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Aurelia Lamorre-Cargill

The art of blended returns

James Williams interviews with Argon Capital on its new commodity‑focused hedge fund.

The commodities complex has gone through a five-year period in the doldrums, with performance leaving much to be desired among investors, but 2016 will see the introduction of an innovative multi-strategy, multi-asset commodity hedge fund. 

Based in New York, Argon Capital has been established by Aurelia Lamorre-Cargill (pictured), CEO of Argon Capital. 

Lamorre-Cargill was Global Head of Fixed Income Structuring at Barclays Capital prior to co-founding Argon last year with Marcos Bueno, Chief Investment & Risk Officer, who was previously a Partner and Senior Portfolio Manager at the London office of Connecticut-based Graham Capital. During his time at Graham Capital, Bueno oversaw a commodity portfolio with close to USD1 billion in assets. 

“From both my perspective, and Marcos’, we found that it was complicated for institutional investors to bridge the access to commodity markets,” says Lamorre-Cargill. “There are commodity products in the market that might not be suited to investors to the extent that they have poor performance, low volatility, or good performance but high volatility. 

“Argon Capital will give investors broad exposure, and performance at the same time. Because of the fragmentation in the market, we believe we can put together a series of portfolio managers and strategies, each of which can generate performance. We believe there is a lot of alpha to be generated in the commodities space.” 

Argon will operate as a pure commodity fund with a multi-strategy approach, selecting sector specialists that will work for the collective good of the fund. Each portfolio manager will manage a bucket of capital, the size of which will be determined by Bueno as CIO and risk officer, and be free to run their strategy as optimally as possible. 

Lamorre-Cargill explains that all of the strategies pursued – which is expected to be six at launch – will produce a blended return for investors, with Argon netting the risk accordingly. 

The fund will also be multi-asset, trading futures and options, equities, FX, and potentially credit at a later date, allowing it to invest in commodities across the value chain. 

“We approach risk management in an innovative way. We believe that the key to long-term success lies in the ability to avoid major drawdowns by using an enforceable, strict risk management framework that gives investors full transparency in what we do. We do this by placing the risk manager above the portfolio manager, to enforce the risk management rules and avoid losses. 

“We think by doing this it will allow us to compound returns and to have good long-term performance that we believe is a key differentiator in the commodities space for investors,” adds Lamorre-Cargill. 

Bueno confirms that whilst each internal strategy will be run by individual portfolio managers, investors will only be able to allocate to the fund as a whole, as opposed to siloing capital in one or more preferred strategies. 

“The goal is to have a wide range of strategies for diversification and low-correlation purposes. That means we need a certain minimum level of diversification, and we are targeting six individual strategies at the time of launch. Ultimately, however, we plan to have between 16 and 20 portfolio managers. 

“Everything within commodities is fair game: energy, metals, industrials, agriculture, commodity equities (power, shipping, transportation, chemicals), macro strategies that look at commodity currencies such as Brazil, Canada, Australia, South Africa, etc,” comments Bueno. 

As risk officer, in tandem with his role as CIO, Bueno will remain senior to all of Argon’s portfolio managers in order to ensure that the risk management process remains independent. Argon is keen to avoid internal wrangling in the fund, caused by the portfolio manager being the fund’s key decision maker and overruling the risk manager. This is something that Argon will be avoiding from day one, and is a second key feature of the fund. 

“There are two aspects to risk management,” continues Bueno. “One is the philosophy, the second is implementation. Our philosophy is very clear: when we go through a certain drawdown, the capital allocated to the strategy will be cut. With respect to implementation, there are two factors: one is being able to track the numbers based on pre-determined risk limits, etc. The second aspect, which is different to a lot of other hedge funds, is our commitment to transparency.

“We are creating a system that is self-policing. Everybody inside the firm will be able to see everybody else’s performance. Equally, investors will be able to see the individual strategy’s performance, what the drawdowns are for each strategy, the capital allocations to each strategy, and so on. The result of this is that when a strategy falls through a certain limit, all other PMs, and the investors, can see that. Hence it becomes self-policing because if we don’t act accordingly to manage that risk, it will be evident to all concerned.” 

To make an analogy, Lamorre-Cargill compares Argon’s risk management methodology to something akin to a systematic CTA: “We establish a set of rules and apply them. We strip away the emotion. And we think this can benefit performance, especially in today’s current market environment. There cannot be any emotion attached to cutting risk. If the rules say cut the exposure, that’s what happens. There’s no second guessing of trades.”

Historically, one of the main reasons why commodity hedge funds have tended to underperform is because of the capacity constraints in this space, according to Bueno. Given the fragmented nature of commodities, it is a space that has tended to produce specialists. A natural gas trader doesn’t necessarily know what’s going on in the zinc market, for example. As a result, while there have been many excellent specialist fund managers over the years, a large number of them have tended to run small organisations. 

The result, says Bueno, is that the portfolio manager might be a great trader but they have to wear a number of different hats: portfolio management, operations, capital raising, compliance; anything that is attached to running a hedge fund business. This means they have less time to focus on trading and building performance. 

“With Argon, we put together teams of portfolio managers who are, by right, specialists in their own domains, but we completely separate the functions. They are free to focus exclusively on generating performance while Argon takes care of everything else business-related, regulatory-related, and indeed risk management-related,” says Bueno.

To achieve this requires scale. Argon aims to launch later this year with approximately USD400 million of day one AUM, but “we believe we can operate in the USD4-5 billion range because of our multi-strategy business model,” says Bueno. 

This should help address another issue that investors face, and which ties in to the capacity constraint point, when trying to allocate to commodity funds: concentration risk. Ultimately, no investor wants to allocate USD50 million to a USD100 million fund because they will be taking on too much of the investment risk. 

“They don’t want to be more than 10 per cent of the investor base so they will only look for funds in the USD500 million range or higher, but those are hard to come across. There is a structural inefficiency in the commodity hedge funds space that we intend to solve,” states Bueno. 

“Nowadays, having the right structure and the right business management is a key differentiating factor; it impacts the bottom-line performance of the fund,” says Lamorre-Cargill. “You need to have an infrastructure that both understands the regulatory requirements, the ability to manage the capital that is allocated to you, and which has the technical sophistication to negotiate with prime brokers to achieve the best possible performance for the end investors. 

“As such, we see the source of performance at Argon coming not only from the trading floor but from the way we manage the day-to-day business.”

With multiple portfolio management teams in place, Lamorre-Cargill stresses that having the right culture is also critical. She notes that Argon’s long-term performance will be enhanced by creating a collegiate environment; one that supports idea and information sharing among its portfolio managers.

“It sounds simplistic, but we want to work with nice people. It’s a powerful concept. I’ve worked in large organisations all my career and I’ve seen the impact of culture on performance. It’s something that we pay a lot of attention to,” adds Lamorre-Cargill. 

One of the unique features of commodities is the sheer breadth of trading options that can stem from one specific area. Take crude oil: one could choose to express an idea by trading oil futures and options, by trading oil company stocks, by trading corporate bonds, or taking a macro view of one country’s oil industry versus another by tactically trading currencies. 

“By putting together a hedge fund team under one roof that has an oil trader trading oil futures next to a guy trading oil companies, who in turn is sat next to a guy trading credit contracts in oil companies, our intention is to create the right environment for sharing information and cross-pollination of ideas. That is something that a single commodity specialist cannot create, no matter how good a trader they might be,” says Bueno. 

Commodities have not delivered on performance over the past five years. Already, on a YTD basis, the S&P Goldman Sachs Commodities Index is down 8.35 per cent (as of 11 January, 2016). 

Not that this deters Lamorre-Cargill. On the contrary, she says that over the last decade investors have been actively looking at commodities but have tended to struggle to find the right product to invest in, or the best way to access a hugely dynamic market. Every time investors thought they had found the right entry point, the right product to invest in, they’ve been disappointed, either with performance or with volatility.

“We recently spoke to a Swiss private bank. They were interested to talk to us because they were looking for ways to deploy capital to commodities but hadn’t yet found the best way of doing so. We’ve even had reverse enquiries from investors asking to find out more about our strategy. I think what’s driving interest is not only because we can offer them a fund solution that overcomes the challenge related to capacity constraints, but also because people understand that it is in moments of distress that one can find opportunities,” suggests Lamorre-Cargill.

In Bueno’s opinion, the commodities space has been “decimated”. But what this means is that there is a lot less participation in the market. 

“There is a lot of volatility right now, but correlations are low. Oil has fallen 2 or 3 per cent in recent times, yet at the same time gold has climbed 1 per cent. That is creating a lot of dispersion and opportunities in the market. For those who are actively trading commodities, the pickings are richer simply because there is less competition,” says Bueno.

Argon Capital hopes to officially launch some time in the next three to six months.

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