Dipping Our Toes into Commodity Trend Following

We have been testing and researching our Commodity Trend Following system which seeks long term capital appreciation by systematically investing in commodity futures in an attempt to create an absolute return profile that also has a low correlation to equities and can provide positive returns in risk-off events. Commodity Trend Following may provide investors an additional opportunity for positive returns at a time when traditional assets, such as stocks and bonds, may be struggling. Adding diversifying sources of returns may help to reduce a portfolio’s overall volatility as well as improve returns, which is especially attractive to us looking to build resilience and capture opportunity over long time horizons.

We have long been attracted to the diversification trend following brings when paired with a Opportunity Equity strategy like our own. We have been testing a suite of systematic models overlaid with a discretionary lens. We do not employ volatility targeting, as it is a way of taking lots of small profits, which enforces premature profit taking in cases where trends continue – the diametric opposite of letting winners run. The typical “long volatility” profile of trend-following means that volatility tends to be higher during profitable periods. We prefer to follow classic trend following models without too many moving parts, or optimization parameters. One problem often arises when managers try to extrapolate too much from the past. Our approach is the opposite of Big Data, which takes in as much data as possible and tries to be very accurate. We remain wary of “data-mining” and “over-fitting” as those can be pitfalls of some more complicated approaches.

The simplest rationale for trend-following is that the world is a crazy place. All the time we see things we have never seen before driving markets. The world in general shows non-normal distributions, with large positive and negative outliers. We attempt to take small losses that attempt to eliminate the big negative outliers and hang onto the positive outliers – through both long and short positions. We can try to eliminate the negative returns, and allow the positive returns to go as far as possible, without any preconceived idea of how far a market can go. In time we hope we can offer this exposure as an additional tool for investors seeking alterative strategies.