Filed under: Algorithmic trading
The portfolio is based in five sectors; energy, base metals, precious metals, agriculture and livestock and is a basket of strategies from nineteen commodity futures markets.
‘As familiarity with the commodities asset class grows, an increasing number of investors are recognising the value of taking a more active approach with their investment strategy,’ says UBS’s global head of commodities Peter Ghavami.
‘UBS Comm-PASS is the first of a new generation of portfolio-based algorithmic strategy products for the commodities asset class which allows for the generation of returns in both bull and bear markets.’
The individual strategies generate long or short signals in the individual commodity, which takes into account both the trend and the counter trend of specific commodities in combination with the asymmetric return distribution seen in the commodity markets.
‘For the last few years, commodity price volatility has been substantially greater than other asset classes, largely due to supply concerns as well as changes in global consumption and the influx of financial commodity investments,’ says James Paget, co-head of structured commodity sales for Europe, the Middle East and Africa.
‘High volatility offers trading opportunities provided an appropriate trading strategy is implemented. We believe Comm-PASS offers investors the opportunity to generate high returns by exploiting commodity market characteristics.’
With algorithmic trading systems reportedly getting a battering over the last few weeks ,this is a brave time to be selling such a system of trading to clients, but if anyone knows what they are doing, in our opinion, it is UBS.
I am sure we will start to see more and more use of algorithmic trading systems, however, is there a danger in this? Essentially algorithmic trading systems were developed to be able to execute large volumes of trades by splitting these trades up into smaller lots and programmed to create any mathematical outcome that the trader wants. The trading patterns can, of course be customised for example trading more at the close, when volume is higher, and less at lunchtime when its not. The thing is, are these trading patterns predictable?
Some critics say that when less experienced hedge- or mutual-fund traders use the software they’ve bought from Wall Street, they inadvertently expose their trades. How? Canny traders, mainly those who trade on behalf of big banks and brokerages with the firms’ capital, may be able to identify patterns of algorithms as they get executed. “Algorithms can be very predictable,” says Steve Brain, head of algorithmic trading at Instinet (INGP ), the New York City-based institutional broker.
Most Wall street firms will go to their deaths saying that there are no leaks in information about their trading strategies and argue that such leaks would kill their business because advantage would be lost and this argument makes sense.
With the algorithmic trading systems becoming more prevalent, will this affect the market itself? Take the human element out of trading and you have, in our opinion, lost some of the magic of the market, levelling out volatility and therefore opportunity. Ever played Chess against a computer? There is always the feeling that it knows what you are doing before you do it and it makes the competition element (and the fun) go out of the game.
And how long will it be before someone at MIT comes up with a computer trading system that analyses trades in a specific market and identifies the algorithms of the big trading houses and thus creates its own predictive trading systems? Paranoid, me? Who said that?
Of course there is a human cost to this also. If computer systems are more prevalent, why would you need a trading floor that you have to pay millions in bonuses to? Best to spend $5mn on a computer trading system that trades day and night, does not take holidays and does not want to go and work for another bank when you don’t pay it enough.
The scariest thing for me, however, is the very thought of more and more systems coming into play and the market being worse for it. Sure, things would poottle along a with a little more stability, we probably wouldn’t see the wild swings we do on the exchanges and we could all rest safe in the knowledge that our money is being managed by highly sophisticated computer systems rather than the banks twenty year old Ferrari driving, hung over maniac with a machismo complex. But would it be as much fun?
I don’t know about you, but when I decided to get into this business, when I was a boy, it was the very fact that what we do is exciting, stimulating and a test of man against the market. Playing the computer at Poker is fun when you are practising, but its just playing the odds programmed into it. I am sure we all prefer it when we scoop up a few hundred dollars having just convinced other players that our pair of two’s was a Royal Flush.
Billions of dollars have flowed into the EMN funds because it is the closest thing to being in the market with no risk, they have been seen as investment vehicles that couldn’t make a loss, one of the leading fund of hedge fund manager talking to The Times said “People know now that that’s not true”
I know of a hedge fund manager who was in the quant business before it became all the rage and I remember going into his office during some other market turmoil and he told me that the fund was down 20% in the last month. I asked him why they were executing the trades that the computer was pumping out (it wasn’t automatic then) when they were obviously, even from a basic trading perspective, wrong. His answer then is probably the same as people are getting now from EMN managers. He said “Its either a computerised trading system, or its not, we will find out in the next few weeks if it knows what it is doing”. Sure enough in the following two months, the system made 33%.
By their very nature, quant systems have to operate in liquid markets, because you can’t expect a computer to wait for a trade, so the quant funds, I believe will have some short term problems, but will inevitably recover. Where the problem lies is in those funds who are in more illiquid situations, derivatives etc, where margin calls are going to be increased.
As shares fall (or rise if you are short) then you have a choice if you are the wrong side, anti up extra margin with your leverage providers or start getting out of the market and off-loading positions. The problem is that you are now not necessarily second guessing the market itself, you are second guessing your fellow hedge funds.
If you stay and he off loads, you are in trouble. The safest way, you would think, would be to swallow your losses and not get wiped out. Unfortunately this creates a run for the exits and with it, big problems for the markets.
The thing is, however, the guys that run the big hedge funds are not stupid people who are swayed by the vagarities of the markets. These are smart, well connected people who know what they are doing. They have made money by taking risks and in any period of market instability there are huge profits to made for someone… We know Goldman have taking their hands of the ‘touch a truck’ hedge fund competition…who will be the winner? Now if I knew that, it would make a great article for this blog…
