When we talk about futures contracts, you probably think of markets like Gold, Crude and Corn (assuming you know futures contracts exist, that is). But what about Japanese Red Azuki Bean futures? Or CO2 Emission futures? Or Coriander futures?
Probably not, right? That’s fair- you won’t often hear mention of contracts like these in mainstream media, or even on our blog devoted to managed futures. There are two reasons for this. For one, the products underlying these futures are of interest to so few in the general investing public that the media doesn’t bother spending a lot of time on it. For two, participation in these exotic markets is generally low, with only true hedgers or sophisticated professional futures traders venturing into them. Even then, for some of the most exotic, even the professional traders and CTA managers will stay away for fear of poor liquidity and too much slippage due to the low volume.
But just because there isn’t as much interest in these contracts as there is in Corn or Gold (no Co2 emissions ETF just yet…), that does not mean they don’t exist. They do exist, and are starting to pop up in more and more managed futures portfolios we view in our due diligence process. To understand why a manager would choose to trade one of these lesser known contracts, we spoke with Alex Spies of Accela Capital Management- particularly on the trade of ECX Emissions contracts, which he is actively trading for clients. He had this to say:
As a globally diversified trader, we are always looking to add a new market provided it meets the following conditions:
1) a market is liquid enough that we can reasonably expect to be able to overcome the frictional cost of trading
2) a market is not highly correlated to markets we already trade
Over the past couple of years we have added palm oil, rubber, and the Nifty Index. Earlier this year we added the ECX Emissions contract; total open interest is about 600,000 contracts and it is not highly correlated to our other markets. Our algorithms are pretty selective when it comes to identifying entry points, so for us, an important part of our ability to generate profits comes down to finding enough opportunities to trade. The more markets, the better, provided they diversify our risk.
While most of us may not really be able to wrap our minds around emissions futures (a derivative of contracts for allowances for an amount of greenhouse gases a company can emit), and the list of managers who have the knowledge to fundamentally trade such contracts is likely very, very short, a systematic trader like Accela could really care less what the contract is trading. Sure, they need to know the specifics of the contract, and most importantly what sort of volume and liquidity there is, but beyond that, it is just numbers to be plugged into their algorithms.
If volume in such contracts continues to grow, who knows? Those emissions contracts may seem like an industry standard ten years from now.