DBMF - DBMF's Recent Underperformance Explained

2023-03-20 08:49:38 ET

Summary

• DBMF has an outstanding long-term performance track-record.
• Performance is worsening, with the fund significantly underperforming these past few months.
• An explanation as to why follows.

Author's note: This article was released to CEF/ETF Income Laboratory members on March 8th.

I've been getting quite a few comments, and requests for coverage, on managed futures ETFs. These are actively-managed, multi-asset class, long-short futures funds with strong potential returns and long-term performance track-records. Before going through some of the newer offerings in this space, thought to have a second look at the iM DBi Managed Futures Strategy ETF ( DBMF ), last covered six months ago.

DBMF's asset allocations are approximately equivalent to those of the average futures hedge fund. Performance is strongly dependent on hedge fund positioning and effectiveness. If hedge funds pick the right investments, DBMF should do too, leading to strong fund returns, and vice versa.

In my last article, I argued that DBMF's outstanding long-term performance track-record made the fund a buy. The fund has significantly underperformed since, performing much worse than expected.

DBMF's underperformance was due to subpar positioning. Specifically, the fund was significantly short Euro, developed and emerging markets, and these three asset classes have performed quite well these past few months. Notwithstanding these losses, I remain bullish about the fund, due to its strong long-term performance track-record, and as these positions were, on net, profitable for the fund. As DBMF's performance is strongly dependent on future positioning, and effectiveness thereof, I would keep position sizes small, so as to minimize risk.

DBMF - Quick Overview

DBMF is a multi-asset class, long-short, futures ETF. These three characteristics tell us everything we need to know about the fund. Let's have a quick look at each. I have a more in-depth explanation here.

Futures

DBMF invests in futures, which are standardized legal agreements to buy or sell a particular commodity at a predetermined future price and date. Futures can be used to speculate and profit from asset price movements. As an example, equity bulls can buy S&P 500 futures at today's (relatively) low prices, and see strong capital gains as equity prices rise. DBMF uses futures to speculate, and potentially profit from, asset price movements.

Multi-Asset Class

DBMF uses futures to speculate on asset price movements on a wide assortment of asset classes. These include equities, fixed income, currencies, and commodities.

Asset class diversification serves to reduce risk and volatility, and means fund performance is not strongly dependent on the performance on any one specific asset class. Asset class diversification also increases complexity, and makes it somewhat difficult to analyse and understand the fund.

Long-Short

DBMF employs both long and short futures positions. Direction depends on the estimated current asset allocation of futures-using hedge funds, generally referred to as commodity trading advisor, or CTA, hedge funds. So, if hedge funds are short oil then the fund is short oil. Same for other asset classes.

As DBMF is a multi-asset class long-short fund, returns could be positive or negative during any conceivable market scenario, depending on positioning. DBMF could post gains during a bull market, if it is long equities during one. DBMF could post losses during a bull market, if it is short equities during one. Same for every conceivable market scenario out there.

DBMF - Current Holdings

DBMF's current holdings are as follows.

As can be seen above, the fund is currently net short, due to significant short treasury and bond positions. Exposures are over 100%, as the fund is leveraged.

DBMF - Recent Performance Analysis

DBMF's long-term performance track is quite strong, with the fund outperforming relative to most major asset classes at a relatively low level of risk. DBMF has equity-like returns:

but with (generally) lower volatility:

losses during downturns:

and drawdowns:

Notwithstanding the above, DBMF's recent performance is quite weak. As mentioned previously, the fund has significantly underperformed since my last article, around six months ago.

As mentioned previously, DBMF's performance is strongly dependent on its asset allocations and positioning. These were quite mediocre in the past, with every single position posting losses these past few months. Fund positions, as of October 2022, were as follows. I've included returns for the asset class of each position, as well as the returns from the position itself (accounting for size and directionality).

Of the above, the fund's short euro position was the most significant, and by far. DBMF was significantly short the euro as hedge funds believed the Ukraine War would harm the Eurozone economy, leading to lower currency prices. Presumably, at least. The fund's short developed and emerging market positions also led to important losses. Other positions led to smaller losses as well.

From the above, and as per management commentary, the euro position was key. Graphing the fund versus the euro is, I think, quite instructive. DBMF basically tracked the dollar / euro exchange rate in 2022, albeit with a higher volatility / leverage.

More recently, the fund's short treasury position has also led to sizable losses. From what I've seen, said position was much less important compared to the short euro trade, but conditions are quite volatile right now.

So, DBMF has underperformed these past few months due to mediocre positioning, including a short euro and short treasury position.

Importantly, asset allocations have materially changed in the recent past. The fund is now long euros and developed markets, while being short emerging markets a small amount. These changes seemed to have come too late to reduce losses, as evidenced by the fund's subpar recent performance.

DBMF - Why I Remain Bullish

DBMF's recent underperformance has been a significant negative for the fund's investors. Nevertheless, I remain bullish, for two key reasons.

First, is the fact that the fund's long-term performance track-record and overall value proposition remain quite strong. DBMF has outperformed relative to most asset classes since inception, with below-average risk and volatility too.

Second, is the fact that most of the fund's positions have been, on net, profitable.

The fund shorted the euro in early 2022, and the euro is down since.

The fund shorted developed market and emerging markets, both are down too.

The fund shorted treasuries, and these are down too.

From the above, as per my calculations and management commentary, the euro and treasury positions were very profitable. DBMF has performed exceedingly well since early 2022, as expected from a fund holding these positions.

I would be more bearish if these positions had been net unprofitable, but this was simply not the case. DBMF's past positions were, on net, very profitable, and delivered strong, market-beating returns for shareholders. The fund simply retained these positions for a bit longer than would have been ideal, hence the recent losses. DBMF's timing was not perfect, but it has been good enough to deliver strong returns. My timing was terrible, but that can't really change my assessment of the fund itself. Not DBMF's fault I wrote about the fund at the top of the USD / Euro exchange rate.

On a more negative note, the fund remains significantly short treasuries. Said position is quite aggressive, has not been profitable for months, and could remain unprofitable for more months still. A sufficiently large recession or Fed pivot would almost certainly cause significant losses to the fund, and could, conceivably, erase prior gains. More pessimistic, bearish investors could think the fund got lucky with its past short treasury trade, and that future positions or trades will consistently prove unprofitable. The fund's strong long-term performance track-record does not support this view, but performance is rapidly deteriorating.

Conclusion

In my opinion, DBMF's strong performance track-record makes the fund a buy, recent losses notwithstanding. As performance is strongly dependent on the future success of the fund's investment strategy, I would keep position sizes small, so as to minimize risk.

For further details see: