Alternative Beta Strategies in Commodities

16 Pages Posted: 27 Nov 2013 Last revised: 18 Dec 2013

See all articles by Daniel Ung

Daniel Ung

CFA Institute; Chartered Alternative Investment Analyst Association (CAIA); Global Association of Risk Professionals

Xiaowei Kang

Standard & Poor's

Date Written: November 1, 2013

Abstract

Alternative beta strategies can serve a variety of different investment objectives, which may include reducing volatility or achieving tilts to systematic risk exposures. It is therefore essential for investors to examine whether these strategies meet their own investment objectives and risk-taking preferences.

Two main approaches to alternative beta are reviewed in this paper: the ‘risk-based approach,’ which entails reducing portfolio risk; and the ‘factor-based approach,’ which involves enhancing return through earning systematic risk premia, with a focus on the latter. Whilst alternative beta is fairly well established in equity strategy investing, it is still a nascent concept in commodities. However, as a result of investors’ pursuit of better diversified portfolios and a recognition that systematic risk factors explain the majority of returns, the development of commodity alternative beta products is gathering pace. This is not entirely unforseen, as investors now view their investment opportunity in the context of risk premia, rather than individual asset classes. From our investigation in this study, there appears to be potential benefit in allocating into alternative beta strategies as part of a portfolio’s commodity allocation, and we find that combining risk-based and factor-based commodity strategies has historically delivered higher return and lower risk than passive long-only strategies on their own.

Finally, it should be borne in mind that alternative beta strategies often take substantial active risks, which are largely driven by factor exposures. Factor returns can be volatile, and all alternative beta strategies can experience considerable drawdown at times. However, as these risk factors have a low correlation with each other, it may be sensible to combine them in order to improve return and reduce risk.

Keywords: Commodities; Smart Beta; Alternative Beta; Strategy; Return; Factors; Asset Management; Investment

Suggested Citation

Ung, Daniel and Kang, Xiaowei, Alternative Beta Strategies in Commodities (November 1, 2013). Available at SSRN: https://ssrn.com/abstract=2359475 or http://dx.doi.org/10.2139/ssrn.2359475

Daniel Ung (Contact Author)

CFA Institute ( email )

915 East High Street
Charlottesville, VA 22902
United States

Chartered Alternative Investment Analyst Association (CAIA) ( email )

Global Association of Risk Professionals ( email )

Xiaowei Kang

Standard & Poor's ( email )

London EC2M 7NJ
United Kingdom

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