Commodity Pool Operator (CPO) Trading Strategies

There are generally two styles of trading in when referring to a Commodity Pool, which are managed by a Commodity Trading Advisor (CTA), and there are two types of CTA's, discretionary and systematic. Discretionary CTA's are traders that use their own knowledge and experience in the industry to determine whether to enter or exit a trade. In other words, a discretionary CTA might focus on both fundamental crop reports and supply-demand patterns to determine if they will buy cotton. Systematic CTA's, on the other hand, do not transact trades based on personal knowledge or experience in the market, but are executed based on a trading signal that is generated by a computer program. While the procedures were created by human beings, these "black box" procedures (A computer program in which users enter information and the system utilizes pre-programmed logic to return output) now trade the markets without any input from human emotions, biases, and/or fundamental knowledge.

Trading Strategies

One of the benefits of a managed commodity pool is that managers are able to trade the markets using a number of different strategies. Ultimately, utilizing a combination of some of these strategies can help a manager become profitable during any market environment. For example, if the market is heading higher, traders can be long. If the markets are trading lower, traders can be short. Beyond traditional long/short strategies, there are a number of other strategies that commodity trading advisors can utilize when managing a commodity pool. Here are some examples:

• Trend  Following: a strategy that simply follows trends based on certain technical indicators like averages. CTA's that specialize in this strategy can profit from both rising markets and declining markets. Trend followers, however, often incur low returns during choppy market environments because they often get stopped out of trades.
• Counter Trend: This strategy seeks to profit from trend reversals. If you look at any chart, nothing will move straight up or down. There are often pullbacks and reversals. This strategy looks to profit from those type of moves.
• Arbitrage: There are a number of sub-strategies that fall under arbitrage. The most prevalent in the managed futures industry is statistical arbitrage. A simple example of this is simultaneously buying gold on one exchange (for a lower price) and selling gold on another exchange (for a higher price). This strategy looks to profit from the price difference.
• Option Writing/Sellers: Option selling is a strategy that focuses on writing options (and collecting their premiums) that are likely to expire worthless. The idea is that the commodity trading advisor will benefit from the premium he or she collects from the buyer. The risk associated with this strategy, however, is that the options will not expire and the contract will go in the money. Within this strategy are naked option writers and spread option writers.
• Global Macro/Fundamental Focus: Commodity trading advisors that trade the markets from a fundamental approach will often look at crop reports, weather patterns, economic reports and other fundamental data to determine whether to enter a trade.

There are a number of other different strategies that make up the managed futures sector. What you can see from the above strategies is that the different strategies not only determine when they will transact a trade, but also which type of market environments are most suited for their strategies.