Managed Futures Funds: What are They and are They Worth the Risk?
Managed futures funds are investment vehicles consisting of futures contracts that are actively managed. These funds are considered alternative investments and are typically used by financial advisors to diversify portfolios. Funds pay a manager to actively trade the fund’s holdings to generate a return for investors. Managed futures are not typically correlated to the stock market, meaning that a drop in the stock market may not affect the fund. Brokers may promote managed futures to hedge against stock market losses.
However, investors should bear in mind that there is no guarantee managed futures’ performance will counteract any downturns in a portfolio. Moreover, managed futures are complex investments, and investors should be able to clearly state how their fund intends to make money. Managed futures funds do not make that easy — even for experienced investors.
What is a Future in Finance?
Futures are contracts that allow investors to speculate about the future price of securities. When an investor purchases a future, they hope to safeguard against a stock market downturn like the one endured during the 2008 financial crisis.
Futures are derivatives, meaning they derive their value from something else. Futures derive their value from the price of a commodity or a stock. According to The Wall Street Journal, managed futures typically invest in options, futures, and swaps. These financial instruments tend to track long-term movements like stock indices and interest rates. Funds following long-term trends will struggle when the market has more volatile ups and downs.
- Financial futures comprise financial instruments like foreign currencies or stock market indices
- Future commodities may speculate on the future price of a commodity, like oil.
- Options contracts give managers the option to buy or sell an investment at a certain price by a certain date.
- Swaps are contracts that agree to pay each other interest rates based on a fixed and a variable interest rate. Individuals almost never buy swaps, so managed future funds are one way that individual investors can access the potential benefits of these contracts.
Why Do Investors Want Managed Future Funds?
According to a managed futures fund manager, a managed futures’ performance could make its relatively low management fee look like a bargain — they can supposedly earn investors returns as high as 7% to 10% per year. (Remember: Can is far from guaranteeing how managed futures will perform in reality.)
Diversification. Brokers may recommend managed futures to add diversification to a portfolio. Managers may also invest in complex financial instruments or something as simple as a commodity. These types of funds expose investors to a broad market sector without borrowing money, i.e., using leverage, and without charging as steep fees as mutual funds.
Non-Correlating Asset. In addition to not correlating with the stock market, managed futures funds also do not usually correlate with the hedge fund market — another point for diversification.
Non-Directional Asset. Because managed futures funds can employ a variety of strategies and assets, they could be described as non-directional, meaning they can profit from increasing as well as decreasing prices.
Who Regulates Managed Futures Funds?
Managed futures are a $300 billion industry regulated by a federal agency called the Commodity Futures Trading Commission (CFTC). The CFTC regulates brokerage firms that engage in futures trading. If an adviser or a broker recommends an unsuitable managed future fund, investors can also register their complaints with the SEC or FINRA.
How Much Does a Managed Future Fund Cost Investors?
Managed futures funds offer an alternative to mutual funds that can come with high fees. However, as one Wall Street Journal article reports, managed future funds may also be better at concealing their true costs. Brokers should provide clear, up-front information about the expense ratio of a managed futures fund. They should also tell investors if they will employ outside managers — their management could add to the fund’s overall costs. Brokers may not communicate, for instance, the fees the fund pays to banks to complete their swaps.
Managed Futures Strategy
Short and Long Positions
Futures can take long positions or short positions.
The long position speculates that a particular share will rise in price, while the short position anticipates a decrease in share prices.
Market Neutral and Trend-Following Strategies
Managed futures funds follow either a market-neutral strategy or a trend-following strategy. Most investors follow the strategy “buy low, sell high.” These strategies look at a broader data set than the most recent share prices.
In a market-neutral strategy, a manager places the fund in long and short positions. This strategy is meant to counter the ups and downs in the market. The manager will look at historical share price data to predict future fluctuations.
Trend-following strategies also use historical data to look for trends and invest if they believe the security will follow an upward trend.
Risks of Managed Futures Funds
Futures are alternative investments, and investors should always hesitate to invest in alternative products. Furthermore, there is no guarantee that a managed future fund will perform as expected. According to Morgan Stanley, “It is important to note that there have been quarters in the past, and will indeed be years in the future when managed futures has performed negatively regardless of positive or negative performance in the equity market.”
If your broker recommended a risky managed future to you without informing you of the risks, contact one of the experienced securities attorneys at Kurta Law today.