TalkWhy Don’t CTA Assets Grow? Two veterans offer a contrarian view.....6

News BriefsDunn’s futures fund is the top performer in a life insurance database .....................................8

Practitioner ViewpointManagers offer their perspective on how to turn market volatility into opportunity. ................................9

Manager ProfilesUp-and-coming managers comment on their strategy and the markets. ....................................11

Regulators & CourtsRegulatory Sea Change May Hit Futures ......................................13

Top TenThe most recent ranking from Managed Account Research ......15

ISSUE 3 • 10 MARCH, 2009


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Opalesque Futures Intelligence: Are there always market trends for you to follow?

Ken Tropin: I would not say there are trends all the time that we can take advantage of. It varies year to year. Broadly speaking there are four main sectors that firms like ours trade in—foreign exchange, fixed income, stock index futures and commodities. In an average year, there are two or three significant trends in those sectors. In a very good year from our perspective, there are significant trends in perhaps three of the four sectors we trade.

OFI: How long do those trends last?

KT: It depends on your time frame. At Graham we use four different times frames. The long-term horizon typical of the industry is for us a holding period of more than 30 days. There are meaningful long-term trends in most sectors maybe once or twice a year. Besides those, we pursue intermediate, short-term and high-frequency trading models—high-frequency

meaning the trades last less than one day on average.

OFI: What do systematic models do? KT: In general, they identify trends. Different models have different time horizons. A long-term model might indicate that over the past several months energy prices declined. This is not predictive, not a forecast that energy prices will go down, but an indication that the prevailing trend will continue. We try to get in early in a trend and go with it as it gains momentum. There are many different ways to do this. Our firm has 33 separate trading strategies in our trend following programs. These programs time the market differently and use different ways to decide when to buy or sell.

OFI: How do you know it’ll work?

KT: Over a number of market cycles there are enough situations where a prevailing trend

FOUNDING FATHER Q&A

Winning the Trend RodeoTrends can be wild. How does one ride and survive the gyrations year after year? Ken Tropin, founder and chairman of Graham Capital Management, tells us how he approaches market trends. The funds he manages had varying positive returns in 2008—the flagship Graham Global made 36%. The firm managed about $4.9 billion as of February.

Before founding Graham Capital in 1994, Mr. Tropin was president and chief executive officer of John W. Henry & Company. Earlier he was director of managed futures and president of Demeter Management Corp. at Dean Witter Reynolds. He has served as chairman of the Managed Funds Association and helped found its predecessor organization.


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FOUNDING FATHER Q&A

does in fact continue for some time so that a significant number of trades are successful. By having 33 models that operate independently of each other, we try to get the best statistical advantage that we can and have as many data points as possible, so that over time we have the highest probability of profitable outcome. One model may have a great year and another model a sub-par year, but the overall performance of our portfolio is what matters.

OFI: Trends sometimes reverse abruptly. How do you control the loss when what looked like a persistent trend reverses on you?

KT: That’s the art and science of what we do. There are many techniques. At a minimum we have a stop-loss order on every trade, so that if it turns out that we came in at the peak of a trend and it reverses against us, we lose a modest amount of money and exit the trade. It is inherent in trend following that you allow profitable trades to continue but do not allow losing trades to generate substantial losses.

OFI: You have some winning trades, some losing trades, how do you know you’ll come out ahead?

KT: In this business you need to have ample payoffs from your winning trades but make sure your losing trades do not generate big losses—so the returns have a fat right tail but not much left tail! Suppose over time you make money on half your trades and lose money on the other half. If the winning trades are double the size of the losing trades, then you have a pretty profitable investment.

OFI: Why is managed futures seen as very risky?

KT: Many investors become overly reliant on strategies that have high Sharpe ratios. These are strategies that can have significant left-tail risk—when they lose, they lose a lot, whereas their wins are modest. We saw that in 2008. For instance, for many years convertible arbitrage had 10% to 12% returns with a high percentage of winning months. Then in 2008 convertible arbitrage in general experienced substantial left-tail losses.

OFI: What’s the mistake investors make?

KT: People do not spend enough time focusing on stress periods for markets and the strategies that perform well during those periods. It’s one thing to construct a portfolio that will perform well when the stock market goes up double digits, another altogether to construct a portfolio that will perform well when the market goes down. Most hedge fund styles correlate with equities, but not managed futures. Last year, among all the hedge fund strategies only short sellers and managed futures had gains.

OFI: How should investors view managed futures?

KT: Investors should not look at the returns and volatility of a trend follower as if this were a standalone investment. They should consider the effect of a CTA on their whole hedge fund portfolio, especially during stress periods like 1998, 2001-2002 or last year. Then they will see the value of what we do.

OFI: Why was 2008 a banner year for trend followers?

KT: It was a confluence of factors. There were solid trends in every sector where we trade. In the first half of the year our firm did well being short equity index futures and long commodities, in the second half of the year we reversed those trades. Because we have so many programs, we were able to take advantage of the market from many different time horizons. Later in the year we were long fixed income and the US dollar.

OFI: What’s the outlook for 2009?

KT: Early in 2009 it was a little choppy, but Graham had a profitable start. I think it will continue to be volatile and usually that is constructive for trend followers. It’s hard for us to make money when markets trade in narrow ranges, but that’s unlikely this year with so much going on in the world. So there are opportunities that we hope to use successfully. But in this business you can’t take anything for granted!

“In this business you need to have ample payoffs from your winning trades but make sure your losing trades do not generate big losses.”


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FUTURES LAB

The most commonly used metric of hedge fund strategy performance is the Sharpe ratio. This is the ratio between the annualized return and annualized volatility; it implicitly assumes that volatility is a full measure of risk. When returns are normally distributed, the Sharpe ratio is an appropriate measure of reward versus risk.

But when returns are not normally distributed, the Sharpe ratio by itself may lead to a mis-estimation of the potential reward versus risk. One way to analyze this issue is to look at skew, which measures a distribution’s symmetry. A skew of zero indicates that the distribution is symmetric; negatively skewed distributions have thicker left tails than right, whereas positively skewed distributions have thinner left tails than right.

All else being equal, an investor would prefer strategies with the most positive skew—thick right tail and thin left tail. These would be strategies with large positive returns and the fewest occurrence of large negative returns.

Another method of measuring this characteristic is the ratio of upside to downside volatility. A low upside-to-downside volatility ratio implies that the underlying strategy has large losses more frequently than large gains. This undesirable property can also be detected through a negative skew with high excess kurtosis—a fat left tail.

The table below contains annualized statistics for major hedge fund style indexes based on monthly returns data from January 1994 to December 2008. The starting date is chosen to coincide with the beginning of CSFB/Tremont hedge fund data, which is used for all strategies except systematic global macro. The Barclays Systematic Traders Index was chosen to represent systematic global macro. Funds in this strategy may also be classified as global macro, managed futures or trend-following/Commodity Trade Advisor. CSFB/Tremont does not report an appropriate index for this strategy.

We find that most strategies have a low upside/downside volatility ratio, with only systematic traders and dedicated short bias having a ratio around or above one. A low upside/downside volatility ratio would indicate that the distribution of returns is skewed towards the left. This is confirmed by analyzing skewness. Of the styles with low upside/downside volatility ratios, most have negative skew, as shown in the table.

To summarize, except for systematic traders and dedicated short bias, hedge fund styles have low upside/downside volatility, most have negative skew, and most have high excess kurtosis.

A study by three researchers from Graham Capital Management shows that systematic macro and dedicated short bias investments have a positive skew – fat right tails – while most other hedge fund strategies have a negative skew. The authors, Peter Park, Oguz Tanrikulu and Guodong Wang, conclude that conventional measures are not accurate indicators of risk. Below is an edited excerpt from their paper.

Making the Tails Work for You


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FUTURES LAB

Given the skew statistics, it is likely that monthly returns are not normally distributed. Thus it is not surprising that both systematic traders and dedicated short bias are in the bottom half of strategies when the Sharpe ratio is the metric used to measure performance.

A statistical test showed that only systematic trader returns are likely to be normally distributed. For all other strategy types, we can reject the null hypothesis of a normal distribution at the 99% confidence level. We can conclude that the Sharpe ratio is not a good measure of reward per unit risk.

It is highly probable that when a Sharpe ratio calculated from monthly returns is used to assess risk, the estimated risk is too high for systematic traders and dedicated short bias, while it is too low for the remaining strategy types.

Descriptive Statistics of Monthly Returns

Annualized Return Upside/ Downside Vol Skew

Systematic Traders 6.8% 0.9 0.22

Equity Market Neutral 5.6% 0.1 -11.9

Fixed Income Arb 3.5% 0.2 -4.6

Event Driven 9.6% 0.3 -2.7

Long/Short 9.7% 0.7 0.02

Convertible Arb 5.5% 0.3 -3.5

Dedicated -0.8 1.3 0.77

Emerging Markets 6.7% 0.7 -0.7


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INSIDER TALK

Opalesque Futures Intelligence: Some people argue that investors should consider managed futures a separate asset class and allocate more to it. Is it happening?

Frank Pusateri: I don’t think so. This strategy is poorly understood by clients. There is talk now of more money moving into managed futures but once the stock market comes back, that talk will disappear. Right now CTAs are getting redemptions despite their stellar performance in 2008, because many investors need cash and commodity pools and managed accounts are liquid—they’re truly like ATMs!

Bucky Isaacson: Talking to people in the institutional investor world, it’s clear they’re not looking at this industry any differently than they did before. For instance, they’ve known for years that CTAs offer greater transparency than hedge funds. Why should that make a difference now?

OFI: But don’t some CTAs attract a lot of investment?

BI: Very few CTAs manage more than $500 million. They can’t make the transition to managing big money. There are a few exceptions, like Paul Tudor Jones, who started as a CTA and built a hedge fund business, and Campbell and Winton who still market themselves as CTAs.

OFI: What differentiates those managers? FP: It’s not just a matter of performance, although that has to be there. Those who make the transition to a large shop create hedge fund businesses. They know how to present themselves to investors as reliable money makers with an organization to support the trading.

Why Don’t CTA Assets Grow?With notable exceptions, commodity trading advisors tend to manage small amounts of capital. In a roundtable, we asked Bucky Isaacson and Frank Pusateri why this is the case and what advice they would give to CTAs who want to expand their business.

Mr. Isaacson is president of Future Funding Consultants and a pioneer trend follower. Mr. Pusateri is executive vice president of Fall River Capital LLC and a veteran fund marketer. Together they helped found and develop the predecessor of the Managed Funds Association. Their contrarian view of the industry should be an eye opener.

Frank Pusateri


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INSIDER TALK

BI: To have access to big money you have to show you have operational stability. So you have to spend money to hire people and build a corporate structure. Many CTAs don’t know how to build a business. They focus on trading and don’t pay attention to the business side. They are not set up to deal with clients, don’t have a business plan. Even their web sites are not good.

OFI: What should CTAs do?

FP: They have to realize how important fund marketing is. Take presentations — if your presentation looks like everybody else’s, the investor has no way to distinguish you from the crowd. You have to spend time to build relationships. Meeting a fund of funds representative once or twice a year is not enough. You have to contact several hundred people to raise money. It is now more complicated and expensive than it used to be.

BI: CTAs need to decide how much time and money they can spend on marketing the fund, then make a plan. There are different types of marketing, depending on the resources available. For instance, marketing overseas is very expensive. If the budget is small, the plan may be to build relations with local people. OFI: Are there other common CTA mistakes?

FP: Many CTAs stay with their original program and keep trading in the same way. I believe that at some point the program stops working or it’s reward-to-risk characteristics are no longer competitive. Long-term success requires that the trading style evolve as the competition gets more sophisticated and/or markets change.

OFI: Would you identify some encouraging developments?

FP: Fund seeders did not need to look for CTAs in the past, but maybe now they will. The lack of CTA incubators has been a major problem—there’s little money to develop new talent. Another good thing is that sophisticated allocators now put CTAs and global macro funds into the same bucket. Pensions allocate much more money to hedge funds than to CTAs, so the latter have a better chance if they’re together with global macro. Splitting them is generally an arbitrary distinction.


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NEWS BRIEFS

Dunn’s Is Top Insurance FundA managed futures pool, Dunn’s Insurance Dedicated Futures Fund LLC, was the best performer for 2008 in a specialized database of funds for variable-return life insurance wrap investing. Dunn’s earned 73% for the year and has a compound annual return of 21% since inception in November 2005.

The database, covering insurance-dedicated vehicles in a wide variety of hedge fund and long-only strategies, belongs to Compensation Strategies Inc. The 2008 returns for 63 funds in the database ranged from (-)48% to 73%, according to Bill Dreher of Compensation Strategies. He said that with a couple of exceptions the funds did better than major market indexes.

Dunn’s Insurance Dedicated Futures Fund is a multi-advisor pool which allocates its assets to six systematic trading programs, varying from short-term to long-term and from trend-following to pattern-recognition. All of them trade exchange-listed futures contracts. Martin Money Management Inc. is the Manager. Dunn Capital Management Inc. licenses the fund’s systems and provides trading and back-office services.

To be treated as a life insurance policy for tax purposes in the US, funds have to be dedicated to this kind of investing. The clients typically invest through insurance companies.

ICE Starts CDS ClearingHaving received permission from the Federal Reserve and the Securities and Exchange Commission last week, the IntercontinentalExchange began to process and clear credit default swap indexes. The exchange started with North American Markit CDX indexes; the clearing of liquid single-name CDS is expected in the following months.

The use of CDS, a form of insurance against the default of debt, grew immensely during the credit boom and is blamed for large losses at financial companies, notably AIG, the insurance giant that has been bailed out repeatedly by the US government in recent months. Regulators have called for central clearing of CDS and other exchanges such as CME are expected to get approval to provide this service.

ICE chief executive Jeffrey Sprecher says the clearing system is designed to further enhance well-functioning CDS markets by reducing counterparty and systemic risks and increasing transparency and capital efficiency.

The exchange has entered into an agreement with Markit to produce the daily settlement prices required for mark-to-market pricing, margining and clearing.

Copper Gains ContinueCopper futures went up 10% in the past week as China, the largest consumer of the metal, reportedly stockpiled copper and traders expected greater demand from Chinese stimulus spending. Short sellers covered their positions, giving a further boost to the price.

CME to Clear S&P Goldman Sachs Index Swaps CME Group has signed a licensing agreement with Standard & Poor’s to clear swaps on the S&P GSCI Excess Return Index, a widely used commodity benchmark. Centralized clearing of over-the-counter swaps is expected to appeal to customers because it minimizes counterparty risk, a major concern since the collapse of Bear Stearns and Lehman Brothers.


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PRACTITIONER VIEWPOINT

Walt Gallwas and Jeff Malec of Attain Capital:Managed futures as an asset class has been mostly treading water thus far in 2009, while traditional assets continue their freefall (table below). Investors have a perception problem about the flat returns in managed futures—we just came through one of the best periods of all time, and with that fresh in mind, it is only natural to want the period of greatness to continue along indefinitely. That’s just not realistic.

There could be a technical reason for the flat performance. Many programs use some form of market volatility to size their trades and determine how many contracts of each market to trade for an account they manage. In a simple example, if a market has a range of 10 points normally, and you wish to risk 30 points per trade, you could do three contracts in that market (30/10 = 3: risk/volatility = contracts). Now, if the range of that market, which many managers equate to the possible loss or risk in that market, shoots up to 30 points, the manager may only do one contract (30/30 = 1).

This works fine and well most of the time, when the market movement is roughly equal to the amount the market is moving on average over the past x number of days. But something unique happened since about mid-December through the end of February. That something is a risk/reward mismatch of sorts, where the potential positive return many CTAs plan on decreased because the average move of the markets they track has roughly been cut in half since the volatility peaks in October and November, while the average range which includes that period has remained high.

In this scenario, trades are being placed now with risk based on the highly volatile period, but profit potential is only based on the now lower market moves, which are much smaller than they were back at the peak of the crisis. This mismatch will work itself out in the normal course of business for systematic programs as the algorithms used to measure volatility put more and more weight on recent market conditions

Most observers agree that we’re not out of the woods in terms of volatility by a long shot. And that should be a good thing for managed futures programs once the risk/reward mismatch outlined above works itself out.

Turning Volatility into OpportunitySeveral managers offer their perspective on current markets and how to take advantage of changing conditions.

Asset Class Comparison

YTD Return*

Hedge Funds 1.09%

Cash 0.28%

Managed Futures (-)0.73%

Bonds (-)3.21%

Commodities (-)3.42%

US Stocks (-)18.62%

Real Estate (-)36.58%

* As of 2/27/09 (1/31/09 for Hedge Funds)

Managed Futures = Credit Suisse/Tremont Managed Futures

Index, Cash = 3 mo T-Bill rate, Bonds = Vanguard Total Bond

Market ETF, Hedge Funds = Credit Suisse/Tremont Hedge Index,

Commodities = Reuters/CRB Commodity Index,, US Stocks =

S&P 500 Index, Real Estate = Dow Jones Wilshire Real Estate Securities Index


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PRACTITIONER VIEWPOINT

Ty Andros of TraderView:Volatility will be with us in spades during 2009. As currencies gyrate, investors will run all over the place trying to escape the maelstrom, driving values of stocks, commodities, bonds, energy and other markets up and down.

In 2008, the currency markets offered some of the greatest opportunities. Every currency had substantial moves and many times both up and down, as de-leveraging and stampedes of panic swept through the markets at different times. 2009 will be no different.

Governments are implementing stimulus plans that don’t stimulate, they just consume precious capital. The “Obamination” $920 billion stimulus bill is an 88% permanent expansion of government (new and permanent baseline budget increases and expanded entitlements without the revenues to pay for them) and only a 12% token real investment that will pay itself back from productivity gains. Of course, the $900 billion understates all the costs. Have you ever heard of a government spending item that comes in for less than projected?

When looking at currencies, it is important to note that most currencies are actually IOU’s from morally and fiscally bankrupt governments. Central bankers want to inflate away debts aggressively. Look for the Swiss franc, US dollar and Japanese yen to be strong as borrowers scramble to pay off their debts and convert the home currency into the currency in which they originally borrowed (yen, dollar, Swiss franc).

Once this is done, look for the dollar to reverse probably mid-year and head radically lower. The Swiss will stay stronger, as will the yen; they do not face the money printing requirements in which the US will indulge.

James Mahnke of Shield Plus LLC: Investors need a long term, protected strategy that capitalizes on commodity volatility. A fully-covered, market-neutral strategy with net long option exposures in energy and other raw material markets should meet that need for long term investors.

Such a market-neutral approach combines two opposing positions, such as a long put & long call, and may make money as one position’s gain more than offsets the other’s loss regardless of market direction. (Typically, a long call makes money when commodity prices rise, and a long put appreciates when prices decline).

This market-neutral return profile, having the capability to potentially make money regardless of market direction, gives staying power to the investor. Who knows when the commodity market will spike or collapse? You just want the opportunity to make money when commodities move.


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MANAGER PROFILES

Bill Dreiss of Dreiss Research Corporation

After getting an engineering degree from MIT and an MBA from Harvard, Bill worked at a think tank in the late 1960s, using game theory to model war. Then he got into trading and moved from the United States to Australia.

2008 return: 101%

Comments: “Dreiss Research Corporation trades a wide array of global futures markets using a very long-term systematic approach, with a pattern recognition system based on the concepts and tools of fractal geometry. We feel strongly that most of the profits made available by markets are due to long-term trends related to the business cycle or to fundamental shifts in supply and demand in various industries. While shorter-term techniques usually take a series of bites out of the major economic trend, our approach attempts to capture as much of this trend as possible in a single trade.”

Charlie Wright and Rob Friedl of Fall River Capital

Charlie and Rob had known each other for more than ten years when they formed Fall River in November 1999. They share a strong interest in developing systematic approaches to markets.

2008 return for Global Strategies HL: 27%

Comments: “If we can understand philosophically how markets work, we should be able to get a better understanding of our psychology and be better traders and investors. We develop our programs from over thirty years of historical daily price data. In the last thirty years we have seen almost all the economic and trading environments imaginable. We design our programs to either trade profitably or conserve equity through all of these environments. We trade approximately 84 futures markets from a worldwide universe of over 100 markets. The primary criteria we use is liquidity. Each market must have enough volume to enable us to trade effectively given the size of our orders.”

John Joseph of SEMA4 Group

John has degrees in biology and mathematics and is a published researcher in math.

2008 return for SEMA4 Global Diversified Program: 14.9%

Comments: “The Diversified Program provides access to every liquid futures market in the world through a quantitative model that evaluates asset allocation among worldwide alternatives in commodities, equities, fixed income and currencies in a highly-scalable portfolio. It performs optimally during the most adverse market conditions while producing competitive returns during normal market environments. We have other strategies, such as the SEMA4 Russell 2000 Day Trading Program, which exploits transient intraday pricing inefficiencies in futures on the Russell 2000 index. These pricing inefficiencies are generally created and driven by the activity of institutional equity traders operating on a much longer timescale than our trades.”

Managers with diverse approaches describe their strategy and what they see happening in the markets. Their comments have been edited.


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MANAGER PROFILES

John McLane of Mobius Asset Management

John has been working in the commodity futures industry since 1977, when he began his career with Merrill Lynch as a futures broker in Rochester, New York. He has worked as a futures specialist at Prudential Securities, EF Hutton and Dean Witter.

2008 return for Energy Trading Program: 6%

Comments: “Our Energy Trading Program combines both trend following and counter trend following within a systematic technical methodology. Trading decisions are driven by a proprietary multi-system approach that seeks to capture changes in short term and long-term price momentum. One of the significant features of the program is its capacity to respond quickly to directional changes in markets.”

Kent and Todd Horsager of Compass Strategic Investments

Kent was the chief executive and president of the Minneapolis Grain Exchange. Todd is a CPA with big-four public accounting firm and private equity experience.

Return since Inception (April 2008) for 5-Year Treasury Program: 9.5%

Comments: “This is an enhanced benchmark return (portable alpha) managed account program that invests in US Treasury bonds.”

www.newedgegroup.com

In today’s volatile markets, you want to maximize your opportunities and minimize your exposure.In today’s volatile markets, you want to maximize your opportunities and minimize your exposure. We work with you to understand your strategies, anticipate your needs and optimize your resources through our ongoing investments We work with you to understand your strategies, anticipate your needs and optimize your resources through our ongoing investments in expertise and infrastructure. We offer prime brokerage services spanning all major asset classes, with cross-margining tools, in expertise and infrastructure. We offer prime brokerage services spanning all major asset classes, with cross-margining tools, cutting-edge risk calculation, start-up services and in-depth market intelligence – all geared to taking you where you want to go. cutting-edge risk calculation, start-up services and in-depth market intelligence – all geared to taking you where you want to go. Newedge – committed to helping you reach your goals.Newedge – committed to helping you reach your goals.

Hedge Funds and CTAs

Global Asset Execution Ι Global Asset Clearing Ι Prime BrokerageGlobal Asset Execution Ι Global Asset Clearing Ι Prime Brokerage

“Newedge” refers to Newedge Group and all of its worldwide branches and subsidiaries. Only Newedge USA, LLC is a member of FINRA and SIPC (SIPC only pertains to securities-related transactions and positions). “Newedge” refers to Newedge Group and all of its worldwide branches and subsidiaries. Only Newedge USA, LLC is a member of FINRA and SIPC (SIPC only pertains to securities-related transactions and positions). Newedge Group (UK, Frankfurt and Dubai) do not deal with, or for, Retail Clients (as defined by MiFID and Dubai Financial Services Authority). Only Newedge Canada Inc. is a member of the CIPF. Not all products Newedge Group (UK, Frankfurt and Dubai) do not deal with, or for, Retail Clients (as defined by MiFID and Dubai Financial Services Authority). Only Newedge Canada Inc. is a member of the CIPF. Not all products or services are available from all Newedge organizations or personnel. Consult your local office for details.or services are available from all Newedge organizations or personnel. Consult your local office for details.

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REGULATORS & COURTS

Commodity trading advisors and pool operators in the United States potentially face new laws and rules on several fronts. While none of these have yet been finalized, significant changes in regulation are likely.

In January, US senators Carl Levin (D-Michigan) and Chuck Grassley (R-Iowa) introduced the Hedge Fund Transparency Act of 2009, with the goal of addressing “loophole in securities law that allows hedge funds to operate under a cloak of secrecy” as the two senators put it.

Despite appearing to target hedge funds, this bill would also involve other types of investment funds unless its provisions are changed. It would have a significant impact on anybody running investments through a private investment vehicle, says Ron Geffner of law firm Sadis & Goldberg LLP.

The bill covers any fund that relies on exemptions based on sections 3(c)(1) and 3(c)(7) of the Investment Company Act and has more than $50 million in assets. Mr. Geffner said the proposed legislation in its current form does not exempt CPOs so they would be affected, but there needs to be greater clarity.

CTAs have long been regulated under the Commodity Exchange Act, which is largely similar to the Investment Advisors Act of 1940. The proposed HFTA, however, focuses on funds rather than investment advisors. To be exempt from mutual fund requirements, a firm would have to register with the Securities and Exchange Commission, file an annual information form, maintain books and records as required by the SEC and cooperate with SEC examiners.

One radical departure from past is that the bill requires the disclosure of the identities of the investors in the fund. “I find this requirement rather offensive,” Mr. Geffner said. “After all, the names of investors in mutual funds, for instance, are not published.” In addition, HFTA would mandate information about the structure of ownership interests, affiliations with other financial institutions and assets under management.

Position Limits

Another proposed legislation impinges on futures markets. Last month the House Agriculture Committee approved the Commodity Markets Transparency and Accountability Act 2009 and sent it to the House Financial Services Committee. Levin has introduced a similar bill in the Senate.

Both bills instruct the Commodity Futures Trading Commission to set binding position limits for all commodity contracts while reducing the Commission’s ability to grant exemptions. Some version is almost certain to pass, given popular resentment against what is seen as manipulative speculation in commodities, an impression created by high energy prices in the first half of 2008.

Gary Gensler, President Barack Obama’s nominee to head the CFTC, wrote in a letter to senators that if confirmed by the Senate, he looks “forward to working with Congress, my fellow commissioners and other regulators to consider appropriate capital requirements, business-conduct standards, and other rules for derivatives dealers.”

Regulatory Sea Change May Hit Futures


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REGULATORS & COURTS

He promised to institute position limits on futures trading as well other measures such as moving over-the-counter derivatives to exchanges and looking more closely into hedge funds, electronic markets and foreign exchanges operating in the US.

Mr. Gensler is against the merger of the CFTC with the SEC, an idea that has been advocated on grounds that a unified agency would be a more effective supervisor. If the CFTC were combined with the SEC, CTAs and CPOs would lose their long-time regulator and perhaps become subject to the same rules as all registered investment advisors.

Even without a merger, the two regulators signed a cooperation agreement about a year ago to establish a closer working relationship. Under this agreement, they share information and work together in regulating new products that may have elements of both securities and commodity futures or options.

Other Proposals

Regulatory proposals continue to come from other quarters. The CFTC recently welcomed recommendations by the International Organization of Securities Commissions, which argued for improved supervision of commodity futures markets and better global cooperation toward this end.

The IOSCO identified factors that potentially inhibit access to information needed to understand price formation in a particular futures contract and hence hinder the ability of futures regulators to monitor and detect manipulation. In particular, regulators may need data about deals in physical commodities and over-the-counter transactions. The organization called for periodic meetings among futures market regulators to air concerns on market trends and developments and share surveillance and enforcement techniques.

Meanwhile, the CFTC is accepting comments on two rules it proposed in February. One is about the periodic account statements CPOs are required to provide to their clients and file with the National Futures Association. The new rule specifies the detailed information that must be included in the account statements for commodity pools with more than one series or class of ownership interest and clarifies other issues such as the disclosure of net asset value and the proper accounting treatment of certain income and expense items.

The second proposed rule open to public commentary specifies requirements for the acknowledgment letters that futures commission merchants must obtain from any depository that holds segregated customer funds or funds of foreign futures or options customers. Comments can be sent to [email protected].

CFTC acting chair Michael Dunn has been talking about the urgent need for increased funding for the Commission so that it can fulfill its regulatory duties. In the budget passed last month, Congress allocated $146 million to the agency. Mr. Dunn applauded the significant increase over past budgets.

“I strongly believe that with today’s action, the Congress has demonstrated an appreciation for the Commission’s need for additional funding,” he said in a statement. “With these additional funds the CFTC will be able to better protect the futures markets and the customers who use them from fraud and abuse.”


15


opalesque.com

OPALESQUE FUTURES

TOP TEN

This list of commodity trading advisors with the highest returns for January is from Managed Account Research Inc. The advisors featured here manage more than $10 million. The corresponding list of advisors managing less than $10 million shows substantially higher returns—the top performers in that ranking of smaller CTAs is Forbes Futures, up 133% for the month, and the silver program from Pearlman CTA, up 24.7%.

The Managed Account Research database includes an extensive range of alternative investments, as well as benchmark and proprietary index data for comparing the individual programs to industry performance standards. The database tracks over 120 fields of qualitative information for each of the investments.

Managed Account Research Inc. January 2009 Top Ten Advisorswith More than $10 Million Assets

Program Company Last Monthly Return

Option Selling Strategy Financial Commodity Inv. 9.2%

Spread Trading Emil Van Essen 9%

Managed Accounts-Bespoke Varengold 8.5%

Global 20 Alder Capital Ltd. 8.5%

Multi-Strategy HB Capital Mgt. Inc. 4.1%

Forex Dominion Capital Mgt. Ltd. 4%

LJM LJM Partners Ltd. 3.6%

XL ER Capital Mgt. Ltd. 3.1%

Diversified Quick Silver Trading Lt. 2.9%

Grains Stategic AG Trading 2.9%

We will feature top managers from a different database every month.


PUBLISHERMatthias Knab - [email protected]

EDITORChidem Kurdas - [email protected]

ADVERTISING DIRECTORDenice Galicia - [email protected]

EDITORIAL ADVISORTim Merryman - [email protected]

CONTRIBUTORS Bucky Isaacson, Frank Pusateri, Pavel Topol, Ty Andros,

Walt Gallwas.

www.opalesque.com

ofi10mar2009

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