Following three highly successful months, the unexpected market corrections experienced during the final days of July resulted in a decline in value or “drawdowns” for Superfund funds.
Concern on the U.S. mortgage market crisis
The drawdowns were caused by sudden acute countertrends in numerous markets. The crisis in the U.S. subprime mortgage sector led to corrections in global equity markets, which had been trending upwards in recent months. The international markets for bonds and interest rate contracts, which had been moving in the opposite direction, were abruptly pushed upward. Similarly, currency contracts on the USD and JPY experienced sharp reversals over several days. In addition to directional changes in most financial futures markets, commodity markets also saw major downswings. Metals markets such as gold and platinum, which had been moving upwards, experienced significant downward corrections. Even agricultural markets such as cocoa and soybeans saw sharp reversals to their recent upward trends.
These diverse financial and commodity markets, which over the long term show virtually no correlation to each other, all display the same fundamental short-term behavior towards the close of July. For the most part, the prevailing upward trends plunged downward, and predominantly declining trends were corrected upward. The convergence of events like this is unusual but does occasionally occur in the markets and is quite difficult to predict.
Short-term correction after three consecutive positive months
In most of the markets, the Superfund trading strategies have still not reached their stop limits. If the corrections in these futures markets continue, the open positions will automatically be closed out as a result of strictly defined parameters within the Superfund trading systems. In contrast, if the markets resume their original trends, the open positions will very quickly return to positive territory. The risk management controls at Superfund are rigorous and consistent, using stop-loss orders to carefully limit the risks of all positions. The long-term performance results of the Superfund funds testify to the success of the investment approach.
Temporary drawdowns are not out of the ordinary for trend following systems. In contrast to other asset classes such as equities or real estate, the Superfund funds have generally been able to ride out expected and highly transparent periods of volatility, in most cases recovering from these lows relatively quickly. In fact, past experience proves that these drawdown periods offer excellent buying opportunities for investors, a fact which is well known to professional market participants. It is also interesting to note that statistically, the second half of the year generally produces superior results to the first half, as particularly strong and well-defined market trends tend to emerge in the autumn.
The “airbag” role of managed futures funds in troubled times
At moments like this, claims may be made that managed futures funds no longer serve as an “airbag” against crashes in the stock market and that they fail to protect investment portfolios. This interpretation is simply not true. Because of the sustained upward trend in the equity markets since 2003, the Superfund trading systems have held “long” positions in these markets, riding the upward trend. The consequence of this is that short-term corrections in the equity markets tend to coincide with declining performance of Superfund funds. As soon as a sustained downward trend is established, the Superfund trading systems will change to “short” positions, profiting from downward movements in equities. It takes some time to recognize a change in market direction like this, and the transition period inevitably involves some short-term losses. Between April 2000 and March 2003, the MSCI World Equity Index lost over 48% of its value – while Superfund Q-AG posted a net return of +121%.