THE ORIGINS OF THE MANAGED FUTURES INDUSTRY

In 1949, Richard D. Donchian established what is believed to be the first managed commodity fund, Futures Inc., which was offered to the public in the US. This fund was traded until it was dissolved in the mid 1970s. Donchian was a broker at Hayden Stone and he applied a system to futures money management, based on the application of moving averages. Donchian’s initiative was not taken up by a large number of fund managers in the US and consequently managed futures funds suffered a temporary lull in their development.

The next development was that in 1965, Dunn & Hargitt became the Commodity Trading Advisers (CTA) for a managed commodity account. According to Thomas Northcote’s Major Events in the History of the Managed Futures Industry, the account was US$ 2000 and came under the direction of a non-broker CTA and traded at Lamson Brothers (now part of the Shearson Lehman Brothers Group). Says Northcote: ‘One of the more anachronistic policies of the CTA was that no women could open an account.’ The management fee was US$ 175 per year.

By 1967 Dunn & Hargitt had introduced the first commodity price database which enabled futures managers to create trading simulations based on different trading styles, commodities and quantitative approaches.

In 1969, Commodities Corporation was set up in Princeton, New Jersey by a group of investors including Helmut Weymar, Frank Vannerson, and Amos Hostetter. The company started as a commodity think-tank, according to Northcote. He reports that the firm started out with fundamental analysis andcarried on to incorporate technical information as well as fundamental data in their investment decisions. The company developed and supported new traders, including Michael Marcus, Bruce Kovner and Willem Kookyer.

Originally it had US$ 2.5m under management, which was invested in the US commodity markets, using the fundamentally orientated theories of Paul Samuelson, who later went on to win the Nobel prize in economics. (By 1990, Commodities Corp, as it became known, had grown to become one of the largest firms in managed futures in the US, with US$ 800m under management in customer equity and US$ 240m in proprietary money.)

By 1971, academics and money managers in the US had fully resurrected many of the theories of Donchian and began to design funds investing in derivatives for either institutional or high net worth individual clients. The theories included diversification across a range of futures contracts, trend following over different time periods and the application of various mathematical theories. The managed futures industry, as we recognise it today, was born.

With that birth came the attention of a regulatory authority, the Commodities Futures Trading Commission (CFTC), which in 1975 started looking after the activities of 225 commodity trading advisers (CTAs) or commodity pool operators (CPOs). By 1983, this number had risen to over 3000 and the industry was set for a period of rapid growth.

Managed futures trading had begun to develop overseas by 1972. In that year, Ulrich Becker in Conti-Commodities‘ Hamburg office in Germany began trading customer money in a trend-following system on a discretionary basis. Eventually, he managed somewhere over US$ 3 million and became what is widely believed to be the first non-US-based CTA.

The early 1970s were a rich period for the development of managed futures. A number of events during those years caused violent volatility in all types of markets. The Arab oil embargo, the Arab/Israeli war, recession and Watergate plus climatic problems of drought and freezes proved to be meat and drink for CTAs active at this time. It was from this point onwards that the managed futures industry as we recognise it today was truly started.

THE SIZE OF THE MANAGED FUTURES INDUSTRY

The answer to the question of the size of the managed futures industry is not as simply found as one would have thought. In many cases, institutional investors who are most likely to be the biggest investors in managed futures in terms of size of funds, use the private pools route to putting their money into the market.

Private pools are exactly that — private. They are set up by, for instance, a Swiss bank simply to provide discreet access to the managed futures markets for their clients.

This makes it extremely difficult to estimate the amount of money under management worldwide in managed futures. Most estimates are based on the publicly available information referring to managed futures funds and put the total of money under management at somewhere between US$ 13bn and US$ 21bn worldwide in 1993. In 1980 this figure was put at about US$ 650m, so the industry has seen significant growth. Taking into account the effect of gearing, even US$ 13bn under management, at the worst case, means that the industry actually controls considerably more.

Diversification

First, it is quite clear that managed futures have one major advantage over other more traditional investment classes and that is that an investment in managed futures increases the diversification of a traditional portfolio and so lessens the risk of loss.

Most portfolios, whether private or institutional, will be made up of bonds, equities and cash because portfolio managers have learnt, to their cost, not to put all their eggs in one basket. In the case of institutional investors, who are generally a fairly conservative bunch, the portfolio split will largely favour bonds over equities and cash.

The principal of portfolio diversification was turned into a science by the work in the 1950s of three economists, Harry Markowitz, Merton Miller and William Sharpe, who ultimately earned a Nobel prize in economics for their efforts.

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