Reducing Portfolio Volatility

Reducing Portfolio Volatility

Reducing Volatility within a Portfolio has always been at the top of the investor’s priority list.  It’s the same priority as ‘less risk for more reward’, and is therefore a main goal of the investment community.  The below pieces of information will outline how we believe Managed Futures can meet this goal within your portfolio.

Modern Portfolio Theory

In 1952 the Professor developed a Portfolio Theory that thirty-eight years later won the Nobel Prize.   Today’s savvy Investors shape their portfolios based on the work of Professor Harry Markowitz of the University of Chicago.

Modern Portfolio Theory as it’s called today (MPT) “reduces risk only when assets are combined whose prices move inversely, or at different times, in relation to each other.” said Markowitz.  Having shares from different sectors that are in the same asset class (ex. Equities) only removes your sector risk within the asset class.  When holding a security that tends to move in ‘sync’ with other securities, correlation risk exists. Markowitz described in his articles “Portfolio Selection” within the Journal of Finance, in Mar 1952 how to combine assets into diversified portfolios efficiently.


In the world of finance, Correlations are a statistical measure of how two securities move in relation to each other. Correlations are used in advanced portfolio management.

Investopedia on Correlation:

“Correlation is computed into what is known as the correlation coefficient, which ranges between -1 and +1. Perfect positive correlation (a correlation co-efficient of +1) implies that as one security moves, either up or down, the other security will move in lockstep, in the same direction. Alternatively, perfect negative correlation means that if one security moves in either direction the security that is perfectly negatively correlated will move by an equal amount in the opposite direction. If the correlation is 0, the movements of the securities are said to have no correlation; they are completely random. “

The conclusion of Modern Portfolio Theory provides is to develop a portfolio that is diversified with provides the highest returns with the lease amount of volatility taking advantage of uncorrelated asset classes. Only if it trades successfully, a managed futures account can help add diversity to a portfolio.

Many Investors are under the impression that their asset including Stocks, Bonds and International Equities are ‘diversified’.  They are different asset classes; however they are closely correlated and therefore not diversified optimally.  Take one look at the crash of 2008 and you’ll conclude their approach needs to be improved.

The Chart from CME below shows how Managed Futures performed during market declines within the Stock Market.


*Courtesy CME Group: Managed Futures: Portfolio Diversification Opportunities


The maximum draw down for stocks was –44.7 percent during the period of 09/2000 through 09/2002



Key Events during 1984 – 2008


The above chart calls out point of decline in US Stocks, and highlights the performance of Managed Futures during this time.  Comparing the performance of US Stocks during a Managed Futures decline is therefore a worthwhile tasks for a holistic view of this comparison. During 1992, 2000, and 2004 were the largest Managed Futures declines.  In 1992, US Stocks continued to gradually rise during the Managed Futures decline.  In 2000, US Stocks declined at a slower rate of Managed Futures.  In 2004, US Stocks declined, however at a lesser rate than Managed Futures.   This information provide a holistic view of a comparison between US Stocks and Managed Futures accounts.

Dr. John Lintner, of Harvard University wrote that “the combined portfolio of stocks (or stocks and bonds) after including judicious investments….in leveraged managed futures accounts show substantially less risk at every possible level of expected returns than portfolios of stocks (or stocks and bonds) alone”