Investment Risk and Uncertainty: Advanced Risk Awareness Techniques for the Intelligent Investor

CHAPTER 4

Commodities and Currencies

Steven P. Greiner, PhD, and William F. McCoy, CFA, PRM

COMMODITIES

In modeling the risks of commodities, it’s important to consider the futures that investors buy and the available host of exchange-traded funds (ETFs) and mutual funds that exist for such purposes. First, a managed futures account, unlike the usual long-only institutional fund, can typically take both long and short positions in futures contracts and options on futures. Of course, managed futures accounts are usually trading in commodities, interest rates, and currency markets.

Typically, these futures are traded using any number of strategies, the most common of which are momentum (or trend following) strategies. Momentum strategies involve buying futures that have been recent winners over some time scale and shorting securities that are recent losers (relative to the winners). Variations in trend following managers include duration of trend captured (short-term, medium-term, or long-term trend), as well as definition of trend (i.e., what is considered a winner or a loser). Many of these strategies go long in uptrending futures and short positions in futures that trend down.

There are other strategies (managed futures) that managers use, including discretionary strategies, fundamental strategies, option strategies, pattern recognition, arbitrage strategies, and so forth; however, trend following and variations of trend following are predominant by a long shot.

Of extreme importance ...