Are UK pension funds heading towards a CTA imbalance?

Wed Dec 5, 2012

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‘Like headstands, side crows and peacocks, CTAs are not always appropriate all the time – or indeed, for everyone’

By Niki Natarajan

Sprains, strains, damaged muscles and torn ligaments are some of the symptoms that over enthusiastic novice yogis attempting complex gravity-defying yoga positions – often at heightened temperatures – might incur.

I don’t like to peddle fear, but one does not need siddhis, or psychic powers, to divine the outcome of a similar fervour when it comes to the latest UK pension fund fad of eschewing balanced global multi-strategy portfolios of hedge funds for a commodity trading adviser or two.

The last few issues of InvestHedge have been full of UK pension funds taking such a step. Most recently, Aspect Diversified replaced Fauchier Partners at Leicestershire’s County Council Pension Fund, while Winton Capital Management and BlueCrest Capital Management have both won money from the Suffolk Pension Fund.

Who knows with what the Brent Pension Fund will replace Fauchier with, but my money is on a commodity trading adviser. Like headstands, side crows and peacocks, CTAs are not always appropriate all the time – or indeed, for everyone.

It is not that the names that are being selected are not good enough; far from it, but CTAs more than most strategies are highly cyclical and investors seem to have an unerring knack of entering managers when all the steam in the strategy has run out.

CTAs are known to perform when nothing else seems to work, and looking back over the last three years, one can see why they look attractive to battered and bruised UK pension funds. But as CTAs are cyclical in nature, the question is what else do pension funds have in their portfolios to take advantage if the world has a performance uptick?

It would seem the CTA downturn has already started. The composite CTA performance is the only hedge fund strategy that is negative for the year to date, down 3.68%; October alone saw the CTA average brought down by average global managed futures returns of -2.6%, according to the HedgeFund Intelligence indices.

Having CTAs in a portfolio has certainly been a smart bet if one looks through the rear view mirror but if one only ever did backbends and forward bends in yoga, the pressure could in theory cause the spine to snap like a twig. Similarly if all of this institutional money is flowing into CTAs, surely performance will continue to be affected negatively?

Investors can learn a lot from the well rounded sequencing that a yoga teacher tailors to an individual yogi’s level, as they put together their portfolios. Like plank pose, which strengthens the core, investors need to create a solid core of positions (with or without hedge funds) that can hold their own whatever the financial weather dictates.

Jane Buchan’s team at PAAMCO is wary of global macro and tactical asset allocation on the grounds that few managers consistently make the right calls. And when it comes to CTAs "in general [they] are on the 'avoid’ list because of volatility and doubts about their ability to add value over time". But in a world where FoHFs need to complement what investors have already, an investment with PAAMCO at least means there would be no overlap.

The next few sequences vary from day to day, month to month and year to year building up strength in areas of weakness. In portfolio terms this is determined by the prevailing economic climate and likely to change regularly but often unexpectedly. Enter the role of the CTA.

The aim in yoga –whose meaning is to yoke, join, unite or attach – is ultimately about achieving balance. Like a good yoga workout that strengthens, tones, reinvigorates and relaxes all in one class, the art of constructing a pension portfolio that can cover the future liabilities whatever the financial weather about balancing the right strategies in the right proportions at the right time.

And as enlightened investors like Martin Källström of AP1 highlighted at the recent InvestHedge Forum, CTAs are as essential to a balanced portfolio, as the tree or Natarajasana balance poses are to a well rounded yoga sequence. But replacing FoHFs with just a CTA or two is like trying to achieve the pose in the photo without first training the core muscles. Try it to see what happens.

ISSN: 2151-1845 / CDC10004H

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