Q: Would you tell us about the history of the company and the fund?
LoCorr was founded in 2002, and has had an exclusive focus on low-correlating solutions for more than 10 years. After partnering with a number of different investment managers distributing non-publicly traded REITs, hedge funds, raising private equity, and positions in the managed futures space, we launched LoCorr Fund Management in 2011 with the goal to place hedge fund managers and institutional strategies in a daily liquid structure.
Since then, most of our asset flows have been within the mutual fund space versus private placements or direct participation offerings.
We have raised a total of over $3 billion since inception of the company. As part of our efforts, we have a dedicated distribution team of experienced sales professionals across the country who work with the different distribution partners and financial advisors to educate and train.
We do not employ replication strategies, and we do not use back-tested numbers. We look for long-term track records—our sub-advisors must have navigated at least one equity crisis period—with expertise in their specific discipline and asset class, offering low correlation to traditional assets.
What we have is a multi-manager portfolio combining three commodity trading advisors (CTAs): Millburn Ridgefield Corporation, Graham Capital Management LP, and Revolution Capital Management LLC, all of which have a low correlation to each other, so this effectively combines three complementary strategies within one portfolio.
The fund’s assets under management total close to $700 million, and our benchmarks are both the Barclays CTA Index, which is a broad representation of the managed futures category, and the S&P 500 Index.
Q: What is your investment philosophy?
LoCorr’s focus is on manager selection and combining complementary managers in an optimal allocation rather than security selection. The fund’s low correlation to traditional asset classes helps investors diversify their portfolios and provides investors the opportunity to reduce their portfolio risk with the potential to enhance return over a full market cycle. And because our managers can go either long or short, the fund has the ability to do well in both rising and falling markets, though historically managed futures strategies have excelled during periods of market stress.
Our sub-advisors are all diversified managers that use futures to invest across four asset classes: equities, fixed income, commodities, and currencies. By limiting the field to three sub-advisors, we provide exposure to managed futures while allowing each manager to add alpha that meaningfully impacts the portfolio. Each sub-adviser we partner with has to stand on their own and demonstrate they have the ability to add value and provide strong risk-adjusted returns for clients over a lengthy period, as well as complement the other two managers. We do not want clones—each must have relatively low correlation to one another and employ disparate strategies. In this way, the combination of these managers brings something extra.
Our allocation is 40/40/20, so even 20% is a meaningful allocation that can make a difference to the portfolio. The split we use is based on extensive analytical work to determine the optimal allocation from a risk/return perspective, and considers the liquidity constraints of our short-term-oriented CTA, Revolution Capital Management, as well as daily volatility.
We do not use a swap to access the managers, we offer competitive fees, and there is full transparency of portfolio holdings. And as we employ only three sub-advisers, each with sufficiently long track records, this makes the fund a high-conviction offering in the space.
Q: What is your management selection process?
Ours is an institutional approach, meaning we have very structured, repeatable disciplines. Our dedicated research team is responsible for day-to-day oversight of the funds, working with our compliance group, and makes change recommendations to the investment committee. The investment committee oversees the investment process and approves both manager changes and allocation changes to the managers.
We use various external databases to give us a wide view of the managed futures landscape, and also maintain an extensive internal database, in order to gain a good view of the manager opportunity set. We also use capital introduction firms, referrals, and personal contacts to identify potential managers to include in the universe.
We start by using a number of return-, risk-, and asset-based screens to identify a manageable list of the types of managers we prefer to partner with from the larger universe. From there, we conduct fundamental due diligence, ranging from manager due diligence to more operational due diligence, because in our view many hedge fund failures are the result of operational issues.
Ultimately, we run a series of quantitative analyses to complement the more qualitative analysis we perform through onsite discussions with those managers. We assess their process, philosophy, performance, and operations, and provide a subsequent short list to the investment committee, which approves or rejects the recommendations.
Q: How do you assess manager performance?
There is an ongoing analysis of performance and risk by performing daily and monthly performance reconciliations, as well as formal quarterly reviews with the investment committee. The research team along with the compliance group conducts the primary day-to-day work tracking performance. There are regular informal communications with each sub-adviser as well as monthly formal update calls.
A manager may be terminated for a number of reasons. From a performance perspective, we expect short periods of challenging performance, though a multi-manager approach helps to mitigate the effect of any single sub-adviser going through a difficult stretch. But extended periods of underperformance, particularly if the underperformance does not make sense to us/isn’t consistent with our expectations for the sub-adviser’s strategy given the market environment, is a yellow flag. We constantly assess performance to see how it is being generated and if it is consistent with our expectations. Another potential flag would be when a manager does well in an environment where we would normally expect them to do poorly.
We look for style drift, where the manager does something beyond the scope of their expertise or their stated investment strategy. Personnel and operational changes are other flags.
Q: What is Millburn Ridgefield’s strategy in the fund?
Millburn has a 40% allocation in the fund, and is a long-standing manager in the managed futures world that can trace its roots back to 1971 and has approximately $1.8 billion in assets. The program we access is similar to the Millburn Diversified Program that the firm has managed since 1977. They used to adhere to a pure trend-following approach, but evolved their strategy to a multifactor contextual approach that unlike traditional trend-following approaches uses both price- and non-price data.
Millburn trades 100+ primarily liquid markets, but they can access some smaller markets as well. Their model adapts to whatever factors are working in the markets at a particular time with the goal of providing a more consistent return versus what a traditional trend-following program would exhibit.
When trend-following is doing well, we expect Millburn’s strategy will capture most of that upside but likely trail pure trend-following strategies, but when trend-following is not doing well, we expect Millburn’s portfolio to perform better.
Q: How does Graham Capital’s strategy differ?
Graham Capital Management also has a 40% allocation, and has been around since 1994, with more than $12 billion in assets, making them one of the largest CTAs in the world. Graham uses a systematic medium- to long-term trend-following investment strategy using price-based data.
Graham uses a number of trend-following models, all featuring different look-back periods, speeds, and signal durations, but ultimately they try to capture trends across about 50 liquid markets. What differentiates them is that they tend to scale in and out of positions, rather than using hard and fast stop-losses, to avoid moving out of a position at the wrong time. This has proven particularly beneficial during volatile market periods.
They also introduced a risk overlay in 2012 that helps maintain a constant volatility target by assessing correlations between the different markets they invest in, and adjusts the holdings accordingly. For example, if one market did not previously correlate to another but suddenly correlations between those markets spike, you might be invested in two markets but they really represent a single trade. By adjusting for that, they help maintain a constant volatility target.
Q: What role does Revolution Capital’s strategy play?
Revolution, which has been around since 2004, sub-advises the remaining 20% allocation. They are a short-term oriented CTA, and their alpha program, in existence since 2006, is the underlying strategy we employ. Revolution is a smaller boutique, but their assets now exceed $700 million. They trade in about 30 primarily liquid markets.
Whereas Graham Capital Management’s average holding period is around 50 days and Millburn Ridgefield Corporation’s varies anywhere between 50 to 100 days, Revolution Capital Management’s average holding period is a mere six days. Essentially, it is a trend-reversion strategy that uses patter recognition to trade around the trend. For example, they may systematically wait for breaks in market trends to establish a position, basing their moves on extensive research and empirical analysis and making the bet that the trend will resume.
With a trend-reversion strategy, if a trend shoots up and doesn’t pull back, they are not likely to take a position. Such short-term strategies tend to exhibit very low correlation to traditional medium- to long-term trend-following approaches, giving it a particularly low correlation to both Graham Capital Management and Millburn Ridgefield Corporation.
Q: How do you determine your sub-advisor allocations?
To give you some background on a significant change to the fund made earlier this year, like many of the earlier funds in this category, when we launched the Fund a total return swap was employed to access each manager’s investment programs, which entailed an extra layer of fees. In addition to that extra layer of fees was an incentive fee-based compensation system versus a flat management structure, and less transparency. In March of 2016, we eliminated the swap and incentive fees in favor of a less costly flat management fee structure, effectively cutting the fund’s cost in half and making us one of the most competitive multi-manager fee structures available in the category.
At the same time, we replaced one of the existing underlying managers in the Fund with Revolution Capital Management. We performed extensive analysis to determine the optimal allocation to best maximize the risk/return potential of the portfolio while considering some of the capacity constraints that a short-term oriented CTA like Revolution has. The result was that we moved to a targeted allocation of 40% Millburn / 40% Graham / 20% Revolution.
Millburn and Graham’s strategies are conducive to managing a lot of assets. Revolution, as is true of any short-term-oriented CTA, has a more limited capacity, so that factors into the allocation. We monitor the allocations on a daily basis and make any adjustments (which can also happen daily, when necessary) if they diverge from the 40/40/20 split. We allow a 5% tolerance band, but in practice we do not expect to push out that far.
Q: How do you define and manage risk?
As a multi-manager Fund, risk is monitored at both the individual sub-adviser level and at the Fund level. The sub-advisors have their own risk controls and each manages their portfolio consistent with those risk controls. For example, a sub-adviser may target a specific volatility level, value at risk, or targeted max drawdown. LoCorr monitors actual trading results relative to these targeted risk parameters at both the sub-adviser and Fund level. Risk is managed through our ongoing quantitative risk analysis as well as through our ongoing dialogue and communications with each sub-adviser which covers not just performance, but also operational risk.
