Download Gideon I: the FTC equity strategy

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September 2009 issue
Gideon I: the FTC equity strategy
The new long-short approach at work
As promised, FTC’s trend-following fund-of-funds strategy has survived the crisis
months on the world markets since 2008 much better in comparison with conventional equity funds. Since February 2009, FTC has been applying an additional longshort overlay in Gideon I.
Read this issue of FTC.update to learn about the ideas behind the combination of
the two strategies, the results we’re already seeing in practice, and what we’re expecting for the future.
FTC Gideon I was created in January 2006. This was the first UCITS compliant
mutual fund with an FTC trading system. The original strategy combined two different trend-following systems which generated trading signals in a universe of over
1,000 equity mutual funds. This strategy, which can have between zero and one
hundred per cent long exposure, limits the risk of falling markets by dynamic management of the investment level.
The original model survived the first trials in the equity market corrections in
2007, but we only saw how well it coped with even long and serious bear markets
in 2008. In this catastrophic year, FTC Gideon I protected its investors very effectively. The fund’s losses (-5,5 %) were extremely moderate compared to the market (MSCI World in euro: -39 %).
Even so, FTC Research was looking for further possible improvements even before the 2008 crisis. There were two key goals: The first was to reduce volatility
significantly below the stock market, without having to sacrifice profit. The second
was to retain a chance of profit even in bear cycles.
The overlay: a friend from the futures world
Obviously, these two goals cannot be achieved with a pure long-only approach.
Finally, the solution was found in FTC’s core competence field – systematic futures
trading. FTC had already been using a short-term non-trend-following system specifically for stock index futures since 2008, and after extensive testing it proved an
almost perfect partner for the original trend-following system employed in FTC Gideon I. The futures system has an average holding period of around three days and
is uncorrelated with medium to long term trend followers. The system uses a combination of mean reversion and momentum signals and has been used as an overlay in FTC Gideon I since February 2009. In summer 2009 we took a second step,
supplementing the overlay with another strategy from our futures funds. This tries
to benefit from intraday movements in the most important US index futures, and is
even more short term, with an average holding period of only 1.5 days.
OVERLAY AS AN ELEMENT OF RISK CONTROL
The derivative overlay will continue to be developed and – possibly – expanded.
The first few months in which the fund performance of FTC Gideon I reflected the
combination of the original active fund-of-funds strategy and the new overlay were
already impressive. These data are not representative yet, but they do show desired effects which we expect to continue in the future:
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The correlation between the original fund-of-funds component and the overlay
between February and August based on monthly performance was 0.08, in the uncorrelated target range, and each component delivered positive earnings. However,
the fund’s performance in these seven months was only a trace higher (0.3 percentage points) than that of the fund-of-funds component by itself. This is also
within expectations, given that the derivative overlay is primarily designed as a risk
brake rather than a performance turbocharger. To put it another way, its function is
to make the entire product more intelligent, faster and more robust.
MODEL CALCULATION:
The most interesting result of all the ex post tests with the overlay in FTC Gideon
I came from the analysis of the catastrophic year 2008. In this environment, the
trend-following fund-of-funds strategy identified hardly any investment opportunities – it was predominantly weakly invested or entirely out of the market, and most
of the few buy signals there were proved to be losers. If we had been trading at
least the first overlay component, the combined performance in 2008 would have
been over 10 % according to our calculations . This result is naturally also the most
annoying – firstly, because it is purely hypothetical, and secondly because the overlay was not ready for use yet at that time.
WHAT WE EXPECT FOR THE FUTURE
Seen on a long term basis we expect the new system composition in FTC Gideon
I to produce a significant improvement in the risk-return profile of the fund. Specifically, the following (positive and negative) effects can be expected:
+ Performance similar to the stock market with further reduction in downside risk
over the period
+ Even more significant market outperformance in bear cycles, with a chance of
positive returns
+ Reduced vulnerability to losses in market cycles where trend-following strategies typically deliver poor results (e.g. prolonged sideways markets)
-
Possible underperformance in time frames which are ideal for trend-following
strategies (particularly prolonged rallies)
All things considered, FTC Gideon I presents itself even more attractive than ever to all investors seeking stock exposure but trying to avoid the risk of heavy market losses as far as possible.
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FTC Gideon I, licensed for distribution in Germany and Austria
Caption page 1
FTC Gideon I since inception (16.01.2006) compared with its benchmark MSCI World Euro
(red). The outperformance to date was achieved during the downward markets, where Gideon I reduced its investment level.
Sources: Bloomberg, FTC database
Caption page 2 (top)
FTC Gideon IYTD 2009 (as at August 31st). The derivative overlay has been in use since February.
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* Based on daily changes. MSCI = MSCI World Index in Euro.
Sources: Bloomberg, FTC database
Caption page 2 (bottom)
The catastrophic year 2008: While MSCI World Euro (red) lost c. 39 %, Gideon I protected
its capital against a similar loss. Historical simulation shows that the overlay (blue) would actually have made a positive year possible.
Sources: Bloomberg, FTC database
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