CAIA Level II: Advanced Core Topics in Alternative Investments, 2nd Edition

32.3 HOW MANY MANAGERS SHOULD ONE CHOOSE?

The question lends itself to an interesting analysis of what an investor is trying to accomplish. For example, an investor may want to create a portfolio that tracks a diversified CTA index (e.g., Barclay CTA Index or Newedge CTA Index). This is a plausible goal, because these indices are widely used benchmarks. Further, in some cases the CTAs whose returns make up these indices are among the largest in the business and, in the case of the Newedge CTA Index, are open for business and provide daily returns. In examining the construction processes for CTA portfolios, Burghardt and Walls (2011) use the returns reported by CTAs that are part of the Newedge CTA Index in order to see how quickly the return on a portfolio of CTAs converges to the return on the index.

Exhibit 32.1 demonstrates the range of returns realized on randomly formed and equally weighted portfolios that include anywhere from one to 20 CTAs. The gray bars indicate the two middle quartiles while the black lines are related to the bottom and top quartiles. The index return in 2008 was about 12%. This exhibit shows that the main effect of increasing the number of CTAs in the portfolio is a decrease in the amount by which an investment might outperform or underperform the index. With a single-CTA portfolio, an investor might outperform the index by as much as 22%; however, the investor could also lose money on the investment, even if the industry is, on average, making money. ...