Trend Setters: Pushing the Trend Frontiers with Specialist Markets

How do alternative momentum strategies work and what differentiates them from traditional CTA futures? In this episode of Trend Setters, Peter is joined by Giuliana Bordigoni, Director of Specialist Strategies at Man AHL, to discuss what makes an alternative alternatives strategy, the diversification benefits relative to traditional trend strategies and asset classes, and execution is often just as important to success as your signals.

Recording date: September 2022

Episode Transcript

Note: This transcription was generated using a combination of speech recognition software and human transcribers and may contain errors. As a part of this process, this transcript has also been edited for clarity.

Peter van Dooijeweert:

Welcome to Trendsetters, the latest season of the podcast, Long Story Short. I'm Peter van Dooijeweert, and this series is all about demystifying the world of quantitative trend, following strategies. How they work? Why they work? And where they might fit in your portfolio.

I am excited for this episode to be joined by Giuliana Bordigoni, who is Director of Specialist Strategies at Man AHL. It is great to have you here.

Giuliana Bordigoni:

Good morning. I'm excited too.

Peter van Dooijeweert:

Well, I'm excited because so far with Otto and Russell, we've talked a lot about trend following strategies, but mostly in traditional markets, futures and equities and bonds and such. But you do something quite a bit different. So I thought we just jump into it. Some people call specialists, others say alt markets, nontraditionals. There's all kinds of different expressions, but what is it exactly?

Giuliana Bordigoni:

Yeah, so I think that you have to go back to the history of CTAs. So CTA started, and Russell might have told you in the early 90s, and they were trading future and forward. So we are talking about the most liquid future and forward market. When we talk about alternative market effect, we talk about this space of market that are not the liquid, future, and forward, where the traditional space of the CTAs. I like to call them alternative market, or specialist market, it doesn't matter. So it is quite a wide range of market, and that would include in this wide range of market, even the future which are less liquid and maybe less traded historically.

Peter van Dooijeweert:

So when you say less liquid, does that mean illiquid?

Giuliana Bordigoni:

No, not at all. We don't trade anything which is illiquid at the moment, especially in trend following. Less liquid, I mean that maybe the size of the market is not as big, but any of the market we trade, we need to be able to trade it on a daily basis. So more than the size, what is a consistent volume day after day? The size, you can always account for it when you do the allocation. So the smaller the market, the smaller the allocation. But what you really need to be able, you need to be able to trade it on a daily basis.

Peter van Dooijeweert:

And when we say small, does that mean millions of dollars a day, or?

Giuliana Bordigoni:

Yeah, it tends to be millions. So, even the smallest tends to have an average daily volume of millions of dollars a day.

Peter van Dooijeweert:

And so I guess it's safe to say that there are some markets that people probably haven't even heard of that you're invested in.

Giuliana Bordigoni:

Yeah, I would say, I hope so.

Peter van Dooijeweert:

And I guess the numbers are as high as 400 markets, is that right?

Giuliana Bordigoni:

The number is huge, and it comes from the fact that we have been doing this for many years. So I would say that probably we started looking into this space of alternative markets around 2005, 2006. And since then, we have been fairly active. And this sort of goes back to our philosophy. So Momentum, and Russell, again, might have told you is a relatively weak effect, and in order to really capitalize on it, you need to use diversification. So offer the wide range of markets possible, but mostly of different drivers. And that's where we start looking at an alternative markets. We wanted to compliment what we could, we were already doing in future and forward by different drivers. To give you an example, we were trading in fixed income. If you look at the traditional space, what you trade, you trade bond futures. And bond futures, where do you trade them? You trade them in develop markets mostly, right?

When you look into alternative markets, what you trade, you trade emerging market swaps, and that opens up a much bigger range of countries that you were not able to access when you were looking just at the futures.

Peter van Dooijeweert:

Interesting. So I might come back to that in a second, but I guess another question I'd have is, do you have to adjust the models for all of these different markets?

Giuliana Bordigoni:

Well, we don't. And let me say a little bit more on this. So we have our core momentum models and the aim of this core momentum models is to capture trends, whatever they appear in, whatever markets. So the signals that we use are the same in the alternative market space, and in the traditional space. What can differ is the speed of trading, that is true also if you stick to futures. In general, we trade more expensive markets lower than we trade the cheaper markets. But again, there are other variables. Take it as sort of average statement. So there's the same in alternative markets. It might be that some of the markets in alternative market space are more expensive than the one in the traditional. So we might trade them lower, but the actual set of signal is the same in both worlds.

Peter van Dooijeweert:

Interesting. So by expensive do you mean from a transaction cost?

Giuliana Bordigoni:

Correct.

Peter van Dooijeweert:

Not necessarily valuation standpoint.

Giuliana Bordigoni:

Oh no, no, no, absolutely not. I'm talking about transaction costs. And this sort of goes also back to the point that we believe in diversification. So we believe in really innovative by adding markets, by adding drivers, more than actually feed with existing models that capture perfectly the trend anyway.

Peter van Dooijeweert:

So, I guess, somewhat akin to that, I wonder why the alternative market trend isn't more widely adopted? I asked Russell the same question on traditional markets, why can't I just fire up my laptop, pick seven or eight kind of cool markets and have at it? Are there barriers to entry, that sort of thing?

Giuliana Bordigoni:

I would say that there are more barriers to entering this space, and you can think of barriers to entries like legal documents, execution, size of the trade. So there are some fixed fees that depend on the size of what you trade. So of obviously if you do it at home you might do a smaller trade, and you might not be optimal from that point of view. And the legal documents. So what you want to do, you want to have a wide set of brokers and counterparties that you trade with. And in order to be able to trade with them, you need some legal documents. So you need to have a legal department that can process this document. You need to have an execution that is specialized in trading different markets, and you need a back office that can affirm trades once they have happened. So it is quite a large infrastructure that you need in order to be able to make the trade.

Peter van Dooijeweert:

Yeah, I guess along those lines, execution costs probably matters. And I think you've written papers on the topic, basically, given what you're up to. Maybe tell us a bit more about all the things that a manager can do in terms of improving execution, and maybe make my laptop and I redundant.

Giuliana Bordigoni:

So I think that the first thing to observe is that the more brokers you have, well up to a certain point, the more brokers you have, the title tends to be the inside spread that you see in the market. So that is the first observation and that's why it goes back to the point before that the more relationship you have, the more you can leverage on this. The paper you mentioned, it's about the fact that most of the academic literature thinks of a trade, like something that you decide you make a trade and that's it. So it's like one isolated thing. While what we try to do in the paper, we try to look at least two trades. So meaning most of the people what they will do, they will sample the price in the morning generated trade and then we re-sample sometimes afterwards. But it's not that they won't trade for the rest of the data, they will get in new information, and they will base the next trade on new information that come in.

So the paper tries to address the problem of what is the optimal trajectory of your trades, if you are going to trade after you have done the first trade.

Peter van Dooijeweert:

That's pretty interesting. I imagine, too, there's a reasonable amount of turnover in the portfolio every year.

Giuliana Bordigoni:

Yeah, there is. So, again, it depends obviously on the market that we trade, we already talked about that some markets are more expensive, some are cheaper. I would say that our virtual period varies between a month to three, four months according to the market. But still that depends also on the market volatility, and it depends on your signal. So how strong is the trend in the market? Are you going to see reversal, is it going to go the other way?

Peter van Dooijeweert:

I'm also getting a sense just hearing about some of the instruments you trade that a fair bit of it might be over the counter markets. Does that mean you have counterparty risk, and how you want to think about them?

Giuliana Bordigoni:

Yes, loads of them are OTC markets. I would say that in the last few years we have seen more OTC markets becoming clearable. And wherever we can clear, we tend to clear, which means that your exposure is against the clearing out. So the counterpart risk is effectively the same as when you trade with the future item. But this doesn't mean that all the markets at an alternative market space are clearable. So in the one that they are bilateral, then you do have a counterparty risk. And we try to manage it by monitoring the counterparties that we have exposure with. As everything in AHL world is all systematic, so we have measures that we apply to the counterparty as well to assess the risk.

Peter van Dooijeweert:

And I guess that's an interesting part of the alpha conversation. Not to belittle my laptop more, but the fact that there are just markets we can't access through what we think are the easiest ways to trade and just the operational lift does seem severe. And anyway, so we've talked a bit about, I guess the operational side. Maybe we'll talk a little bit about a fun side, maybe tell us a bit about China. I know you've said before how there's a Chinese eggs market, and the apples market, and these are unique in that outside of China they don't exist, or if they did exist in such trivial form, it's me at Waitrose buying eggs.

Giuliana Bordigoni:

So we did discuss a little bit earlier that all the markets we trade, they may be small, but they can read every day. When you look at China, the appeal is that this market is deep. So in terms of the size of the market, they are big markets and in terms of what they are, many of them are unique. So you an made example of eggs and apples, but they are plenty more. Another big area of futures, actually, they are all futures here we're talking about. Futures which are listed on the main Chinese exchanges, and what you find, for example, you find a lot of industrials. And it's tougher to find liquid markets, which represent the segment of the economy in and outside China. You find a couple, but they're not very liquid, and some you don't find them at all. For example, I'll give you an example of industrials, you can think of glass. You can't trade glass outside China, at least at the best of my knowledge.

Peter van Dooijeweert:

So we've talked about a couple unusual markets in China, but also beyond traditional trend strategies. I noticed that CDS credit indices are traded a fair bit in alternative trend following strategies as well. Can you talk a bit about that, the liquidity profile, because I think some investors might think is not really liquid enough, even though we've just talked about Chinese eggs, they'll still think that?

Giuliana Bordigoni:

So I think that when you go into the credit space, you need to distinguish which markets. So if we think about indices. Indices are probably the largest markets that we trade in the alternative space. Here I'm talking about CDX, IG, or I'm talking about iTraxx main, and so on. And it's all corporate credit. In credit space you can also trade single name in terms of sovereign or corporate single name and that is definitely a much smaller space. I would say that among the two corporate single names, the one that is more challenging from an execution point of view. And I would say that it is a little bit of the cutting edge or the limit of what you do in trend following.

Peter van Dooijeweert:

I'm just curious, why do you think these markets have developed there? And I mean, we're supposed to be the forefront of finance in the US and the UK. Why there?

Giuliana Bordigoni:

I think it's because of the economy. So I think that if you look at what are these markets, there are markets that China is reliant on in the economy. So what I mean is that there is loads of manufacturing in Chinese economy, there's loads of building in China. And these are the markets that are necessary for the economy. That's why I think that they develop there.

Peter van Dooijeweert:

Okay. So moving on, then, I guess performance of alternative market trend followers has been a lot more consistent than some of the traditional CTAs. And by that I mean the period from say 2010 through 17 seems like there's maybe a bit more alpha, a bit more return. Am I imagining that? Is that the case?

Giuliana Bordigoni:

Historically, it has been the case. Our philosophy is that we believe that trends appear in different markets at different times. And the best we can do is to offer any drivers, as I said earlier, but historically you have seen that markets in the alternative space have trended better. In terms of if you look at, one possible reason is that when you look at the average pairwise correlations of the markets in the alternative space, they tend to be a bit lower than in the traditional space. So maybe it is a space that internally is a little bit more diversified, but the results also have the fact that the markets historically have shown better trends. But again, I'm talking about historically and I would really stress that.

Peter van Dooijeweert:

We spoke a bit with Russell and Otto about the Fed Put. And so the Fed Put is gone now, and we see trend strategies making out in all forms, and all flavours. But going back to that same period, 2010 to say 17-ish, there seems to have been a Fed Put dampening in a lot of different markets. Is the implication that some of your markets weren't impacted by that? If we believe that to be true, and maybe you don't believe it? I don't know.

Giuliana Bordigoni:

No, no, no. I do believe that. I do believe that. The markets most impacted in that period were the market that... So we can call it a macro driver, they are sort of macro markets. And I think that there are some macro markets in eternity space, but there are also loads of them which are more reducing radically. And that they're not affected by the Fed up. So that for sure has been one of the reason, probably we've seen more internal diversification than we've probably seen better performance.

Peter van Dooijeweert:

So going down to the topic of diversification, every conversation we've had so far is included inflation. So you're going to get into inflation as well. So.

Giuliana Bordigoni:

All right.

Peter van Dooijeweert:

Every investor cares about it. We've seen obviously traditional trend do well. How about alternative trend? Is it benefiting suffering? How is it going?

Giuliana Bordigoni:

In terms of inflation? We see that trend in traditional space do well, because there is a bit of under reaction to inflation, it takes times and therefore the trend develops. And the markets that they do well in this scenario tends to be commodities, and they tend to be fixed income on opposite side with commodity going up, fixed income going down. But that's what is sort of the story. And at an extent this is also the case for some of the alternative markets. And I will go back to the previous question. So the one that are driven from some of the macro driver for sure will see the same, some will be a bit more reduced radically, so you will see less of that.

Peter van Dooijeweert:

And I guess you've kind of answered this question, but I'm going to ask it anyway. Otto spends a lot of time talking about the best strategies for the worst crises, the best strategies for inflationary times. Crisis alpha is on people's minds, so kind of the same question, may the same answer. Do alt markets show crisis alpha in the same way they've shown it with inflation at times?

Giuliana Bordigoni:

When we think about crisis alpha, we always think about an equity sell-off. And I would say that in the internet space, there might be less markets that they are influenced by an equity sell-off. And therefore you might argue that the alternative component is a bit more prevalent, and therefore they have a little less crisis alpha than the traditional space. But for the markets that they are, let's say more influenced by an equity sell-off, you will see similar properties.

Peter van Dooijeweert:

And so, I guess, in that vein, probably very few of our investors have a lot of eggs in China, but they have pretty traditional assets. So does it make sense to say, maybe take some of the alpha of the alt market strategies and put it alongside more traditional trend as a more direct risk control?

Giuliana Bordigoni:

Absolutely. We go back to the diversification, having a traditional market and the alternative markets together increase your diversification. So as I said earlier, we believe that trends appear in different markets at different times, which means that the more diversify your portfolio in theory, the better you can capture and the trends wherever they appear.

Peter van Dooijeweert:

In terms of innovation. You mentioned a bit with respect to getting something like EM swaps into the portfolio. We've talked a bit about the Fed Put, and how strategies are outside of that to a degree. So what role does innovation play in what you're putting together, and maybe looking forward?

Giuliana Bordigoni:

So innovation comes from being at the cutting edge of what you can trade. Obviously, there is a limit to that. That is why we need to be able to trade on a daily basis, as I said earlier, but there are loads of markets that become more liquid through time. There are regulations that are changing, and that means that you might be able to access some markets that you were not able to access five years ago. So innovation comes really from keeping up with the liquidity in any market, even in the one that you don't trade, and add them as soon as they become viable.

Peter van Dooijeweert:

I guess I have to ask, because everyone has spent a lot of time talking about crypto this year. It's a trivial part of global assets under management, but it seems to get an out-sized amount of attention. So I'm going to ask what about crypto?

Giuliana Bordigoni:

Yeah, it definitely receives an out-sized amount of attention. I agree on that. For me, crypto is another driver. If you think about trend following, obviously, you can do more quant strategy in crypto. Here we are discussing trend following, and for me, in trend following, crypto is simply another driver. So it makes lots of sense to me, adding them into a trend following offering.

Peter van Dooijeweert:

And so maybe to wrap it up, looking ahead, what do you see as the future for alternative momentum? New markets? Is it about data? How are the opportunities forming? What does it look like for the next few years to you?

Giuliana Bordigoni:

Yeah, so where do I see it in the future? I see it in the new markets. If we talk about momentum, we will be adding new markets. As I said earlier, some will become more liquid. Regulation will change. We'll be able to access some more. But I also see the future in quant strategy in general in this space. Because at the moment what we see in this space, from a systematic point of view, we see a lot of momentum. We don't see much of quant strategies, if you exclude cash equities, right? So I do see more going into the quant space on the quant strategy in these alternative market space.

Peter van Dooijeweert:

That's great. Well, thank you for joining us.

Giuliana Bordigoni:

Thank you.

Peter van Dooijeweert:

It's definitely been informative for me.

Giuliana Bordigoni:

Thank you very much.