By: Clay Peck, RJO Futures Director of Managed Futures
As part of our ongoing series, we are pleased to introduce Blackheath Fund Management Inc. in this issue's CTA Spotlight. As one of the more recent CTAs to join the RJO Managed Futures platform, we'd like to welcome Christopher Foster and Blackheath and thank them for sharing their program with us.
Blackheath Fund Management Inc.
Trading Program: The Blackheath Sentiment Strategy
Christopher Foster, Portfolio Manager of Blackheath Sentiment Strategy, CEO of Blackheath Fund Management Inc.
Christopher got his start in the money management business in 1989 working for Albert Friedberg, Canada's legendary CTA and Global Macro manager. It was then that he first became familiar with various sentiment indicators, and developed the idea that it was possible to create a behavioral finance model that relied entirely on sentiment indicators to drive buy and sell decisions in futures markets. The first fund under this strategy, Blackheath Offshore Limited, was launched in 2003.
RJO: Please tell us a little about your trading program.
Blackheath: At the core of the Investment Strategy is the idea that if trader sentiment diverges from price direction, it's a strong signal that the current price direction is sustainable. The majority of the time, sentiment and price action are in sync and therefore we do not take a position. It is only when sentiment diverges from the price action, that we take a position. The divergence is the key!
Of course, how to measure sentiment accurately and how much of this type of evidence is necessary to place a trade is what requires some discretion on the part of the Portfolio Manager. The money management side of the investment strategy is much more systematic in that we always risk a fixed amount (3% of the portfolio) on every trade and stops work 24/7, so overall we estimate the program is about 60/40 systematic/discretionary. Typically, the Strategy generates about 70 trades a year. Profitable trades tend to last about 30 days, losing trades about 20 days.
RJO: What makes your approach different from other CTAs?
Blackheath: This program is radically different from most traditional CTA's. No fundamental or technical inputs are used at all, so the correlation to the big systematic trend-following CTA's is very low (under 40%). Plus, the program has a very heavy commodity focus, again very much unlike the big trend-followers in the CTA industry, who have gravitated towards fixed income and stock index futures.
RJO: What is your minimum capital requirement for your program(s)?
Blackheath: We're able to handle SMA's for a trading level as little as $500,000. Our average margin to equity ratio is 8%. We normally have between 3 and 6 positions on in the portfolio at any one time.
RJO: On what markets does your program focus?
Blackheath: We decided early on not to trade any stock indices, as we wanted to avoid any unintended correlation with the stock market, and from that point of view we have been successful in that our equity market correlation is about 10%. But apart from stock indices, we trade a diversified mix of highly liquid US futures contracts. Right from the start, we wanted enough liquidity in all of the markets traded to be able to dramatically grow AUM without being forced to eliminate a market. So small markets like milk, FCOJ, lumber, etc. are off limits for now. So, that leaves us with about 20 of the most liquid markets:
RJO: Have you ever changed your trading model? If so, when and why?
Blackheath: In the early years of our trading, we realized that at times our portfolio could start running a bit hot if we held too many positions where the performance was highly correlated. For example, we could find ourselves with a group of long metals trades on, paired with a short US dollar position. So, while all the trades could have totally proper risk management, the portfolio as a whole was too volatile. To address this, in 2005 we introduced a 6% VAR screen to stop us from unintentionally taking on too much portfolio risk. We're very pleased how well this works in terms of protecting our clients, and our business, from too much market exposure. Since 2005 our portfolio volatility has moderated to between 15% and 20%, which we feel is appropriate for a strategy that has generated returns in the 16% area since inception.
RJO: In your professional opinion, what is the single most important reason an investor should consider adding managed futures to their portfolio?
Blackheath: There's no question in my mind that managed futures are the best way to get pure alpha and a strategy that is truly non-correlated to the equity markets. I have about a third of my total net worth in managed futures, and I love it. Sure, there is some volatility, but it's uncorrelated to other market volatility, so it's much easier to take emotionally. I truly believe that you don't have to be among the super-rich to start thinking about managed futures. 2008 offered all the evidence needed to establish that lots of hedge funds that CLAIM to offer non-correlated returns were just over-promising and under-delivering. So, I believe managed futures should be an investor's first stop when looking for true diversification, not an after-thought when considering alternative investments generally.
RJO: Would you say your trading program(s) is better suited to be a stand-alone or part of a multi-CTA portfolio?
Blackheath: Marketing will hate me for this, but I really don't believe our Sentiment Strategy is meant as a one-stop-shop for someone looking to get into managed futures from a traditional viewpoint. While I'm obviously really proud of our performance record, it's very different from the industry as a whole. So, if someone was looking to buy just one CTA, they should probably start with someone with performance that closely mirrors the performance of the industry as a whole. That probably means a systematic trend-follower, and there are a number of them on the RJO platform. This said, once an investor has an allocation with an intermediate or long-term trend follower, I think they should look at a strategy like ours, one that can add solid performance uncorrelated to the performance of the typical CTA. If you review our results in combination with most trendfollowers for the last four calendar years, I feel the combination of the two would have provided a very attractive return stream.
I would like to also mention that our other strategy, Volatility Arbitrage has also been added to the RJO platform. We just competed our 38th month and are extremely pleased with the absolute return (+18% annualized return), Sharpe ratio (1.80) and correlation to the CTA indices (.42). The Volatility Arbitrage program is managed by my partner, Andy Cumming, who brings to the Blackheath team, 19 years' experience in the financial markets along with a strong academic (PhD in Physics from MIT) and an intense quantitative mindset.
RJO: In regards to selecting a CTA or composing a portfolio of multiple CTAs, what piece of advice would you offer to a client?
Blackheath: I think separately managed accounts (SMA's) are a terrific opportunity for clients. Of course, not all CTA's offer them, but where available they are a boon for clients. The only problem is that not all clients can actually understand the statements they will receive as an owner of a separately managed account. However, with a bit of experience and education, these statements can turn from a burden into a source of valuable information. From these statements, an experienced investor can quickly identify style drift, or other inappropriate trading, far more quickly than any auditor will. Plus, with a separately managed account you get to cut out a whole layer of fees that would typically be charged to a fund, such as administration and audit expenses. Of course, you can't just go to sleep with these investments, the way you can with an investment in a pooled product, so they're not for everyone. Still, if a client has the interest, and the capital, and the access to managers that provide separately managed accounts, they're definitely worth the trouble.
RJO: Again, we'd like to thank Christopher Foster and Blackheath Management for participating in our CTA Spotlight. For further information, please contact: Michael G. Stendler - Director of Business Development – US, mstendler@blackheathfunds.com.
As always, we encourage everyone to check out the website: http://www.rjofutures.com/managed-futures/
In upcoming issues, we will spotlight each CTA to feature their particular area of expertise and the concepts behind their trading program(s). Anyone interested in more information regarding Managed Futures may feel free to contact me at CPeck@rjofutures.com or (312) 373-5338.
