At the Money: Seeking Uncorrelated Returns

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2:50Lots of asset classes promise uncorrelated returns, but very few deliver. One that does is managed futures. Sure, they're expensive and the trading is somewhat spiky. But when all correlations go to one, meaning everything is trading in lockstep, like we saw during the financial crisis or the first couple of months of COVID, managed futures seem to be the rare diversifier that works. To help us unpack how to get additional diversification in your portfolio, let's bring in Andrew Beer. He's a hedge fund veteran and founder of Dynamic Beta Investments, a firm focused on hedge fund replication strategies delivered through low-cost liquid vehicles like ETFs and mutual funds.

3:43His ETF DBI managed futures strategy tries to replicate the pricier managed futures portfolio. So, Andrew, start us out with just the elevator pitch. What problem does DBI managed futures strategy, and that's ETF ticker DBMF, what does that solve for the traditional 60-40 investor? Sure.

4:08Andrew Beer:So, first of all, thank you very much for having me on. So diversification has changed a lot this decade. In the 2010s, you really didn't need anything other than stocks and bonds. But things have changed. Since inflation started to come back, stocks have tended to move up and down with bonds and did not protect in 2022. And so what you see across the wealth management space is basically saying 60-40 worked for a long time, but now we need something else. And what is that something else? It's generally something that has a low correlation to ideally to both stocks and bonds and can also deliver positive performance when you need it the most.

4:52Andrew Beer:And so we looked, you know, we were looking around for something like that about 10 years ago and we zeroed in on this space. It's a niche area of the overall hedge fund business, but it's been around for 50 years. It's battle tested through all sorts of market environments. And you find something that actually meets those criteria, but did well during the dot-com crisis, did well during the GFC. And then after we'd invested, it was up 20 % during 2022. But from our perspective, it's like that's great if you're an institutional allocator. But how do we get the great benefits of this strategy and package it for a way that my sister or my cousin or something can put into their portfolios as well?

5:34Really, really interesting. So, since 2022, the asset class we've all been probably hearing the most about has been private credit, private debt, private equity. Hey, it's a great diversifier. To be blunt, I get the sense that debt and credit are going to move. If we have a recession, if markets sell off 20%, 30%, is there any reason to think that sort of diversifier is not going to do the same thing? Yeah.

6:05Andrew Beer:So what's interesting about it, so there's been a lot of debate about how these guys happen to make money during these big moments in the markets where it feels like nothing is working. And it's funny because people talk about, sometimes people use a term called trend following or momentum associated with a strategy. To me, it's totally wrong that when the strategy generates those kinds of returns, it's because they are early, contrarian, and right in a big way. And so, you know, if you think about, if somebody came to you and said, here's a strategy, here was a person who had been buying gold below 3 ,000, who was, you know, betting on rising interest rates as far back as 2020, September 2020, you know, that saw in advance the rise in the dollar relative to the Japanese yen, these kind of big trades out there because the world is changing in some way.

6:59Andrew Beer:That's what the strategy has historically been able to pick up on. And so I believe that structurally, we are likely to see more of those things over the next several years. And this is one of those strategies that has proven its ability to reposition to take advantage of those big changes in the world. Really, really interesting. So you mentioned trend or momentum. Define managed futures without Wall Street jargon. What does DBMF actually mean by exposure to trends? Okay. So I'll start with the definition of the strategy overall, which is basically, you know, what I mentioned is that they're trying to detect big changes in the world.

7:42Andrew Beer:The way I think about that as a hedge fund person is that somebody knows something that the world is changing and they're acting on it with, you know, buying or selling different asset classes. Like if you know the world is changing in a big way, people tend to act on it with their portfolios. And so managers as a strategy will often look at lots and lots and lots of the price moves across lots and lots of different markets to pick up these kernels of information that something big is changing. So if you take last year, where our core strategy was up 14%, it was in part by being early in the fact that the run at hot rate, it was continuing to have a long position in gold when gold went through its melt up.

8:26Andrew Beer:And so, you know, outside of, I think a lot of people in the space like to talk about how the sausage is made. Our view is actually what's much more interesting for the end investor and for allocators is how does this actually help you? And why should somebody looking at this in their portfolio be glad that it's there? It makes a lot of sense. I guess one of the things that make this space so interesting is, yeah, it's a good diversifier, but most traditional investors don't really pay attention to it. You've called Managed Futures the best diversifier no one buys. Explain why that is. Well, I'm convincing people.

9:10Andrew Beer:I'm changing hearts and minds one at a time. So a lot of the people in this space love to talk about the technical aspects. So the underlying strategies are very, very technical. They're quantitative models looking at derivative contracts on sometimes hundreds of underlying instruments. And so it's a little bit like they love to talk shop with each other about what they're doing. Part of our success as a business is I don't come at it from that direction. I come at it from the perspective of why will this make my portfolio better, by which I mean help to grow assets and help me sleep at night.

9:48Andrew Beer:And so if you look at it, I'm making progress. So when I got into the ETF space, there was only about 300 million. This is in 2019. There's maybe close to 5 billion today. And in part, and we've been really driving that, that this is something that, and I think if you look five years out from now, And you sit down with an advisor and they'll say, hey, what's that 3 % or 5 % position there? And they'll say, it's managed futures. It's one of these strategies. And you'll say, well, what's it there for? And they'll say, well, look, every now and then the world changes a lot. And we want a nimble, flexible strategy that can take advantage of it in the way that the other 97 % of your portfolio is not likely to.

10:30So let me revisit that information in a slightly different question. Um, when, when we, whenever I'm speaking to clients or potential clients, the question is always, we have this problem. How do we solve for this? So really the question I want to ask you is what problem in the traditional managed futures space convinced you that a replication based ETF like DBMF really needed to exist? What's the problem you're solving for, for the average ETF investor?

11:06Andrew Beer:So I would start with the, actually, I would first ask the broader question is what's problem are we solving for people in their portfolios? And the modern wealth management business, just like the institutional investment business, just like 6040 portfolios, is based upon two fundamental ideas. One is diversification is a net positive. And two is have long term views for your asset allocation models and don't change them often. It's the latter part and the latter part. And that has a generation of investors has not gotten head faked by Liberation Day and all these moves in the market because they've been trained, don't panic and don't overreact.

11:51Andrew Beer:And that works 80 % of the time. 80 % isn't bad, by the way. 80 % isn't bad, right? And which is why that should be 95 % of your portfolio. 20 % of the time, the world changes. And by design, they will be slow to adapt. So where are we right now, right? The US dollar is getting debased in some fashion, right? There is this potential loss of confidence in US assets at a time where everyone is massively overexposed to US assets. That could play out over five or seven years. But most allocators will not change until the horses have left the barn, so to speak. And so that's what it's trying to solve from a portfolio perspective.

12:40Andrew Beer:What we were trying to solve is it's a great strategy. It's just too damn expensive the way people run it. And it's not just what are their management fees and incentive fees. It's also, they run these Rube Goldberg-like portfolios that trade every day, hundreds of times a day. And when we looked at it, we said, look, we love the signal that they're picking up on. But if we can do that in a simple portfolio that is much more liquid, we can save hundreds of basis points of implementation costs and take more of the value and pass it back to clients. So let's talk about that a little bit and use some real life examples, how does either DBMF or funds like it in the period before DBMF was trading, how does it behave in periods like the dot-com implosion or the GFC or COVID?

13:39Andrew Beer:Well, COVID was – so when the strategy does the best is when I say the world is changing. And COVID was a very strange thing in that the world changed in three weeks, basically. And then so so it's not really designed for that kind of a flash move, but still it preserved capital as a strategy during March when when things were getting getting hammered. The where it thrives in a period like 2022. Inflation's coming back. And I'll tell you a great story is that I was I wrote a paper on inflation coming back in early 2021. And I was talking about it to people all year long. And I said, if inflation comes back and Powell came out and said, it's probably not coming back, it's transitory or something.

14:23Andrew Beer:But I get to December and I'm sitting down with a guy who says, I totally agree with you. I think inflation is coming back. And I said, how are you rebalancing your portfolio? And I said, I'm selling my stocks and buying bonds. Because he was benchmarked to 60-40. And stocks have gone up more than bonds. So I think it's important as allocators to recognize that there are going to be times like this when the standard playbook that we have from an asset allocation perspective is not designed to pick up on that. And here's a strategy. So the overall strategy in 2022, when stocks and bonds were both down 15 % to 20%, the strategy went up 20 % overall.

15:03Andrew Beer:And by being a bit more efficient, we went up a bit more than that. Really kind of interesting. Interesting. So let's talk about the Managed Future ETF. What markets does it trade? What positions does it hold? Like I typically think when I hear trend following, I think Michael Koval's trend following book, and I think primarily of commodities if you're watching gold or silver these days. But it's a little more broad than that. Tell us the assets DBMF actually trades. Yeah. So what is extraordinarily irritating to people in the industry is that we do much better than them with only 10 instruments.

15:44Andrew Beer:And the 10 instruments that we trade are the biggest obvious instruments. So S &P 500. This is all futures contracts, by the way. Right. So the index, not individual stocks. Exactly. So S &P 500, non-US developed markets, emerging markets for equities. That's it. In fixed income, so the second asset class is fixed income, two years, 10 years, 30 year treasuries. In commodities, we only trade gold and oil. Gold and oil. The assumption is other precious metals will track gold and oil is its own thing. No agricultural products? We don't because the markets are – we don't think – in other words, when – I would say just the last category is in currencies.

16:27Andrew Beer:It's the euro and yen. So it's four asset classes and we can go – Euro, yen, but not the dollar. Well, against the dollar. Gotcha. All right. Always relative with currency. Yeah. And so look, what we – our research showed early on is that it's like – what's the political expression? It's the economy, stupid. It's the big trade, stupid. that in 2022, to be up 20%, you want to be long crude oil in February. You want to be short the yen when it goes from 110 to 160. And you want to be short treasuries when interest rates go up. And a lot of the narrative in the space, as you say, is exactly that.

17:06Andrew Beer:Look at copper moves. Look at the spike in copper, the palladium or other things. It sounds good if you're an institutional investor who cares about this stuff, but it's not big enough to make an impact on the P &L. And so our research is very powerful. And it basically showed that if these guys make 10, in theory, as a hedge fund investor, you're lucky to get five. I can give you 10 with a simpler and much more efficient portfolio and give you eight or nine and put it into an ETF where you can see every single position every single day. Yeah. So, I mean, so the basic idea is I wanted to show that we could beat hedge funds at their own game, but do it within an ETF, which no one had ever done before.

17:53So you don't have the drag of 2 and 20. The cost structure is a little less or a whole lot less. Maybe it's about what the typical ETF is. So this has turned out to be a very successful product. It's now, DBMF is now the largest managed futures ETF. A couple of questions. At what point do you begin to run into capacity constraints for the strategy? Do you have any issues with liquidity or slippage or even market impact? How big can this get?

18:27Andrew Beer:It was designed to get as big as we need it to get. So because of the instruments that we're trading, these are the deepest and most liquid instruments that are traded globally. And we all, we trade everything in the US. And so our market impact is essentially zero. I came from, I had, I started a commodity business. And one of the things that I think people have overlooked is, is complexity often has a real cost. It sounds great to say I'm trading some esoteric market someplace. When things go bad, like in the week after Liberation Day, the people who are trading those markets are waiting to see your order come in.

19:07Andrew Beer:You are making their year on the days. And so, so I look, I come from a school that it's got to be that simple, straightforward, efficient is going to win most of the time. And what we've shown is we can beat some of the most sophisticated hedge funds in the world with this by three or 400 basis points a year through efficiency. But then I can also deliver it in something that my sister can own. So to wrap up, people who are concerned about correlations just becoming one in any sort of crisis and want diversification should consider managed futures exposure and the most efficient, least costly way to do that is through an ETF like DBMF by Andrew Bier and DBI.

19:59I'm Barry Ritholtz. You're listening to Bloomberg's At The Money.

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