India Hedge Fund 2012

Global Ideas. Local Opportunities.

CAPITAL MANAGEMENT

Table of Contents

Introduction
About India Hedge Fund 2012
Globally hedge funds are an important pillar of the alternative asset management industry and a key
component of a sophisticated investors asset allocation. In India however, this asset class has been
virtually absent, partially because of the focus on long only investing and partially because of the lack of a
clean regulated hedge fund structure. SEBIs proposed AIF regulations however are poised to change this
and give the hedge fund industry a real chance to provide something new to investors and wealth
managers.
No financial asset class can grow without support from the entire ecosystem regulators, wealth
managers and investors and meaningful guidance on how to understand, evaluate and participate in this
asset class. India Hedge Fund 2012: Global Ideas, Local Opportunities is Forefronts small contribution
towards investor education on alternative investments. A focal point of this report is a detailed
breakdown of global hedge fund strategies that will find their way into the Indian markets. We hope this
makes for valuable reference material and great reading!

About Forefront Capital Management

Forefront Capital Management is a SEBI registered portfolio management firm focused on alternative
investing in the Indian public markets. Forefront was founded in 2009 by three Wharton graduates who
were hedge fund managers at two of the largest global funds Goldman Sachs Asset Management (New
York) and AQR Capital Management (Greenwich). Forefront was founded with the goal of bringing
innovative and best in class global investment strategies to the Indian market. The firm has focused on
providing investment innovation in scalable and transparent products that fit into Indias regulatory
framework. Since 2009 Forefront has created a range of unique strategies for the Indian markets and has a
diverse pan-India client base of high net worth individuals, family offices and institutions.
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Table of Contents
Hedge Fund Strategy Basics .................................................. 4
Evaluating a Hedge Fund ........................................................ 7
Strategy Drilldown .............................................................. 10
Equity Futures ...................................................................................... 11
Equity Options ..................................................................................... 17
Arbitrage .............................................................................................. 21
Commodities and Currencies ............................................................... 26
Multi Asset Class .................................................................................. 28

Multi Strategy Funds ............................................................ 29

References and Disclosures................................................... 30

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Hedge Fund Strategy Basics

Demystifying Hedge Fund Strategies
Hedge funds have always had something exotic about them. But in reality their goals are very simple:
positive annual returns, low volatility and capital preservation. Hedge funds achieve this by trading a range
of strategies across available asset classes equities, commodities, currencies, debt and a range of
financial instruments futures, options, swaps, forwards and other derivatives. Different hedge funds
have different investment styles (fundamental, systematic, quantitative) and run different investment
strategies, some of which we cover in this publication. Globally the number of hedge funds has grown from
under 3,000 in 1995 to more than 9,000 today, and the hedge fund industry manages over USD 1 trillion in
assets.

Whats Different?
Because of Indias regulatory structure domestic investors have typically seen only long only equities either
through a mutual fund, direct equity or PMS route. These strategies hold only cash equities typically for
the long term. Regardless of the investment process which can vary from bottom up stock picking to
purely system driven, these strategies are long only relative return strategies. Over the long term they
have done very well, and in general buy and hold strategies do well particularly in a growing equity market.
The issue, as many investors are discovering is, is the length of time and starting point. Market timing
when you buy is critical. Investors who bought in December 2007 at the peak of the markets vs.
investors who bought in October 2008 at the absolute low, will have a very different 5 year return on their
portfolios. Standing in December 2011, the annualized five year return on the NIFTY was 3.1%, a
depressing number for long term investors. As for the manager, the best they can do in a long only setting
is outperform the index if the fund declines, their portfolios will decline less than the benchmark.
Contrary to long only managers, hedge fund managers focus on risk adjusted absolute returns the
objective is to increase capital value rather than to beat a benchmark. Globally as a result hedge fund
managers charge performance fees on the absolute returns generated, whereas long only managers
charge only fixed fees. The heavy performance fee component keeps hedge fund manager incentives
aligned to investor incentives.
Hedging and leverage are two key tools used by hedge fund managers to generate positive absolute
returns. Hedging focuses on protecting the portfolio against sharp movements in markets. On the long
side the manager will buy assets that have good long term prospects and on the short side sell assets with
poor prospects. The latter can be implemented with futures and options in the Indian market. Hedging is
essential to keep the absolute return characteristics of the portfolio intact and generate absolute returns in
poor markets.
Since a hedge fund manager focuses on hedged opportunities that are immune to market returns, these
opportunities involve small trading margins. In themselves the small trading margins do not generate
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Hedge Fund Strategy Basics

meaningful absolute returns, but when leveraged they do. Leverage is essentially taking on positions
larger than the capital deployed. For instance, a typically mutual fund manager takes Rs. 1 crore of
positions for every Rs. 1 crore of capital he is given. A hedge fund manager on the other hand may take Rs.
2 crores of positions, resulting in two times the leverage. Higher positions or leverage comes with higher
risk and risk management is the hallmark of a good hedge fund manager. In fact risk adjusted returns are
the most meaningful metric of hedge fund manager performance.

Do hedge funds create negative externalities?

While hedge funds have always been cited as a cause for market crashes and associated with negative
externalities, much of this is myth. The U.S. Securities and Exchange Commission (SEC) recently determined
that there is little evidence that hedge funds can move markets, and several research studies have found
no evidence that hedge funds were a cause of the Asian crisis or other world economic turmoil.
A counterpoint is that hedge fund activity makes financial markets more efficient and, in many cases, more
liquid. Not only do hedge funds contribute to the adjustments of markets when they overshoot, they also
help banks and other creditors unbundle risks related to real economic activity by actively participating in
the market of securitized financial instruments. And because hedge fund returns in many cases are less
correlated with broader debt and equity markets, hedge funds offer more traditional investment
institutions a way to reduce risk by providing portfolio diversification.

Where do these strategies fit into my asset allocation?

A natural question to ask with a new investment class is where does this fit into my or my clients asset
allocation. For many strategies, the answer is it is a new category of absolute return strategies that falls in
the alternatives bucket. These strategies cannot be classified as fixed income because they are risk taking
strategies (with the exception of arbitrage). Nor do they fall into the equity category even if the risk is
comparable because they have no correlation to equities (with the exception of strategies such as 130/30
Equity and Buy-Write Equity which explicitly have equity beta). In fact, bucketing them with equities will
confuse clients because they will compare the returns to the market and wonder why they are down in a
month when the market is up 10%!

How do such strategies make a difference to my portfolio?

While each hedge fund strategy has a different risk / return / beta profile as discussed in the strategy
drilldown, adding a hedge fund strategy to your portfolio can improve diversification, reduce portfolio risk
and increase the risk adjusted return of your portfolio. The basic portfolio example below illustrates this.

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Hedge Fund Strategy Basics

Assume a client has a basic portfolio of equities (NIFTY) and debt (one year fixed deposits), with a 70% and
30% allocation respectively. The return, risk and risk adjusted return of the individual assets as well as the
portfolio is below (assuming asset returns since 1998).
Equities
70%
18%
27%
0.66

Weight
Return
Risk
Sharpe Ratio

Debt
30%
8%
1%
12.80

Portfolio
100%
15%
19%
0.79

Equities and debt are uncorrelated assets so combining them together in a portfolio yields a portfolio with
lower risk than equities, and higher risk adjusted return than equities. Now assume the client shifts 25% of
his portfolio to two hedge fund strategies for the sake of argument Strategy 1 (Long Short Equities) and
Strategy 2 (Long Short Commodities). Both these strategies deliver a risk adjusted return of 1.0 in the long
term, are uncorrelated to each other as well as to other asset classes like debt, equity and gold. The new
portfolio characteristics are as below.

Weight
Return
Risk
Sharpe Ratio

Equities
52%
18%
27%
0.66

Debt
22%
8%
1%
12.80

Strategy 1
12.5%
14%
14%
1.00

Strategy 2
12.5%
16%
16%
1.00

Portfolio
100%
15%
14%
1.04

By adding two new uncorrelated sources of risk, the overall portfolio risk has fallen from 19% to 14%, and
risk adjusted return has gone up from 0.79 to 1.04. Globally institutions enhance this simple example by
building a portfolio of many uncorrelated strategies, thereby maximizing risk adjusted returns.

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Evaluating A Hedge Fund

Why is hedge fund evaluation important?
Since hedge funds are a new investment class trading both asset classes and instruments that clients,
wealth managers, and sometimes even managers may not completely understand, evaluating hedge funds
thoroughly is important. The metrics for evaluating a hedge fund are different from those for a long only
investment, with manager skill and risk management being a much bigger part of the evaluation process.
The guide below lists the basic parameters that should be understood in any hedge fund like product.

Target returns
Clients invest for absolute returns so returns are one of the first parameters that should be evaluated. Its
important to understand the level of absolute return the strategy can generate and whether it is
meaningful to you as an investor. Because hedge fund strategies involve small trading margins they can
generate positive absolute returns, but the level of those returns may not be meaningful (for instance,
some arbitrage strategies consistently generate positive absolute returns but often in line with fixed
income rates). Its also important to understand the investment period over which those returns can be
expected because hedge fund strategies vary from very high frequency to much longer term. A poor
understanding of the time horizon only leads to frustration among investors and wealth managers. Finally
its important to understand what the returns will look like in different markets when the strategy will
perform and when it will not. No risk taking strategy is always up, and a prior understanding of when the
strategy doesnt work will make for a much more peaceful experience.

Risk
The importance of understanding risk in hedge fund strategies cannot be overemphasized enough. Risk is
best measured by the annualized standard deviation of the realized returns. As an example, a fixed
deposit has a risk of nearly zero and the NIFTY over 15 years has a realized risk of over 25%. By comparing
the risk of your strategy to asset classes like NIFTY, gold, as well as balance funds / monthly income plans,
you will have a good sense of what to expect as far as monthly and annual returns and drawdown
expectations. Quantitative or systematic managers will be able to give you an assessment of risk from
their backtest and fundamental managers should also be able to give you a target risk number. Hedge
funds often make investments with asymmetric payoffs, hence analyzing worst case drawdowns, value-atrisk and higher moments such as skewness and kurtosis are also important.

Leverage
Leverage and risk go hand in hand but they are not the same thing. A strategy can be very risky but involve
no leverage and vice-versa. Leverage is important to understand because in a leveraged strategy, one can
lose more capital than initially deployed. This will result in margin calls, which if not met can lead to
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Evaluating A Hedge Fund

positions being shut down. In hedge fund strategies, there is a great temptation to keep scaling up
leverage to scale up returns, but a good hedge fund manager will push back and maintain a reasonable
level of leverage. One way to evaluate leverage is to ask a manager what kind of loss on a daily or monthly
basis it would take to get a margin call, and then see if there is enough of a safety margin built in.
In our analysis of different hedge fund strategies we look at the gross leverage of each strategy. For our
purpose, every instrument contributes to gross leverage regardless of how similar other instruments in the
portfolio are. So for example, a long position in Reliance and a corresponding short position in Reliance
Futures would have a gross leverage of 200% even though the position is perfectly hedged.
Leverage is also a robust risk metric because it is easy to calculate and does not make any assumptions on
the distribution of returns.

Risk adjusted returns

Risk adjusted returns or Sharpe ratio (the average annual return divided by the average annual risk) is a
good measure of manager skill and performance in a hedge fund context. The risk adjusted returns
measure the value a manager has added for each unit of risk taken. Sharpe ratios can vary from 0.5 to 1
for low frequency strategies to much higher for higher frequency strategies. Two managers can generate
15% returns but if one is taking half the risk of the other, he has done a far superior job. While a backtest
can give you an idea of the Sharpe ratio a strategy can generate, the proof here is really in the pudding.
When working with a manager its very important to a sanity check on the expectedly Sharpe ratio to see if
they are reasonable. For low frequency funds for instance, a range between 0.6 to 1 is what a manager
can reasonably deliver over the long term.
Given the asymmetric nature of some hedge fund strategies, alternative measures of risk adjusted returns
should also be used. These include the Sortino ratio (return per unit of downside volatility) and the Sterling
ratio (average return / maximum drawdown).

Beta and correlation to existing asset classes

Both beta and correlation measure the strategys sensitivity to existing asset classes such as equities, debt,
commodities and currencies. Since hedge funds are at least partially (if not fully) hedged strategies to
respective asset classes, they should have low betas / correlations to other asset classes. For instance long
short equity funds depending on whether they are pure market neutral or slightly long biased funds should
have a very low beta to equities. Its important to measure beta relative to the right asset class. For a
commodity long short fund for instance, the beta to gold, crude and copper as well as a major commodity
index should be low. Measuring beta gives you a sense of whether a manager is sticking to the hedge fund
mandate and what kind of hidden risks there are. For instance, an equity market neutral fund with a beta

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Evaluating A Hedge Fund

of 0.7 to the NIFTY is doing something deeply wrong. Again a back test can give you an idea of what to
expect here and realized returns can do a check on whether the manager is following the strategy.

Liquidity and trading implementation

Since hedge fund strategies trade exotic asset classes and instruments understanding the liquidity and
trading costs of these instruments is important. Ideally for an open ended fund asset classes and
instruments should be liquid enough that the portfolio can be exited in 3-5 days without impacting the
portfolio adversely. Hedge funds are often not locked in vehicles and can see redemptions, and
redemptions from one investor should not hurt existing investors because of liquidity.

Tail risk
Tail risk was an alien concept to investors until the financial crisis of 2008 when strategies with heavy tail
risks cost clients a fortune. Tail risk is the risk of a strategy losing large amounts of money when an
extremely unexpected event happens. The probability of the loss is very low but the magnitude is usually
very high. A number of strategies for instance appear innocuous but have large hidden tail risks. For
instance, options writing is a strategy that generates a very innocuous constant return but loses large
amounts of money when the market has a significant directional move. A manager should be asked if
strategies are insulated for tail risk.

Experience
While every strategy can be evaluated on quantitative and qualitative parameters, ultimately a strategy is
run by a manager. More so than other fields, genuine asset management experience in running the
strategy and trading it with client money will distinguish a manager in the long run. Experience will help a
manager focus on measuring risks correctly, giving realistic return expectations, protecting tail risk, and
picking up after a drawdown, which is inevitable in every strategy. Hedge fund experience is also very
different from long only experience because of the important role of risk management and the exotic and
complex nature of the instruments used.
Similarly buy side experience will outperform sell side
experience because hedge fund asset management raises complex issues that are difficult to see on a
brokerage desk.

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Strategy Drilldown
Overview
The list of existing hedge fund strategies are countless and one edition of this publication cannot do justice
to them. What we have attempted to do is to look at the major global hedge fund strategies that could be
applied to the Indian markets in light of the new Alternative Investment Fund regulations. Given the
regulations are yet to take complete shape, we have not attempted to answer what is regulatory
permissible and what is not.
Our goal is to give investors and wealth managers a flavour of what can and may be done. We have also
evaluated these strategies on the basic hedge fund evaluation parameters so that clients and wealth
managers know what to look out for. The classes of strategies covered are:
Strategy

130-30 Equities
Long Short Equities
Short Biased Equities
Directional Equities
Pairs Trading
Managed Futures
Buy-Write Equities
Volatility Trading
Correlation Trading
Black Swan Protection
Cash Futures Arbitrage
Pure Arbitrage
Commodity Arbitrage
Statistical Arbitrage
Event Arbitrage
Long Short Commodities
Long Short Currencies
Tactical Asset Allocation

Asset Allocation
Category
Equity Futures
High
Equities
Med High
Absolute Return
High
Equities
High
Absolute Return
Med
Absolute Return
High
Absolute Return
Equity Options
Med High
Equities
High
Absolute Return
High
Absolute Return
Limited
Insurance
Arbitrage
Low
Fixed Income
Low
Fixed Income
Low
Fixed Income
Med High
Absolute Return
Med High
Absolute Return
Commodities and Currencies
Med High
Absolute Return
Med High
Absolute Return
Multi Class
Med
Absolute Return
Risk

Leverage

Time
Horizon

0.9 1.0
0.0 0.6
-1.0 0.0
0.0
0.0
0.0

1.6 x
1x 2.5x
Max: 2x
Max: 1x
Depends
1x 2.5x

3 yrs.
18 mo.
3 yrs.
1-2 yrs.
18 mo.
18 mo.

0.6 1.0
0.0
0.0
Negative

1x - 2x
1x 1.5x
1x 1.5x
Max: 1x

3 yrs.
18 mo.
18 mo.
3 yrs.

0.0
0.0
0.0
0.0
0.0

Max: 2x
Depends
Max: 2x
Depends
Max: 1x

3-6 mo.
3-6 mo.
3-6 mo.
18 mo.
18 mo.

0.0
0.0

1x 1.5x
2x 5x

18 mo.
18 mo.

0.0 0.5

1x 2x

18 mo.

Beta

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Equity Futures
130-30 Equities
Characteristic

Description

Strategy
Description

A mutual fund is limited to holding no more than 10% in a single stock and not taking
net short positions in stocks. 130/30 Equity relaxes these constraints by allowing
managers to invest more than 10% in high conviction ideas and create additional
alpha by shorting stocks that they are bearish on.
If a long-only manager has skill in beating his benchmark, then giving him more
freedom to express his views on high conviction ideas and short side ideas should
lead to higher outperformance.
Long: Single stock futures or cash equities
Short: Single stock futures
Long a diversified portfolio of fundamentally strong stocks, short stocks that are
overvalued or that have weak fundamentals.
0.9 1.0
Cash management is important especially if a large portion of the portfolios long
positions are held in cash equities.
Rising equity markets (in absolute terms) and when the managers stock and sector
picks are correct (relative to the benchmark).
Falling equity markets (in absolute terms) and when the managers stock and sector
picks go wrong (relative to the benchmark).
Equity like product for moderate to aggressive clients.
Fits into the equity portion of a clients asset allocation along with mutual funds.

Economic
Rationale
Assets Held
Sample
Position
Target Beta
Unique Risks
Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Portfolios are rebalanced at least once a month to coincide with the futures roll.
Since the portfolio views are of an intermediate term, portfolios will be similar
month-to-month.
No
Gross Leverage = 1.6x
Has a similar risk / return profile to the NIFTY or a traditional diversified equity
mutual fund. Should aim to outperform the benchmark over long periods.
3 Years
The managers stock picking ability and cash management are important.

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Equity Futures
Long Short Equities / Equity Market Neutral
Characteristic

Description

Strategy
Description

Long a portfolio of stocks that are undervalued and/or have strong fundamentals and
short a portfolio of stocks that are overvalued and/or have weak fundamentals.
Focuses purely on a managers stock selection and sector rotation abilities rather
than mixing it with market beta like in a long-only mutual fund.
Undervalued stocks with strong fundamentals will outperform overvalued stocks
with weak fundamentals over a market cycle.
Long: Single stock futures or cash equities.
Short side: Single stock futures or index futures/options to hedge the equity beta.
Rank PSU Banks based on their Price / Book ratios. Take long positions in banks with
low Price / Book values and short positions in banks with high Price / Book values.
Long-Short Equity portfolios are often run with a long-equity bias (i.e. Beta between
0 and 0.6). Equity market neutral is a special case of Long-Short Equities where the
manager targets a beta of 0 at all times.
The strategy presents operational risks because managing a book of 40+ futures
positions can be challenging if the managers systems are not up to par.
In fundamental driven markets, when there are flights to quality stocks and during
earnings if the positions are related to fundamental factors.
In speculative or junk led rallies. The strategy will also do poorly if there is a rapid
shift in a companys fundamental prospects.
Moderate (low-leverage) to aggressive (high-leverage) clients
Absolute return allocation.

Economic
Rationale
Assets Held
Sample
Position
Target Beta

Unique Risks
Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken

Risk / Return
Profile
Investment
Horizon
Points to
consider

Portfolios are rebalanced at least once a month to coincide with the futures roll.
Since the views are intermediate term, portfolios are similar month-to-month.
No.
Leverage can be varied based on a clients risk profile. A long-short portfolio with
gross leverage of 1x has an annualized risk of 5% (similar to an aggressive monthly
income plan). A portfolio with gross leverage of 2.5x has an annualized risk of 12.5%
(similar to a balanced fund).
Should deliver 15%-20% with leverage over an 18 month period regardless of what
the NIFTY does. The strategy could be down in a given month or quarter.
18 months.
Investment process, portfolio construction and implementation are very important
points to consider when evaluating an equity long-short manager.

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Equity Futures
Short Biased Equities
Characteristic

Description

Strategy
Description
Economic
Rationale

Short overvalued and fundamentally weak companies.

Assets Held
Sample
Position
Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

The market is structurally biased to be long equities. The strategy attempts to profit
from companies that are overvalued, highly levered, have large pledged promoter
holdings, faulty accounting, weak management or unsound business models.
Single stock options and futures, index futures.
Short a diversified portfolio of stocks, long NIFTY futures.
-1.0 to 0.
Cash management is important because futures positions could suffer mark-tomarket losses if stocks remain irrationally priced longer than expected. Stocks could
also be propped up by unscrupulous management.
Bear markets, rising interest rate environments and when liquidity is tight.
Bull markets and speculative rallies.
Aggressive clients.
Equity allocation.
Monthly or whenever there are market opportunities.
Partially Segments of the market are always overvalued but stock specific
opportunities appear from time to time.
Max Gross Leverage = 2x
Similar to a short NIFTY position.
3 years.
The managers forensic accounting, stock picking ability and cash management are
important.

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Equity Futures
Directional Equities
Characteristic

Description

Strategy
Description
Economic
Rationale
Assets Held
Sample
Position
Target Beta

Attempts to profit from short-term fluctuations in different indices. Technical

analysis is often used to make decisions.
Markets often display short-term inefficiencies due to demand/supply imbalances or
extremes of greed and fear.
NIFTY futures, Bank NIFTY futures or CNX IT futures.
Long NIFTY futures.

Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

The long-term beta of the strategy will be 0 but the strategy will have either long or
short market exposure at any given point in time.
Monitoring leverage is important because the strategy takes naked positions on the
market. The strategy has an element of tail risk because the market can move sharply
and suddenly against the managers position. Stop-losses are critical.
Trending markets. Reversal strategies will do well in range-bound markets.
Range-bound markets or markets with sharp trend reversals. Reversal strategies will
do poorly in trending markets or if there is a structural shift in a market.
Aggressive clients.
Absolute return allocation.
Weekly or more frequently.
Partially the portfolio can hold small or no positions if the manager does not have a
directional view.
Leverage will vary with the strength of the managers view. Leverage should typically
be less than 1x given the volatility of the strategy. A portfolio targeting an annualized
volatility of 10% will target an average gross leverage of 0.4x.
The returns of a directional trading strategy will be lumpy because it takes different
amounts of risk at different points in time. Statistically speaking the distribution of
returns will be fat-tailed or have a high kurtosis.
1 2 years.
This is a high-risk, high-return strategy.

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Equity Futures
Pairs Trading
Characteristic

Description

Strategy
Description
Economic
Rationale

When the prices of two highly correlated stocks diverge, a pairs trading strategy
attempts to profit from their convergence.
Highly correlated stocks that are in the same sector and have similar businesses must
move together. Prices can diverge temporarily because of demand/supply
imbalances but they must converge back eventually.
Single stock futures.
Long HEROMOTOCO and Short BAJAJ-AUTO in the ratio of 1.3:1

Assets Held
Sample
Position
Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Zero.
Pairs Trading is exposed to event risk because the correlation between two stocks
can breakdown if one of them undergoes a structural change due to a change in
business, management or regulation.
Benign markets and when the correlations between stocks are stable.
Periods when there is stock specific news, event risk and when correlations break
down.
Moderate risk clients.
Absolute return allocation.
As and when opportunities arise. Positions are rolled monthly.
Yes.
Depends on the number of pairs.
A single pair trade position can have 75% of the volatility of the equity market. But a
portfolio of 5 pairs will have an annualized standard deviation of 8%-10% (similar to
the volatility of a portfolio of 1/3rd equities, 1/3rd gold and 1/3rd debt).
18 months.
Risk management including stop-losses and a qualitative filter to identify structural
breaks are important. How the hedge ratios are determined whether on a valueneutral, beta-neutral or volatility-neutral basis are also important.

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Equity Futures
Managed Futures
Characteristic

Description

Strategy
Description
Economic
Rationale

Long stocks with positive price momentum, short stocks with negative price
momentum. The strategy can also be applied to commodities and currencies.
Individual stocks display price momentum because of sustained buying or selling, a
tendency for investors to hold on to losers and sell winners too early and the
tendency for market participants to under react to market news.
Single stock futures.
Long stocks that have risen in the last 3 months, short stocks that have fallen in the
last 3 months.
Zero. The strategy could have positive or negative market exposure at any point in
time.
In India, managed futures runs the risk of being the last man holding if a stock is
being manipulated.
Trending markets and in periods of volatility.

Assets Held
Sample
Position
Target Beta
Unique Risks
Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken

Risk / Return
Profile
Investment
Horizon
Points to
consider

Range bound markets and tranquil periods.

Aggressive clients.
Absolute return allocation.
Weekly or more frequently.
No.
Leverage can be varied based on a clients risk profile. A managed futures book with
gross leverage of 1x has an annualized risk of 5% (similar to an aggressive monthly
income plan). A portfolio with gross leverage of 2.5x has an annualized risk of 12.5%
(similar to a balanced fund).
Should return 15%-20% over a 12-18 month period with leverage regardless of what
the NIFTY does. The strategy could be down in a given month or quarter.
18 months.
Risk management including position sizing and stop losses are important for a
managed futures book.

16 | P a g e

CAPITAL MANAGEMENT

Equity Options
Buy-Write Equities
Characteristic

Description

Strategy
Description
Economic
Rationale
Assets Held
Sample
Position
Target Beta
Unique Risks

Buy a portfolio of stocks and sell out-of-the-money NIFTY call options.

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Selling out-of-the-money index call options generates income that helps a long-only
manager outperform his benchmark.
Cash Equities, Index Call Options.
Long a diversified portfolio of stocks, short NIFTY call options.
0.6 1.0.
Cash management is important because short call option positions could suffer markto-market losses.
Moderate bull markets and when implied volatilities are high.
Falling equity markets (in absolute terms), in sudden market rallies (relative to the
benchmark) and when the managers stock and sector picks go wrong (relative to the
benchmark).
Moderate to aggressive clients.
Equity portion of a clients asset allocation along with traditional mutual funds.
The cash equity portion of the portfolio is rebalanced whenever there is a change in
the managers view. The index options are rolled monthly.
No.
Max Gross Leverage = 2x but lower levels of leverage can also be taken.
Buy-Write Equity has a similar risk / return profile to the NIFTY or a traditional
diversified equity mutual fund.
3 years.
The managers stock picking ability and cash management are important.

17 | P a g e

CAPITAL MANAGEMENT

Equity Options
Volatility Trading
Characteristic

Description

Strategy
Description

Sell options when implied volatility is high. Buy options when implied volatility is low.
The strategy could also sell options on stocks with high volatility and buy options on
stocks with low volatility.
Markets go through periods of high and low volatility with volatility often reverting to
its average. Implied volatility also tends to be higher than realized volatility. Longdated options are often bought by structured product investors who are insensitive
to the implied volatility at which they are purchased.
Index and single stock options. Index and single stock futures for delta-hedging.
Short NIFTY 5400 April 2012 Call Options, Short NIFTY 5400 April 2012 Put Options.

Economic
Rationale

Assets Held
Sample
Position
Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Zero beta to the NIFTY. Volatility trading has an asymmetric risk-return profile so
betas might not be an appropriate risk metric.
Short volatility strategies are exposed to severe tail risk they make a small amount
of money most of the time and lose a large amount occasionally. The cost of deltahedging an options book can eat away at the differences between implied volatilities
and realized volatilities. The strategy is exposed to gap risk i.e. the market can
move in jumps leaving positions unhedged causing it to lose money.
Calm market environments. Short volatility strategies do well when realized volatility
is lower than implied volatilities.
Volatile market environments.
Aggressive clients.
Absolute return allocation.
Daily.
Partially volatility trading often has a short gamma (selling short-dated options)
bias but positions can be taken based on market opportunities.
Leverage can be varied judiciously based on a clients risk profile (1x to 2.5x is
reasonable).
Volatility trading should target 15-20% over a 12-18 month period.
18 months.
Strong risk management, experience pricing options and skill in delta hedging are
important for volatility trading.

18 | P a g e

CAPITAL MANAGEMENT

Equity Options
Correlation Trading
Characteristic

Description

Strategy
Description
Economic
Rationale
Assets Held

Sell index options, buy single stock options in the same proportion as the index.

Sample
Position
Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Index options are often overpriced compared to single stock options i.e. the implied
correlation of stocks when pricing index options is higher than the actual correlation.
NIFTY options, Bank NIFTY options and single stock options. Index and single stock
futures for delta-hedging.
Short NIFTY 5400 April 2012 Call Options, Short NIFTY 5400 April 2012 Put Options.
Buy at-the-money calls and puts on NIFTY stocks in the same proportion as they
appear in the index.
Zero beta to the NIFTY. Asymmetric risk-return profile so beta may not be relevant.
Short correlation strategies are exposed to tail risk because all stocks move together
in a market crash or sharp market rally. The cost of delta-hedging an options book
can eat away at the differences between implied correlations and realized
correlations. The strategy is exposed to basis risk if the single stock options cannot be
bought in the same proportion as the stocks in the index. Single stock options can be
illiquid. The strategy is exposed to gap risk i.e. the market can move in jumps
leaving positions unhedged causing it to lose money.
Periods when volatility is low and when actual correlations are lower than those
implied by option prices i.e. the performance of stocks is disperse.
Volatile market environments and when stocks move together i.e. realized
correlation is high.
Aggressive clients.
Absolute Return Allocation.
Daily.
Partially correlation trading often has a short correlation and short gamma bias but
positions can be taken based on market opportunities.
Leverage can be varied judiciously based on a clients risk profile. (1x to 2.5x is
reasonable).
Correlation trading should target 15-20% over a 12-18 month period.
18 months.
Strong risk management, experience pricing options and skill in delta hedging are
important for correlation trading.

19 | P a g e

CAPITAL MANAGEMENT

Equity Options
Black Swan Protection
Characteristic

Description

Strategy
Description
Economic
Rationale
Assets Held
Sample
Position
Target Beta

Buy out-of-the-money index put options.

Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Extreme events and market crashes happen more frequently than expected. This is a
strategy to protect an investors portfolio against large drawdowns.
NIFTY put options.
Buy NIFTY 4500 December 2012 put options.
Negative beta to the NIFTY. The strategy has an asymmetric risk-return profile so
betas might not be an appropriate risk metric.
The strategy loses money most of the time, hence client expectations have to be
managed carefully. Out of the money options are illiquid and difficult to exit. Long
option positions could expire in-the-money leading to an additional STT expense.
Periods of high volatility and in market crashes and panics.
Calm market environments and bull markets.
For patient investors of all risk tolerances.
The strategy is an insurance against a clients equity mutual fund and direct equity
holdings. It is belongs to a category by itself.
Monthly or whenever there are market opportunities.
No.
Maximum gross leverage = 1x. Typically leverage will be a lot lower because most of
the time the options will expire out of the money leading to the client losing money.
Black Swan Protection is an insurance strategy. Losses are limited to the option
premium paid. Gains are not capped but are infrequent.
3 years.
Patience and managing client expectations are key.

20 | P a g e

CAPITAL MANAGEMENT

Arbitrage
Cash Futures Arbitrage
Characteristic

Description

Strategy
Description
Economic
Rationale

Profiting from differences between the cash and futures prices of the same security.

Assets Held
Sample
Position
Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Typically: Future Price = Cash Price x (1 + Short Term Interest Rate). However, the
futures price can occasionally trade at a premium to the price implied by short term
interest rates because of demand/supply imbalances.
Long: Cash Equities. Short: Single Stock Futures.
Buy Pantaloon in the cash market, Sell Pantaloon April 2012 futures.
Zero.
In a sharp rally the portfolio might run out of cash due to mark-to-market losses on
futures. This might force the manager to unwind positions before arbitrage spreads
have converged. If the futures position cannot be rolled over and the cash positions
cannot be exited, portfolio can be left with a directional exposure to a given stock.
Periods when rates on non-deliverable currency forwards are high because the cost
of FIIs hedging their arbitrage books becomes expensive. The strategy also does well
when stocks hit their FII ownership limits or when short term interest rates are high.
Periods when NDF spreads are low, when there are no frictions between the cash
and futures market or when short term interest rates are low.
Conservative clients.
Fixed income allocation.
Monthly or whenever there are opportunities.
Partially positions taken whenever there are arbitrage opportunities available.
Futures positions can be rolled monthly to continue to generate debt like returns.
Maximum possible gross leverage (Cash + Futures)= 2x. Gross leverage will likely be
lower because a cash buffer has to be maintained for initial margin and mark-tomarket losses on the futures positions.
Cash-futures arbitrage is an interest generating strategy that has the risk / return
profile of a liquid fund.
3-6 months.
Cash management, portfolio concentration and trading implementation is important.

21 | P a g e

CAPITAL MANAGEMENT

Arbitrage
Pure Arbitrage
Characteristic

Description

Strategy
Description
Economic
Rationale
Assets Held
Sample
Position

Attempts to profit from differences between the price of the same stock in different
markets or the price of a security and its synthetic.
The law of one price states that in an efficient market, all identical goods will have
the same price. Any deviations will be immediately arbitraged.
Cash Equities, Index and Stock Futures.
Exchange Arbitrage: Buy a stock on NSE and instantly sell it for a higher price on BSE.
Futures-Futures Arbitrage: Buy NIFTY, Sell MINIFTY in the ratio 2:5
Index-Constituent Arbitrage: Buy Bank NIFTY Futures, Sell the Bank NIFTY
constituents in the futures market in proportion to their weights in the index
Put-Call Parity Arbitrage: Buy NIFTY futures, Sell a NIFTY call, Buy a NIFTY put.
Zero.
The strategy has execution risk because of latency between the decision price and
the price at which trades get filled. Exchange Arbitrage has settlement risk because
trades between the NSE and BSE are not net settled. Index-Constituent Arbitrage has
basis risk if you cannot trade the constituents in the exact same proportion as they
appear in the index. Put-Call Parity Arbitrage has settlement risk if the options expire
in the money leading to an additional STT expense.
Periods when intra-day volatility is high or when markets are segmented.

Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Periods when markets are calm.

Conservative clients.
Fixed income allocation.
Whenever there are opportunities
Yes.
Gross leverage can be as high as 10x because of cross-margining benefits.
Pure arbitrage is an interest generating strategy that has the risk / return profile of a
liquid fund.
3-6 months.
Speed of execution/ t-costs are critical because the strategy generates free money. Is
the holy grail but is likely to be wiped out as markets become more efficient.

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CAPITAL MANAGEMENT

Arbitrage
Commodity Spot Futures Arbitrage
Characteristic

Description

Strategy
Description
Economic
Rationale

Profit from differences between the spot and futures prices of the same commodity.

Assets Held
Sample
Position
Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Typically: Future Price = (Cash Price + Cost of Storage) x (1 + Short Term Interest Rate
Convenience Yield). However, the futures price can occasionally trade at a premium
to the price implied by short term interest rates and storage costs because of
demand/supply imbalances between the spot and futures market.
Long: Physical commodities.
Short: Commodity futures.
Buy spot silver and sell MCX Silver July 2012 futures.
Zero.
In a rally the portfolio might run out of cash due to mark-to-market losses. Positions
might have to be unwound before arbitrage spreads have converged. If futures
position cannot be rolled and the physical commodity positions cannot be delivered
at expiry, portfolio can be left with a directional exposure. In the case of perishable
commodities there is also a risk of the physical commodity degrading in quality.
Periods when term interest rates are high, there is strong demand for the futures or
when there is a seasonal variation in the demand/supply for a commodity.
Periods when short term interest rates are low and when the demand/supply for a
commodity in the spot and futures market are in sync and predictable.
Conservative clients.
Fixed income allocation.
Monthly or whenever there are opportunities.
Partially positions taken whenever there are arbitrage opportunities available.
Futures positions can be rolled monthly to continue to generate debt like returns.
Maximum possible gross leverage = 2x. Gross leverage will likely be lower because a
cash buffer has to be maintained for initial margin and mark-to-market losses.
Interest generating strategy that has the risk / return profile of a liquid fund.
3-6 months.
Cash management, physical storage and trading implementation is important. Avoid
politically sensitive commodities. The FMC can halt trading in a commodity.

23 | P a g e

CAPITAL MANAGEMENT

Arbitrage
Statistical Arbitrage / High Frequency Trading
Characteristic

Description

Strategy
Description
Economic
Rationale

Attempt to profit from intra-day patterns in market microstructure and high

frequency technical patterns.
Market participants are pre-disposed to certain patterns e.g. buying according to a
volume weighted average price (VWAP) pattern or selling in the last half hour to
target the close price. This leads to intra-day efficiencies.
Single stock futures, Index futures, Cash Equities
Buy NIFTY futures because the market has gapped up, unwind position at the end of
the day.
Zero.
Positions might not be able to be unwound at the end of the day leading to overnight
risk. There could be slippage between decision prices and executed prices.
Periods when there are large price-insensitive players in the market. For example, if
all ETFs have to buy the same stock on the close to match their index. The strategy
also does well when intra-day volatility is high.
Periods when markets are illiquid or when intra-day volatility is low.

Assets Held
Sample
Position
Target Beta
Unique Risks
Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Moderate to Aggressive clients.

Absolute return allocation.
Intra-day. Portfolio turnover is high.
Can be. Strategies can be event driven i.e. take advantage of ETF trading around an
index reconstitution or always on: Buy the NIFTY if it opens up / Short the NIFTY if it
opens down.
Gross leverage depends on the strength of the managers view. Leverage should be
moderate if the manager is taking directional positions intra-day.
At 1x gross leverage, the strategy has the risk / return profile of an aggressive
monthly income plan. Individual months or quarters could be negative.
18 months.
Trading costs and quality of execution are critical for intra-day strategies. Wealth
managers reporting systems might misestimate these strategies because end-of-day
reports do not capture the risks of strategies that end each day without any
positions.

24 | P a g e

CAPITAL MANAGEMENT

Arbitrage
Event Arbitrage
Characteristic

Description

Strategy
Description
Economic
Rationale

Profit from corporate events such as FPOs, buybacks, delistings and mergers.

Assets Held
Sample
Position

Target Beta
Unique
Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Once a corporate event is announced or if shares are being sold at a discount or

acquired at a premium, stocks trade in a fixed pattern. Any deviations can lead to
opportunities for abnormal returns.
FPO Applications, Long: Cash Equities, Short: Single Stock Futures
FPO Arbitrage: Apply for ONGC FPO and short min(1/expected oversubscription, 1)
ONGC September 2011 futures.
Delisting/Buyback Arbitrage: Buy ALFALAVAL and Sell NIFTY Futures in the ratio 3:1.
Tender shares to company.
Merger Arbitrage: Buy RPOWER futures, Sell RNRL futures in the ratio 1:4
Zero.
FPO Arbitrage: The FPO might get cancelled or repriced or the oversubscription might
be different than anticipated.
Delisting Arbitrage: Promoters might cancel the delisting. In the case of a buyback,
not all the shares tendered might be accepted by the company.
Merger Arbitrage: Merger might be cancelled or swap ratio changed.
Cases when FPOs are priced at a discount to the prevailing market price and when
the floor price for delistings and buybacks is at a premium to the market price. The
strategy also benefits for a predictable and benign market for deals.
Periods when markets are volatile and in periods of regulatory uncertainty.
Moderate to Aggressive clients.
Absolute return allocation.
Whenever opportunities arise. Futures are rolled monthly.
Yes.
Maximum gross leverage = 2x. Leverage will be a lot lower because of cash to be kept
for initial margin and mark-to-market losses on the futures.
The risk / return profile depends on the number of opportunities available. The
strategy could have similar risk to the market over short periods.
18 months.
Cash-futures spread and implementation plays an important role in determining
profitability. Involves an element of game theory.

25 | P a g e

CAPITAL MANAGEMENT

Commodities and Currencies

Long Short Commodities
Characteristic

Description

Strategy
Description
Economic
Rationale
Assets Held
Sample
Position
Target Beta

Long commodities that have are undervalued and/or have strong fundamentals and
short commodities that are overvalued and/or have weak fundamentals.
Commodities for which demand is strong or supply is scarce will outperform
commodities for which demand is weak or supply is abundant.
MCX Futures, NCDEX Futures.
Rank commodities based on their inventory levels. Long commodities that have
falling inventories and short commodities that have rising inventories.
Zero beta to the NIFTY, Gold, Oil, Copper or any individual commodity. Portfolios
could have directional exposure to commodities at a given point in time.
Agricultural commodities can be politically sensitive. Illiquid markets could be frozen
in an upper or lower circuit for a number of days. The FMC or exchanges could raise
margins forcing levered positions to be cut. Futures positions might not be able to be
rolled over leading to delivery of physical commodities. The cost of carry can be very
high due to commodities being in extreme contango. Net Rupee Exposure can leave
the portfolio exposed to fluctuations in the USD-INR exchange rate because the
prices of many commodities are determined in US Dollars.
Fundamental driven markets.

Unique
Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Periods when there is a structural change in a commodity markets fundamentals.

Moderate (low-leverage) to aggressive (high-leverage) clients.
Absolute return allocation. Long Short Commodities cannot be bucketed with gold in
a clients asset allocation.
Weekly.
No.
Leverage can be varied judiciously based on a clients risk profile. A long-short
portfolio with gross leverage = 1x has an annualized standard deviation of 10%.
Should look to deliver 15%-20% with leverage over a 12-18 month period regardless
of what the NIFTY, Gold or any other commodity does. Could be down in a given
month or quarter.
18 months.
Past experience trading commodities, risk management and implementation are very
important points to consider when evaluating a commodity manager.

26 | P a g e

CAPITAL MANAGEMENT

Commodities and Currencies

Long Short Currencies
Characteristic

Description

Strategy
Description
Economic
Rationale

Invest in undervalued currencies, countries with strong macro-economic

fundamentals and those with high interest rates.
Currencies which are undervalued on a purchasing power parity (PPP) basis will
appreciate. Countries with high interest rates and strong economic fundamentals will
attract capital flows leading to an appreciation of their currencies.
NSE Currency Futures, MCX Currency Futures.
Long USD-INR and JPY-INR futures and Short EUR-INR and GBP-INR futures.

Assets Held
Sample
Position
Target Beta
Unique Risks

Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

Zero beta to the NIFTY. Can be managed with a net INR exposure or INR-neutral.
Portfolios with a net INR exposure will be exposed to flows between emerging and
developed markets and sudden flights to safety. Central banks could intervene in
currency markets. Currencies could deviate from PPP for a long periods of time.
Calm market environments for carry based strategies (long high rate currencies,
short low rate currencies). Macro/momentum strategies do well in volatile markets.
Carry strategies do poorly when volatility is high. Momentum strategies do poorly in
range bound markets.
Moderate (low-leverage) to Aggressive (high-leverage) clients.
Absolute return allocation.
Weekly.
No.
Leverage can be varied judiciously based on a clients risk profile. A long-short
currency portfolio with gross leverage = 2x has an annualized standard deviation of
10%.
Should look to deliver 15%-20% with leverage over a 12-18 month period regardless
of what the NIFTY does. Could be down in a given month or quarter.
18 months.
Past experience trading currencies, an understanding of fixed income and risk
management are important for a currency strategy.

27 | P a g e

CAPITAL MANAGEMENT

Multi Asset Class

Tactical Asset Allocation
Characteristic

Description

Strategy
Description
Economic
Rationale
Assets Held

Build a long-only portfolio of uncorrelated sources of beta and allocate more to

undervalued asset classes with stronger fundamentals.
Different asset classes perform at different points in time. Combining multiple
uncorrelated asset classes leads to lower risk and more consistent returns.
Equities: NIFTY ETFs, NIFTY futures and Mid Cap ETFs.
Global Markets: International Equity funds.
Commodities: Gold ETFs and futures, eSilver and Silver futures, eCopper and Copper
futures, Crude Oil futures
Debt: Liquid funds, Income funds.
Currencies: Currency futures.
Long 60% NIFTY futures, long 60% gold futures.

Sample
Position
Target Beta
Unique Risks
Performs
Well In...
Performs
Poorly In...
Client Profile
Asset
Allocation
Trading
Frequency
Is the strategy
opportunistic?
Leverage
Taken
Risk / Return
Profile
Investment
Horizon
Points to
consider

NIFTY beta: 0 0.5.

Cash management is important for levered positions.
Periods when the underlying asset classes do well. Depends on the managers
judgement of asset class performance.
Periods when the underlying asset classes do poorly. Depends on the managers
judgement of asset class performance.
Moderate risk taking clients.
Absolute return allocation.
Monthly.
No.
Gross leverage ranges between 1x and 2x.
A diversified portfolio with gross leverage of 1x will have an annualized risk of about
10%. Returns depend on the performance of underlying asset classes but without
leverage such a strategy can generate 12-15% over the long term.
18 months.
Comparisons between asset classes can be difficult to make. A manager should have
an understanding of asset management issues across asset classes.

28 | P a g e

CAPITAL MANAGEMENT

Multi Strategy Funds

Combining Multiple Strategies
While hedge fund strategies are interesting in themselves, they can be packaged into a more robust and
diversified investment in the form of a multi strategy fund. A multi strategy fund is a combination of two
or more unrelated strategies packaged as a single investment fund. When such a fund combines multiple
absolute return strategies which are uncorrelated (as many of the strategies presented are), the net
outcome is a fund with lower risk than the individual strategies and superior risk adjusted returns. From a
clients and wealth managers perspective, since strategies perform differently at different times, this
means more consistent monthly and quarterly performance patterns.
Strategies can be combined into theme based groups such as a collective arbitrage strategy or a collective
long short strategy, or strategies can be combined in a single asset class (a multi strategy equity futures
fund). The focus should be on combining uncorrelated strategies but ones with a similar client profile. For
instance combining a 130-30 equities strategy with a tactical asset allocation strategy is not a great idea
because both have long only equity exposure which overlaps. Of the range of options available, Forefront
has identified a few multi strategy fund examples that sensibly combine the above strategies.
Fund Summary
Sub Strategies
Equity Futures Fund
1. Long Short Equities
A combination of absolute return oriented
2. Directional Equities
equity futures strategies
3. Pairs Trading
4. Managed Futures
5. Statistical Arbitrage
6. Event Arbitrage
Equity Options Fund
1. Volatility Trading
A combination of absolute return oriented
2. Correlation Trading
options trading strategies
3. Black Swan Protection
Arbitrage Fund
1. Cash Futures Arbitrage
A combination of low risk arbitrage oriented
2. Pure Arbitrage
strategies with a fixed income profile
3. Commodity Spot Futures Arbitrage
Commodities Fund
1. Long Short Commodities
A combination of absolute return oriented
2. Commodity Spot Futures Arbitrage
commodities strategies
Multi Asset Class Long Short Fund
1. Long Short Equities
A combination of absolute return long short
2. Long Short Commodities
strategies across asset classes
3. Long Short Currencies

29 | P a g e

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References and Disclosures

References
Allen S., Financial Risk Management A Practioners Guide to Managing Market and Credit Risk, John
Wiley 2003
Andrade S., di Pietro V. and Seasholes M. Understanding the Profitability of Pairs Trading, Working
Paper, University of California, Berkeley and Northwestern University.
Asness C., Krail R. and Liew J. Do Hedge Funds Hedge?, AQR Capital Management LLC
Baillie R. and Bollerslev T., 2000, The Forward Premium Anomaly is Not as Bad as You Think, Journal of
International Money and Finance, 19(4), 471-488.
Bakshi G. and Kapadia N., 2003, Delta-Hedged Gains and the Negative Market Volatility Risk Premium,
Review of Financial Studies, 16(2), 527-566.
Bakshi G., Kapadia N. and Madan D., 2003, Stock Return Characteristics, Skew Laws and the Differential
Pricing of Individual Equity Options, Review of Financial Studies, 16(1), 101-143.
Balassa B., 1964, The Purchasing-Power-Parity Doctrine: A Reappraisal, Journal of Political Economy, Vol.
72. No 6., December, 584-596.
Bansal R. and Dahlquist M., 2000, The Forward Premium Puzzle: Different Tales from Developed and
Emerging Economies, Journal of International Economics, 51, 115-144.
Bhansali V., 2007, Volatility and the Carry Trade, The Journal of Fixed Income, 72-84.
Britten-Jones M. and Neuberger A., 2000, Option Prices, Implied Price Processes, and Stochastic
Volatility, Journal of Finance, 55, 839-866.
Brown S. and Goetzmann W. Hedge Funds with Style, Yale ICF Working Paper No. 00-29
Brown S., Fraser T. And Liang B., Hedge Fund Due Diligence: A Source of Alpha in a Hedge Fund Portfolio
Strategy, Working Paper
Burnside C., Eichenbaum M., Kleshchelski I. and Rebelo S., 2006, The Returns to Currency Speculation,
NBER working paper.
Carhart M., 1997, On Persistence in Mutual Fund Performance, Journal of Finance, vol. 52, no. 1 (March):
57-82
Chan N., Getmansky M., Haas S. and Lo A., Systemic Risk and Hedge Funds, MIT Sloan Research Paper No.
4535-05
30 | P a g e

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References and Disclosures

References
Chinn M., 2006, The (Partial) Rehabilitation of Interest Rate Parity: Longer Horizons, Alternative
Expectations and Emerging Markets, Journal of International Money and Finance, 25(1), 7-21.
Clark K., Managing a Portfolio of Hedge Funds, Modern Investment Management An Equilibrium
Approach, Chapter 27
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References and Disclosures

Disclosures
The document is delivered solely as reference material and is not related to any product of Forefront Capital Management. It
does not constitute an offer to sell or a solicitation of an offer to buy interests in any product. Any such offering will occur only
in accordance with the terms and conditions set forth in the client agreement if and when offered. Investors are urged to
review the relevant documents including the risk considerations described in them and to ask additional questions of Forefront
as deemed appropriate, as well as discuss any prospective investment with their legal and tax advisers prior to investing. This
document is intended for the use of the person to whom it has been discussed with by Forefront and is not to be reproduced or
redistributed to any other person. The information set forth has been obtained from sources believed by Forefront to be
reliable. However, Forefront does not make any warranty as to the informations accuracy or completeness nor does Forefront
recommend that the attached information serve as the basis of an investment decision. This document is subject to further
review and revision. Forefront is not making any statement about offering any of these strategies or whether any of these
strategies can be offered on any regulatory platform in India (AIF, PMS, Mutual Funds or others). The strategies presented are
merely hypothetical strategies that are run globally by hedge funds.
Past performance is not an indication of future performance. Hypothetical performance results (e.g. quantitative back tests)
where presented have many inherent limitations some of which, but not all, are described herein. No representation is being
made that any account will or is likely to achieve profits or losses similar to those shown herein. In fact there are frequently
differences between hypothetical performance results and the actual results subsequently realized by any trading program. One
of the limitations of hypothetical performance results is that they are prepared with the benefit of hindsight. In addition,
hypothetical trading does not involve financial risk and no trading record can completely account for the impact of financial risk
in actual trading. There are numerous other factors related to the markets in general or to the implementation of any specific
trading program which cannot be fully accounted for in the preparation of hypothetical performance results, all of which can
adversely affect actual trading results. Hypothetical results are presented for illustrative purposes only. There is a risk of loss
associated with trading futures and leverage. Before investing carefully consider your financial position and risk tolerance to
determine if the proposed trading style is appropriate. All funds committed should be purely risk capital. The portfolio risk
management process includes an effort to monitor and manage risk but should not be confused with and does not imply low
risk.
This material is confidential and cannot be shared or reproduced without the prior written permission of Forefront Capital
Management Private Limited.

For any questions or feedback on this publication please contact:

Radhika Gupta, Director and Head of Business Development
Forefront Capital Management Private Limited
Address: 111 TV Industrial Estate, S K Ahire Marg, Worli, Mumbai 400030, India
Tel: +91-22-2494807
E-mail: radhika.gupta@forefrontcap.com
Web: www.forefrontcap.com

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