A Few Thoughts on Market Opinions, Inflation, and the Importance of Diversification

By Adam C. Watts, EAM Partners L.P.
May 6, 2013

  • The Trader Vic Index® is a rules-based index. Index positions are 100% determined by market price movement only. Market opinions have no bearing on index levels.
  • The TVI® takes long and short positions (or flat as in the case of Energy). As such, the index is capable of benefiting from both uptrends as well as downtrends in futures prices over sustained periods. Both inflationary and deflationary environments could lead to rising (or falling) index levels. Further, while inflationary environments may present a strong case for trend-following approaches, it is equally important to keep in mind is the fact that trend-following approaches also often benefit from normal business cycle growth environments, when accompanied by sustained trends. So, neither high rates of inflation nor deflation is necessary for trend-following approaches to benefit.
  • Over the last six months during a period where commodities, as measured by the DJ-UBS Commodity Index, declined -6.38%, the TVI® Excess Return (TVICER) returned +1.96%. Additionally, TVI® index levels rose in 5 out of these 6 months (see chart below).

    DJ-UBS Commodity Index vs TVICER
  • Market opinions about gold have no bearing on the long or short positioning of gold within the index. Indeed, index levels have benefited from gold’s recent historic decline since the TVI® has been positioned short in gold for the last two months. Again, the TVI® is a rules-based index.
  • We believe that diversification is a critical component of successful investing. At the very least, the current global macroeconomic environment points to a great deal of uncertainty regarding future outcomes. Our belief is that the TVI® exposure provides a valuable diversification tool since, among other things, it has the potential to benefit from a variety of different market environments.

    Investors cannot invest directly in an index. Diversification does not eliminate risk. The statements in this communication are the opinions of its author, Adam C. Watts, and are not to be relied upon by anyone as the basis for an investment decision. Past performance is not necessarily indicative of future results. “ER” does not reflect fully collateralized futures positions using interest on US T-Bills. See “Certain Risk Factors & Disclosures” for risk factors, disclosures and other notes on the performance presented.


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    Certain Risk Factors. Investors cannot invest directly in an index such as the Product(s). The Product(s) are structured based on, among other things, the general expectation that the prices for the futures included therein will exhibit tendencies to trend over the intermediate or long term (as applicable). The market features and correlations which the Product(s) has been designed to capture may not be reflected in market price movements over certain periods – particularly over short periods. An investment in a product seeking to replicate the Product(s) is speculative, involves a substantial degree of risk, and should not constitute an investor’s entire portfolio. Moreover, performance may be volatile and investors could lose all or substantially all of their investment. Some or all alternative investment programs may not be suitable for certain investors. No assurances can be made that the Product(s) will achieve their investment objectives or that losses will be avoided. The longer-term an investment the greater the likelihood that the performance potential suggested may be realized. Over the short-term, on the other hand, there is a much greater possibility that the Product(s) may decline substantially causing significant losses. Among the risks associated with the Product(s) are the following: In contrast to traditional “all long” indexes, the Product(s) do not always maintain long positions and may not profit from the cyclical nature of the futures included therein. • The Product is not a proxy for “all long” indexes. • The Product(s) are vulnerable to “whipsaw” markets in which market movements may cause the bulk of their components to be positioned in a certain direction (e.g. long, short or no exposure, as the case may be) and then a sudden reversal of prior price trends occurs, causing losses. • The complexity of the different factors which contribute to the results of the Product(s). • The Product(s) could decline in a wide range of different market scenarios, including ones in which other similar products (both all long and long/short) rise substantially. • The Product(s) are based on futures, not cash market prices; those prices may differ materially in general as well as for specific components. • Replication of the Product(s) involves execution costs and position slippage which can be substantial, and may be affected by, among other things, disruption caused by futures market closures and/or trading price or volume limitations imposed by one or more futures markets. • The Products are subject to the risks of, among other things, “trading ranges” (in which there is a lack of sustained, directional price movements in many markets) and “whipsaw” markets (described above). In general, such market conditions are more likely to occur during economic environments of low-growth or static GDP despite very low interest rates, accompanied by low inflation (e.g. economic environments similar to that experienced by Japan since 1989). The “trading ranges” and “whipsaw” experienced by many markets since 2009 (with notable exceptions), along with abrupt changes prompted by government intervention and highly correlated markets, have been adverse to many trend-following indexes and methodologies. The length of time for which such market conditions have persisted is unique in the United States in the last 50 years. There can be no assurances as to such current market conditions will change. No representation is being made that a Product will or is likely to achieve performance consistent with or similar to that set forth in this communication. Similarly, no representation is being made that any product seeking to replicate the Product(s) will generate profits or losses similar to the historical performance of the Product(s). There are numerous factors related to the markets in general and to the implementation of any product seeking to replicate the Product(s) which cannot be, and have not been, accounted for in the preparation of the information on the Product(s) set forth in this communication, all of which can adversely affect actual performance results for any product seeking to replicate the Product(s).

    Statistical Information. Statistical information for indexes does not represent the results of actual trading of investor assets. The mechanical character of the Product(s) and the fact that the Product(s) are based on publicly available prices unaffected by trade executions (and the resulting slippage between market prices and the prices at which positions are actually acquired) makes it possible to derive the statistical information. Unless otherwise indicated, the performance of the products does not reflect the costs, fees and other expenses of a fund or other vehicle seeking to replicate the products or the effect of taxes on investors therein. The compounded effect of such costs, expenses and taxes would materially reduce cumulative net returns.

    “TVI®” is calculated by the RBS Business Services Private Limited and was created and is compiled, maintained and owned by EAM, the Index Sponsor. The index went live on June 3, 2009. From May 1, 2012 forward, the Natural Gas Index Component is no longer part of the Energy Sector, which may be positioned long or flat; instead, the official record is calculated with the Natural Gas Index Component as a separate Sector which may be positioned long or short, with such positioning determined independently from the Energy Sector. Accordingly, the index may be positioned “short” in the Natural Gas Sector when an unexpected natural, sociopolitical or other event occurs that causes rapid increases in Natural Gas prices. Changes to an index methodology may have a material impact on the results of such index, whether positive or negative. All statistical information for the TVI® on or after this date reflects the actual performance of the TVI®. "TR" reflects fully collateralized futures positions using interest on US T-Bills.

    While reasonable efforts have been used to obtain information from reliable sources and in the calculation of the data herein, no representations or warranties are made as to the accuracy, reliability or completeness of any information contained herein. The statistical information on the Products is based on data compiled by EAM. Unless otherwise indicated, all other data was derived from information provided by Bloomberg, a well-respected third-party research company. The information provided by such entities is subject to adjustment, which may require EAM to make adjustments to the data provided herein. In addition, rounding differences between the various computer programs utilized in computing the data herein may result in minor inaccuracies in the data presented. As such, all data and information provided herein is subject to change without notice. EAM makes no express or implied representation or warranties as to (a) the advisability of purchasing or assuming any risk in connection with any transaction related to the Product(s); (b) any errors or omissions in the statistical information; (c) the results to be obtained by the issuer of any security or any counterparty or any such issuer’s security holders or customers or any such counterparty’s customers or counterparties or any other person or entity from the use of the Product(s) or any data included in this communication; or (d) any other matter. EAM makes no express or implied representation or warranties of merchantability or fitness for a particular purpose with respect to the Product(s) or any data included in this communication. Without limiting the foregoing, in no event shall EAM have any liability (whether in negligence or otherwise) to any person for any direct, indirect, special, punitive, consequential or any other damages (including lost profits) even if notified of the possibility of such damages.

    Other Indexes. Other market indexes are included in this communication for the sole purpose of providing a comparison of the Product's performance to general market results during the periods indicated, and their inclusion is not meant to suggest that the Product(s) are similar in either composition or element of risk. “DJ UBS Comm” or “DJ UBS CI” is the Dow Jones-UBS Commodity Index (f/k/a the Dow Jones-AIG Commodity Index). All data prior to launch of the DJ-UBS CI on July 14, 1998 is an historical estimation using available data. Returns for the DJ-UBS CI are estimates using current and historical futures price data. Data source: Bloomberg.

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