Australian fund manager Global Commodities Limited has a long history of managing commodities in its long-only flagship strategy. Now the firm has a long/short strategy as well. HFC’s Stefan Nilsson had a chat with portfolio manager Dr. Gavin Bowden about the new alpha strategy.
What can you tell us about Global Commodities’ new risk premia long/short strategy?
Global Commodities has a long track record actively managing commodity beta. However, we were often asked by investors if we could apply our strategy in a market-neutral approach to reduce the volatility associated with the commodity asset class. Historically, we have successfully captured commodity risk premia with our flagship Active Global Commodities (AGC) strategy, but reducing dependence on the economic cycle and isolating commodity alpha was something that was attractive to some of the investors we were speaking with. This was the catalyst that resulted in the long/short version of our commodity program. We call this approach the Global Commodities Risk Premia (GCRP) strategy. GCRP is an absolute return strategy designed to capture commodity factor premia over time. In the current zero interest-rate policy and negative interest-rate policy environments that we find ourselves in, the hunt for yield is paramount and GCRP provides a unique source of yield that is uncorrelated to the major asset classes and other forms of alternative risk premia.
What are the main differences between your strategy and a standard CTA?
The GCRP strategy capitalises on how commodities are stored, transacted and valued. Momentum is the premier market anomaly and most CTAs have a heavy reliance on trend following. GCRP not only looks at price signals such as momentum and mean-reversion but also at a range of commodity factors as diverse as carry/roll, seasonality and relative value. This results in return drivers that are more diversified than a typical CTA. In addition, GCRP focuses exclusively on commodity markets whereas most CTAs also have large exposure to bonds, equity indices and FX. GCRP is also unleveraged compared with CTAs that generally employ leverage and often carry greater volatility in their return profile. When we performed the analysis and looked at the correlation between GCRP and the SG CTA Index since January 2000, we found that there was effectively no correlation at all. Even over rolling three-year periods the correlation remained consistently low and oscillated around zero.
What’s the thinking behind running the investment strategy in a systematic fashion with a discretionary overlay?
The commodity factors that we have identified have been the basis of many years of research. Since they are readily quantifiable it makes sense to have them combined in a quantitative model to capture the return in a systematic fashion. The discretionary overlay only applies when we move into tail events that the model has not seen before. In these situations there are benefits to having a portfolio manager taking the system off of autopilot and managing risk appropriately. The outlier events are also quantifiable and we want to avoid situations where the model would be generalising too far beyond the range of the data seen during model development.
Some commodities markets have started to pick up this year – is it still a good time to invest in a long/short commodities strategy?
Commodities are certainly on the move in recent times and we have seen natural gas up over 50% in Q2 2016, with the entire energy sector rebounding strongly from the lows set in February. Soybeans, cotton and sugar have also put in very impressive rallies. Brexit and increasing global uncertainty has seen safe haven demand for precious metals increase with silver soaring in recent times as it also has industrial uses. The beauty of the commodities complex is that the return drivers are very diverse and there are generally always opportunities. Now is the time for an investor to be seriously looking at commodities as bonds and equities are in overvalued territory, especially in relative terms as commodities have been pushed lower over the last five years while other asset classes have been trending higher. Just recently former U.S. Federal Reserve chair, Ben Bernanke, the architect of U.S. quantitative easing and the subsequent “tapering”, held meetings in Tokyo with both Prime Minister Shinzo Abe and Bank of Japan governor Haruhiko Kuroda. It is likely talks were about the logical extension of current monetary policy, the adoption of so-called helicopter money. The next huge fiscal stimulus in Japan and then in other parts of the world will most likely be an expansionary move focused on infrastructure, which will bode well for commodity prices. With the adoption of helicopter money comes an increased risk of unexpected inflation at some point and it makes sense for an investor to look towards commodities to help protect against such risk. This is part of the case for commodity beta, however, the advantage of the GCRP strategy, which uses a long/short approach, is that it is agnostic to the economic cycle and it exploits cross-sectional opportunities rather than relying on directional market timing. So while there is stratification in the yield of each constituent in a given basket of commodities, there are always cross-sectional opportunities that the GCRP strategy can benefit from. It just depends on what the investor’s needs are. GCRP is really about providing a consistent source of yield that is uncorrelated to other styles or asset classes.
How do you divide up the work between you, as PM and head of research, and the firm’s founder, Greg Smith?
Since we have built the strategy to be largely systematic, it is a case of looking at the various metrics each day and ensuring the portfolio is tracking as expected. Greg and I have worked together for a long time and have a good understanding of how each other thinks and manages risk. When decisions do need to be made, we have a standard process for how that is determined. However, for most of the time the strategy is automated. As PM, I sign off on orders on a daily basis. In addition to both of us reviewing the portfolio daily, I spend a substantial amount of time in research to ensure that we remain at the forefront of latest developments and have incremental improvements in our technology and strategy, while Greg spends a large portion of his time in market analysis, client relations and marketing.
You have been with Global Commodities Limited since 2010. What did you do before that?
After completing a PhD in engineering, I undertook a postdoctoral fellowship at Harvard University. My work there involved utilising NASA’s remotely sensed satellite data and developing models based on artificial intelligence algorithms to forecast environmental variables, such as droughts. After completing my work at Harvard, I moved into the fund management industry where I worked in research and strategy development for two CTA hedge funds. It was a natural fit as I was able to keep developing the statistical and numerical modelling skills I had gained from my years working as an engineer, but in these roles I was able to apply those skills to the markets, which has been both challenging and fun and has suited my analytical mind.
You’re based in Adelaide, Australia. What do you get up to when you’re not running money?
I have a young family with two boys aged three and five and I love spending my free time with them. We are blessed in Adelaide with a great climate and we like to get outdoors as much as possible on the weekends. We have a family beach house down the coast where we often get away to enjoy some time fishing and surfing. I also enjoy cycling and love going for long bike rides through the Adelaide Hills or along the many scenic coastal routes that we have in South Australia. Each year I participate in the Tour Down Under cycling event where recreational riders are able to ride an actual stage of the UCI World Tour event before the professional riders complete the stage. I am also passionate about Australian Rules football and I’m a keen supporter of the local AFL team, the Adelaide Crows, so I like to attend their games with my family and cheer them on whenever possible.
If you hadn’t been a fund manager, what would you have been doing?
As I mentioned, my background is in engineering where I predominantly focused on artificial intelligence and machine learning. I think if I wasn’t a fund manager I would most likely be working in this area and would be applying the latest robotic and AI technologies to solve environmental problems or perhaps in medical research applications. I think that would also be rewarding and would satisfy my desire to keep learning while solving interesting problems and technical challenges.