It’s late 1987. Institutional investors had just lived through the debacle of October 19, when the stock market collapsed, driven down by an idiotic idea … portfolio insurance. Shortly afterward, we had our first meeting with Rusty Olson, CIO of Eastman Kodak’s pension plan. Regardless of what you think of Kodak’s business acumen at the time, the pension plan was a star. Rusty was in the process of turning over every rock in the financial marketplace, looking for diversification for his very aggressive portfolio. He found us. We pitched him on the idea of managed futures as the ideal diversifier. Liquid, leverageable, and systematic. He loved it but with a caveat. We proposed a multi-manager managed account. But he, and his consultant, had no way of knowing how we were doing relative to some benchmark … there was no benchmark at the time. So we built one — the MLM Index. To my knowledge, it was the first rigorous, price based measurement of the risk premia available to futures traders.

It was heresy at the time. Futures traders were evil geniuses. You can’t benchmark fearlessness and wits. Well, turns out you can, and the idea of alternative risk premia has become a standard part of the understanding of financial markets. While we have pride of place for being first to the floor, there is one question that has bothered nearly everyone who has examined our implementation. Why did you not include equity index futures in the index construction for managed futures? There are interest rate futures, currency futures, commodity futures … why no stocks? See previous blog post on this topic here.

Let’s have a look at that question. Fast forward to a few months ago. An email appears in my inbox from a firm that offers risk premia analysis. In this email they were focused on drivers of the returns of managed futures over the 5 year period ending May 2025. It was not the glory days for the strategy, to say the least, but it had produced positive returns in 2022, when nearly everything else had suffered. But one result jumped off the page to me … by their analysis, managers in the space had lost money trend following equities over the 5 year period. Hmmm. Strange. The equity market had been up, a lot, over the last 5 years, exploding out the covid collapse. Our summer intern reported back that the performance for the S&P 500 for the 5 years ending May 2025 was top quintile for 5 year windows. Here’s a chart.

I don’t know about you, but it looks trendy to me. How did the evil geniuses miss that move? To explain this failure, and what I think is the surprising relative underperformance of trend equity vs. buy and hold, let me offer a conjecture. Equity futures markets are wonderful liquidity tools, that allow portfolio managers to quickly adjust their risk exposure without buying or selling the underlying stocks. But, there is a fundamental difference in character between the underlying instrument in equity futures and other futures – no one ever needs to own a stock. Stock ownership is a discretionary decision. Compare that to the corn market. Countless businesses depend on access to corn in the future. Vast inventories are held, the valuation of which dramatically impacts the prospects of that company. There are natural long and short hedgers working to protect price. This is not an emotional or discretionary decision, it is a critical business judgment. Same is true of other commodities, interest rates and currency.

We might call this a difference in elasticity. There are times when businesses must have corn. There is no such time for stocks. If stock valuation is driven by the discounting of future dividends, then they are way more volatile than they ought to be. Dividends just don’t move around much. Stocks are volatile because they are not tethered to anything in the current environment, beyond sentiment. As a result, the returns to stocks is well represented by a normal distribution. Compare that to other futures markets, markets that are driven by the supply and demand for the underlier. The return distribution exhibits the fat tails you may expect if there is inelastic demand for the underlier. These fat tails are the reason businesses hedge, and the reason that futures traders, who accept the risk in these markets, earn a risk premium for doing so.

One other thing to think about. As I write this note, the stock market is down 2% on the combination of new tariffs and a soft employment report. Just a few days ago, we were at record highs, and volatility, as measured by VIX had fallen to its lowest level in months. That means that trend followers were long stocks, and, for those who adjust their positions based on volatility, had their biggest positions in months. In other words, risk as measured by volatility was at its lowest level when actual risk – the market is up a bunch – is quite high. This inverse relationship – measured complacency vs. actual risk – combined with a lack of natural buyers in decline, makes corrections in the stock market larger than you might expect. This makes trend following very difficult, even in a big move up like we have seen over the last 5 years.

So – we did not include equity futures in the MLM Index because we do not believe they have the same risk premia characteristics as other futures markets. That is not to say you can’t include them, or that they do not, on occasion, perform well. Our view, developed many years ago, is again borne out by the recent past.