Many investors are pouring money into managed futures funds — to the tune of billions last year alone. They have their reasons: Impressive returns through the financial crisis, lower minimum investments and returns that almost never mimic the stock markets'.
That success aside, however, some investors still consider managed futures unseemly and too complicated.
Managed futures are becoming a popular choice for assets that might normally go to commodities or other alternative investments. As they move steadily toward the mainstream, still-unknowing investors and financial advisers should understand how funds that use them disclose leverage.
"The word leverage is really kind of a vague term," said Jeremiah H. Chafkin, co-manager of the Natixis ASG Managed Futures Strategy Fund. "People use it, but it's not clear whether they're referring to bank borrowing," as with some leveraged hedge funds, "or margin-to-equity ratios," which are the gauge for managed futures funds.
The managed futures industry boasts a noteworthy lineup of investors, including a revered professor, a well-known Goldman Sachs alum and even the owner of a prominent professional baseball team. But with the bulk of futures-focused mutual funds still in their infancy, some say the transparency standards are thin. In fact, it can take a surprising amount of work for investors to know how their money's currently invested.
Funds that invest in managed futures typically hold cash — or the fund's assets — against a portfolio of contracts, known as futures, tied to the movement of things like interest rates or the price of corn. Some hedge funds carry a portfolio with a notional value 15 or more times larger than the fund's assets. For mutual funds, which are more regulated, the number is around six, said Nadia Papagiannis of Morningstar. They have "plenty of cash" to absorb losses, she said.
Although managers like Chafkin point out that they can dial up or dial down a fund's risk and volatility to fit the economic environment — an ability they notably demonstrated during the financial crisis — mutual fund investors must have some trust. There are skimpy requirements for mutual funds to report the current risk they're taking, at least as compared with many private futures managers. And understanding the data that's available requires an expert and a calculator.
One gauge of risk is a manager's margin-to-quity ratio. The measure can vary widely from manager to manager, and even quarter to quarter.
AQR Capital Management's AQR Managed Futures Strategy Fund, which is managed by former Goldman hedge fund manager Cliff Asness, typically carries a ratio under 10%, a fund spokesman said, but was recently closer to 13%. The Natixis fund, which is co-managed by Andrew Lo, a revered scholar at the Massachusetts Institute of Technology, is allowed to use a ratio as high as 25%, but has been operating considerably below that level, a spokeswoman said.
Private managers vary more widely in the risk they take. One strategy tied to John W. Henry & Co., which is controlled by the Boston Red Sox owner John Henry, targets a ratio between 9% and 17%, a company spokesman said.
Mark Melin, the author of "High-Performance Managed Futures," estimates that other managers take even more risk. "I would like to see clear disclosure of risk" for mutual fund investors, Melin said. In the meantime, he's teaching a new class on managed futures at Northwestern University, where motivated advisers and investors can learn to do their own math.
