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At The Money: Diversifying with Managed Futures ETFs · Masters in Business

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Speaker 1: Bloomberg Audio Studios, podcasts, radio news, I'm right, I can wrong,
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Speaker 1: mound song big.
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Speaker 2: And then makes no difference.
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Speaker 3: As we learned in twenty twenty two, sometimes all supposedly
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Speaker 3: uncorrelated asset classes moved together. Stocks went down, bonds went down,
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Speaker 3: tips went down, commodities went down, Bitcoin went down. Very
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Speaker 3: few things bucked the trend. One version of that is
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Speaker 3: a variety of alternative investments that are designed to not
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Speaker 3: correlate to one during periods of stress. Let's talk to
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Speaker 3: Andrew Beer. He's a hedge fund veteran and founder of
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Speaker 3: Dynamic Beta Investments or DBI that focus on hedge fund
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Speaker 3: replication strategies delivered through low cost liquid vehicles like atfs
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Speaker 3: and mutual funds. Liquid alts manage futures, a variety of
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Speaker 3: strategies that are specifically designed to not trade like stocks
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Speaker 3: and bonds. So, Andrew, let's start with the basic question.
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Speaker 3: Stocks and bonds seems to have become a whole lot
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Speaker 3: more correlated in recent years. How should that change how
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Speaker 3: we think about correlation and the need for diversifiers.
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Speaker 2: Sure, well, it is the question of the twenty twenties
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Speaker 2: from a wealth management perspective. So I used to call
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Speaker 2: bonds the Superman of diversifiers in twenty tens, that they
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Speaker 2: had terrific risk adjusted returns. If you they almost never
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Speaker 2: went down. The maximum drawn on it was four percent,
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Speaker 2: and they tended to go up or do better when
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Speaker 2: when equities were doing less well. The problem this decade
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Speaker 2: is that, and this is people have shown this over
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Speaker 2: long period of times, is that was unusual. In fact,
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Speaker 2: if you go back over long periods of time, particularly
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Speaker 2: when inflation gets above about two percent, stocks and bonds
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Speaker 2: tend to move together. So astonishingly bonds have earned less
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Speaker 2: than cash over the past ten years. And now in
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Speaker 2: the correlations of creeping up, that tears up the basic
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Speaker 2: playbook of a sixty forty model portfolio because and so
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Speaker 2: what people are doing is think about what can we
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Speaker 2: put into a portfolio, and really, really the goal is
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Speaker 2: to diversify equity risk because remember, I mean Morren Buffett
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Speaker 2: had that great quote and they said if you did
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Speaker 2: networkshire Hathaway, what would you do with your money? And
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Speaker 2: he said, I put ninety five percent into the SPI
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Speaker 2: one hundred and five percent in cash. That's great if
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Speaker 2: you're him and you can weather a forty percent or
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Speaker 2: fifty percent draw down and breathe whatever, and you carry
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Speaker 2: it for the next for the rebound. But most investors
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Speaker 2: don't have that kind of risk tolerance, and they need
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Speaker 2: things that are going to help to protect them during
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Speaker 2: during difficult market environments.
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Speaker 3: So how do we avoid these specific diversification failures that
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Speaker 3: we see in typical portfolios? How do each of your
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Speaker 3: funds mapped to a different hole in that diversification process?
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Speaker 2: So on on our side, you know what, we've tended
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Speaker 2: to look at our strategies that are durable and have
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Speaker 2: worked for long periods of time, and then try to
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Speaker 2: find out ways to make them work in mutual funds
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Speaker 2: or ETFs or in Europe we do it in useage funds.
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Speaker 2: But I've also been an enormous critic of this this
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Speaker 2: broad industry that is built up around what are called
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Speaker 2: liquid alternative products. Now, remember I come from a legitimate
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Speaker 2: hedge fund background, and when i've but I've been writing
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Speaker 2: about this category of supposed diversifiers for fifteen years and
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Speaker 2: it's a catastrophe that these strategies on average have correlations
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Speaker 2: often around point a to equities, and they've delivered two
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Speaker 2: to three percent per annum over a period of time
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Speaker 2: when fifteen years, when equities have gone up by fourteen
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Speaker 2: or fifteen percent a year. That I think is the
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Speaker 2: is the most critical issue is that ninety five percent
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Speaker 2: of things that people will pitch you are supposed to work,
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Speaker 2: just don't and don't add value. And we have tried
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Speaker 2: to address that and say, no, there actually are things
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Speaker 2: that work, but you've got to take a somewhat different
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Speaker 2: approach in terms of how you think about it.
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Speaker 3: So whenever I speak to either portfolio managers or anybody
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Speaker 3: else's who's working on an allocation, they want to know
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Speaker 3: about draw downs and volatility and sharp ratios. What do
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Speaker 3: these various diverse fires do to kind of wonky like those.
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Speaker 2: The strategy that we've described having the most diversification bang
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Speaker 2: for the buck is a strategy called managed futures and
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Speaker 2: it's the core of what we do. And we came
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Speaker 2: in it again, we came in from your side of
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Speaker 2: the table as we're looking for something that would help
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Speaker 2: our portfolios. And then there's a second part of it,
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Speaker 2: how do we make it work well? Because there's this
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Speaker 2: great book that was written called where are the Customer's
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Speaker 2: yachts talk about how Wall Street took all this money.
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Speaker 2: The asset management industry tries desperately to take as much
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Speaker 2: money as they can from any kind of product, and
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Speaker 2: the more complicated they make it, the easier it is
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Speaker 2: for the charge exorbitant fees. But what the strategy is
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Speaker 2: very very unusual and has no correlation to stocks and
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Speaker 2: bonds over a long period of time, and and tends
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Speaker 2: to do best in the most difficult market environments. But
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Speaker 2: it's not a high sharp ratio strategy. There are certain
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Speaker 2: hedge funds that have sharp ratios of two, which, if
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Speaker 2: you know a few under it's almost magical from an
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Speaker 2: investment perspective. This is not that. But what was compelling
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Speaker 2: about it is I can make it work and do
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Speaker 2: better than the actual hedge funds, but in liquid accessible
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Speaker 2: vehicles like ETFs.
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Speaker 3: Huh. So when I think of things like managed futures
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Speaker 3: or derivative based long short leverage strategies, my first thought
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Speaker 3: is what's the risk that this is going to blow up?
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Speaker 3: I don't tend to think of this is certain ways
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Speaker 3: these are expressed as diversifiers. How do you reconcile that?
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Speaker 3: How do you do things differently? Than some of these
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Speaker 3: other blow up risk funds we've seen, and every year
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Speaker 3: we read about one of them.
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Speaker 2: You know, blown up manu features is a strategy, is interesting,
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Speaker 2: and the blow up risk is very very low for
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Speaker 2: the following reasons. So blow ups usually happen because you've
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Speaker 2: borrowed money and somebody wants it back at the wrong time,
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Speaker 2: and you have something you can't sell to fulfill it.
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Speaker 3: Right.
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Speaker 2: That's Lehman Brothers, that's Bear Stearns, that's you know, that's
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Speaker 2: the long legacy of true blow ups or or its
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Speaker 2: fraud and mispricing of assets. There was a mutual funk
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Speaker 2: called Infinity Q that kind of just made up its
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Speaker 2: numbers what mania features funds. And again it's terrible term
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Speaker 2: manu features, But futures contracts are some of the deepest,
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Speaker 2: most liquid contracts that you can possibly trade. And so
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Speaker 2: when things these guys will go through periods where they
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Speaker 2: have draw downs, but they don't hold onto the positions
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Speaker 2: with a white knuckle grip, and they scale out of positions.
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Speaker 2: Like even everyone is long gold and silver last week,
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Speaker 2: they will have cut gold and silver, and so if
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Speaker 2: gold and silver go down another fifty percent from here,
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Speaker 2: they will have reduced their risks. So when you look
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Speaker 2: at the overall strategy over a twenty five year period
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Speaker 2: of time, the maximum drawdown is only sixteen percent, whereas
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Speaker 2: inequities you've had a forty percent and a fifty percent
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Speaker 2: and several twenty percent plus drawdowns over that period of time.
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Speaker 2: Bonds have also had a sixteen percent draw down. So
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Speaker 2: it's there's a perception that it's very, very risky with
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Speaker 2: high blow up risk. That is simply because as you say,
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Speaker 2: it sounds like and it is a leverage, long, short
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Speaker 2: road based black box.
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Speaker 3: But they're called managed for a reason, right, So let's
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Speaker 3: talk about the tendency for some of these, especially on
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Speaker 3: the private side, these very strategies to kind of quietly
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Speaker 3: drift back towards equity beta over time. Like sometimes we
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Speaker 3: see someone's identified a particular strategy that is both non correlated,
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Speaker 3: diversified and generating real alpha, but it tends not to
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Speaker 3: have persistency. How do you avoid this kind of problem
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Speaker 3: what someone else is called fake diversification.
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Speaker 2: I think the structure of the traditional asset management business
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Speaker 2: from a returns perspective is deeply, deeply flawed. That again,
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Speaker 2: you are talking about an industry that has destroyed value
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Speaker 2: for decades net of the fees that they've charged because
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Speaker 2: low cost index products have done better. The product development
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Speaker 2: and sales across the industry is equally flawed in that product.
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Speaker 2: In the hedge fund industry, when a credible hedge fund
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Speaker 2: launches a product, they think there's a great investment opportunity,
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Speaker 2: and they're going to bring in their capital clients and
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Speaker 2: they're going to and they're going to try to capitalize
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Speaker 2: on that opportunity. In the traditional asset management space, it's
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Speaker 2: designed by the equivalent of the car salesman on the
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Speaker 2: on the showroom floor who thinks he can sell it
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Speaker 2: to you, and all he cares about is getting that
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Speaker 2: commission up front. So it's there's a structural reason why
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Speaker 2: hundreds and hundreds of products have been offered which which
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Speaker 2: have failed any measure of diversification. And also funds. Ben
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Speaker 2: Johnson at morning Star has a great expression called the
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Speaker 2: spaghetti canon, and he said, these guys will launch six funds,
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Speaker 2: and they will come in and one of the six
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Speaker 2: will be doing well, and that's all they'll talk to
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Speaker 2: you about. So it's it's so the odds are really
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Speaker 2: stacked against the average. And you know, unless you're somebody
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Speaker 2: like me who digs in and wants to see every
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Speaker 2: fund that's out there and tear it apart, it's it's
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Speaker 2: extremely difficult to see through this marketing haze and fuzz.
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Speaker 2: So back to the point about things that were look
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Speaker 2: great until they look horrible. I think that is a
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Speaker 2: that is a marketing success, but an investment catastrophe.
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Speaker 3: So let's talk a little bit about the spaghetti canon.
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Speaker 3: You've built a variety of replication strategies. How do you
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Speaker 3: avoid simply layering on new sources of hidden risk under
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Speaker 3: the banner of diversification. Just throwing stuff up against the
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Speaker 3: wall to see what sticks. Isn't a good strategy other
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Speaker 3: than hey, we know what we can market. How do
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Speaker 3: you find diversification but not add risk.
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Speaker 2: So in our case, we've only we only have two
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Speaker 2: strategies because the other eight or ten that we've looked
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Speaker 2: at don't work. If I come in and describe to
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Speaker 2: you what we built and why we built it. And
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Speaker 2: now again, ours is a relatively unusual business in that
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Speaker 2: we're basically saying, in two hedge funds strategies, we like
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Speaker 2: what hedge funds do but we can beat them by
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Speaker 2: copying them cheaply, and we can do it at a
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Speaker 2: liquid fashion's that's called hedge fund replication. We know, we
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Speaker 2: figure out their big trades, we figure out where their
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Speaker 2: conviction is. But instead of paying them a lot of
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Speaker 2: money to implement the trades, often in very complicated ways,
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Speaker 2: we can synthesize it and do it and do it efficiently.
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Speaker 2: I've only launched strategies where I've been eighty percent confident
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Speaker 2: I could beat hedge funds at their own game.
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Speaker 3: And that so let's talk about some of those strategies.
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Speaker 3: Because when you I think when a lot of people
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Speaker 3: hear the name hedge fund replication, they think, oh, hedge
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Speaker 3: funds are buying a lot of Nvidia, so Andrew's buying
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Speaker 3: a lot of Nvidia. We're not talking about imitating their positions.
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Speaker 3: We're talking about applying their strategies aside from managed futures.
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Speaker 3: Tell us about the other strategies. Get that get layered
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Speaker 3: into dbi's exchange traded funds.
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Speaker 2: So there's only the other strategy. So we replicate the
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Speaker 2: manager future space, and we synthesize their portfolios into a
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Speaker 2: simple portfolio, and and it turns out. It's just much
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Speaker 2: more efficient. It does better over time. We also replicate
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Speaker 2: what I would call the broad hedge fund industry, which
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Speaker 2: will include the kind of funds you read about equity
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Speaker 2: long short, relative value, event driven. But in that we're
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Speaker 2: not trying to figure out who owns Nvidia. We've looked
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Speaker 2: at that. It's not a terribly useful exercise. Goldman actually
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Speaker 2: has it has a business doing that. Rather, what we're
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Speaker 2: trying to pick up on are there big themes? So
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Speaker 2: are they migrating their equity exposure from US equities to
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Speaker 2: non US equities? Is it going from develop markets to
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Speaker 2: emerging markets? Is it? Do they have hedges in place
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Speaker 2: on the view that inflation may or may not come back.
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Speaker 2: So our whole business is based upon the idea that
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Speaker 2: if you can identify the big trades, the most important trades,
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Speaker 2: that's really what's going to be the big driver of performance.
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Speaker 2: And everybody's read about the subprime crisis and what happened there,
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Speaker 2: Just like, what don't people say about the subprime crisis? Oh,
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Speaker 2: that guy got it right, but short of the wrong bonds, No,
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Speaker 2: you shorted any bonds? You did well if you were
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Speaker 2: a hedge fund, that moved into tech stocks over the
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Speaker 2: past fifteen years, you've done well. It hasn't mattered which
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Speaker 2: tex stocks you own. That and by the way, this
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Speaker 2: only works in very limited circumstances. So back to your
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Speaker 2: first point is the thing you don't want to do
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Speaker 2: is you don't want to do stupid things, which is
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Speaker 2: to launch products because you hope they're going to work,
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Speaker 2: or if they happen to work, your investors won't figure
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Speaker 2: it out until they've given you a lot of money.
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Speaker 2: That's not how we roll.
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Speaker 3: Huh. Really interesting. I've read a line of yours that
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Speaker 3: I really like. Diversification is a protection against bad luck.
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Speaker 3: Unpack what that means specifically in context of things like
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Speaker 3: economic shocks or policy mistakes. We're in an era of
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Speaker 3: tariffs and trading by tweets as well as inflation surprises.
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Speaker 2: So the standard playbook from an asset allocation perspective is
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Speaker 2: to diversifying and assume just take it as a given
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Speaker 2: that there won't be any really catastrophic things that happen.
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Speaker 2: You know, one of the great advantages that hedge funds
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Speaker 2: as an asset class. That drew me to the asset
14:45
Speaker 2: class as they're not tied to a benchmark. They're not
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Speaker 2: tied to the decisions that they made year before. This
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Speaker 2: is people with very very smart, talented people with their
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Speaker 2: own money who are trying to find ways to make
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Speaker 2: money in good and bad environments, you know, and so
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Speaker 2: so bad luck is the return of inflation. You know,
15:05
Speaker 2: it's something that affects your portfolio across the board that
15:09
Speaker 2: wasn't part of your playbook. And the thing I find
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Speaker 2: incredible about last year was that nothing broke right. I mean,
15:18
Speaker 2: we have the system is being tested at every level. Right,
15:23
Speaker 2: there are garaulics who are lighting matches and throwing them
15:25
Speaker 2: on the carpets and the drapes have not caught fire.
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Speaker 2: Right that we had an attack on that. You know,
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Speaker 2: we had the Deep Seek scare, we had Liberation Day,
15:37
Speaker 2: we had a frontal assault on the independence of the FED.
15:40
Speaker 2: We've had various geopolitical skirmishes. You've had pockets of bond
15:44
Speaker 2: market tantrums around the world. And yet if you had
15:48
Speaker 2: gone to bed on December thirty one, twenty twenty four,
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Speaker 2: and woken up a year later, you think, great, everything worked.
15:55
Speaker 2: So so I think the world is changing, right, And
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Speaker 2: I think what you're seeing, what you're seeing in gold
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Speaker 2: and silver. It's not normal, right, You don't get these
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Speaker 2: major asset classes melting up eighty percent in a year,
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Speaker 2: going up another twenty percent, dropping ten percent, you know,
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Speaker 2: silver dropping thirty percent in a day. The you know,
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Speaker 2: I hear from international investors that their fear of something
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Speaker 2: policywide happening in the US is causing them to look
16:24
Speaker 2: at international markets in a way, even though the business
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Speaker 2: environment in the US is still the best in the world.
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Speaker 2: The companies are still the best in the world, but
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Speaker 2: it's not prudent anymore to be massively overweight the US.
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Speaker 2: So I think, I think we're going to be in
16:36
Speaker 2: for years of big change, and I think that that's
16:40
Speaker 2: going to be really challenging for the standard playbook of
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Speaker 2: of you know, let's just stick to our guns with
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Speaker 2: our current positions and hope things work. It worked wonderfully
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Speaker 2: in a your life last year. I think we're going
16:52
Speaker 2: to go through some tough periods zone interesting.
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Speaker 3: So last question ATFS tend to be used by advisors
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Speaker 3: and other portfolio constructors who often have to explain what's
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Speaker 3: going on to their clients. And a big challenge is
17:10
Speaker 3: a big struggle is dealing with client behavior. Well, I
17:15
Speaker 3: think of selling diversifiers like house insurance. You don't complain
17:19
Speaker 3: if your house doesn't burn down. But when I see
17:22
Speaker 3: things like manage futures and other diversifiers, I just know
17:27
Speaker 3: how clients think. After a few years without a disaster,
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Speaker 3: someone's going to say, Hey, these don't work. I want
17:33
Speaker 3: to sell this. How do you actually work with advisors?
17:39
Speaker 3: So the clients who thought they wanted a diversifier don't
17:44
Speaker 3: get impatient when the house hasn't burnt down.
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Speaker 2: So, for one is in our strategies by reducing fees
17:51
Speaker 2: and making it more efficient, you do better during the
17:54
Speaker 2: other during all those periods you're talking about. So our
17:58
Speaker 2: largest ETF was up fourteen percent last year. No, we
18:01
Speaker 2: weren't up as much as the S and P five hundred,
18:03
Speaker 2: but we're pretty close. And that's a year where nothing
18:06
Speaker 2: terrible happened other than you know, we had a lot
18:08
Speaker 2: of a lot of scary shocks. But I think, and
18:12
Speaker 2: I've loved the past six years of really getting to
18:14
Speaker 2: know people in the wealth management space in that I
18:16
Speaker 2: think the way people often pitch these things to clients
18:19
Speaker 2: is wrong. That I think they they go in. I
18:23
Speaker 2: think a lot of allocators, they fall in love with
18:26
Speaker 2: these funds. They go in and they want to tell people,
18:28
Speaker 2: I've found, you know, Lionel Messy, I've found Lebron James,
18:32
Speaker 2: I've found this person because look look at how they've
18:35
Speaker 2: done over the past five years. They're unbelievable. And I
18:39
Speaker 2: think that is a terrible way to introduce these products
18:43
Speaker 2: to an end client because then they're focused on it
18:48
Speaker 2: all the time and they want to know why they're
18:50
Speaker 2: not scoring every game. And and rather, what we have
18:55
Speaker 2: tried to do is basically say, look, we know this
18:57
Speaker 2: strategy is useful, but we're a boring way of getting
19:01
Speaker 2: exposure to it. We're just like that, no one, no one,
19:05
Speaker 2: And people generally don't panic because GLD is down five
19:08
Speaker 2: percent in a day. It's just part of your asset allocation.
19:11
Speaker 2: And so I think the advisor world needs a will
19:18
Speaker 2: be more successful when they framed these allocations not on
19:21
Speaker 2: a standalone basis based upon star power, and it's okay
19:25
Speaker 2: to pay them two hundred basis points a year because
19:27
Speaker 2: they're never going to be wrong. We know they're going
19:29
Speaker 2: to be wrong, and we know things aren't going to work.
19:31
Speaker 2: So if you frame it in terms of This is
19:34
Speaker 2: just simply incrementally that fills a gap in terms of
19:37
Speaker 2: how we manage your money, and it's priced at a
19:41
Speaker 2: very very attractive price point. No one's getting rich while
19:44
Speaker 2: we're waiting for this to happen. And five years from now,
19:47
Speaker 2: seven years from now, ten years from now, just like
19:50
Speaker 2: when we started to put you into high yield bonds
19:52
Speaker 2: or non US equities or these other asset classes that
19:55
Speaker 2: made your portfolio more robust, this is just one incremental
19:58
Speaker 2: addition to it.
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Speaker 3: So to wrap up, for investors looking to diversify, to
20:05
Speaker 3: avoid the tendency for all asset classes to move in lockstep,
20:10
Speaker 3: they should consider low cost ETFs that try and replicate
20:17
Speaker 3: what big expensive hedge funds do, but in a liquid
20:21
Speaker 3: inexpensive version. DBI has not only managed futures, but liquid
20:26
Speaker 3: alts that try and do this. They've put together a
20:29
Speaker 3: really impressive track record over the past five years. Just
20:34
Speaker 3: keep in mind that you don't want to back up
20:36
Speaker 3: the truck and own twenty thirty percent of it. It's
20:39
Speaker 3: supposed to be an insurance product. Andrew suggests three percent.
20:44
Speaker 3: I don't disagree with that. I'm Barry Ritolts. You've been
20:48
Speaker 3: listening to Bloomberg's At the Money