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Managed Futures Meaning Overview How They Trade

Managed Futures Meaning Overview How They Trade

Managed Futures: Meaning, Overview, How They Trade

What Are Managed Futures?

Managed futures refers to an investment where professionals actively manage a portfolio of futures contracts. They are considered alternative investments utilized by funds and institutional investors for portfolio and market diversification.

Managed futures provide portfolio diversification by offering exposure to asset classes that help mitigate portfolio risk, unlike direct capital investments such as stocks and bonds. The performance of managed futures tends to have a weak or inverse correlation with traditional stock and bond markets, making them ideal investments for constructing a portfolio according to modern portfolio theory.

Key Takeaways

– Managed futures consist of a portfolio of futures contracts actively managed by professionals.

– Large funds and institutional investors frequently use managed futures for portfolio and market diversification, instead of traditional hedge funds.

– Two common approaches for trading managed futures are the market-neutral strategy and the trend-following strategy.

– Market-neutral strategies aim to profit from spreads and arbitrage created by mispricing, while trend-following strategies aim to profit by going long or short based on fundamentals or technical market signals.

Understanding Managed Futures

Managed futures have emerged as an alternative to traditional hedge funds. Funds and institutional investors often invest in hedge funds to diversify their portfolios that mainly consist of large market cap stocks and highly rated bonds.

Managed futures offer a cleaner diversification play for institutional investors as they operate in the futures market, just like hedge funds. Unlike typical money managers, managed futures money managers work regularly with derivatives.

The Rise of Managed Futures

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Managed futures developed as a result of the Commodity Futures Trading Commission Act, which defined the roles of commodity trading advisors (CTA) and commodity pool operators (CPO). These professional money managers, unlike stock market fund managers, extensively utilize derivatives.

The industry is heavily regulated by the Commodity Futures and Trading Commission (CFTC) and the National Futures Association (NFA), which conduct audits and ensure quarterly reporting requirements are met. The stringent regulation of the industry has attracted institutional investors to managed futures over hedge funds.

How Managed Futures Trade

Managed futures can have varying weights in stocks and derivative investments. A diversified managed futures account typically has exposure to multiple markets, including commodities, energy, agriculture, and currency. These accounts usually have a stated trading program that outlines their market approach. The two common approaches are the market-neutral strategy and the trend-following strategy.

Market-Neutral Strategy

Market-neutral strategies aim to profit from spreads and arbitrage resulting from mispricing. This strategy strives to mitigate market risk by taking matching long and short positions in a specific industry to profit from both increasing and decreasing prices.

Trend-Following Strategy

Trend-following strategies aim to profit by going long or short based on fundamentals and/or technical market signals. When an asset’s price is trending lower, trend traders may enter into a short position. Conversely, when an asset is trending upward, trend traders may enter into a long position. This strategy involves analyzing various indicators to determine an asset’s direction and then executing an appropriate trade to capture gains.

Investors interested in managed futures can request disclosure documents that outline the trading strategy, annualized rate of return, and other performance measures.

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