Managed Futures Today Magazine

Paul Kim is something of a rarity in the managed futures business these days. In a world dominated by systematic, financial-centric managers, the founder of Costa Mesa, Calif.-based Aventis Asset Management is a discretionary, fundamentally driven trader who focuses on physical commodities, with a special emphasis on grain futures.



Kim’s Aventis Diversified Commodity Fund (formerly the Misfit Financial Group Barbarian Fund — the firm recently changed its name), which had $118 million under management as of Aug. 1, was up around 11 percent in 2011 through July and up 169 percent (vs. a maximum drawdown of around 21 percent) since launching in September 2006. Figure 1, which compares the performance of a hypothetical $1,000 investment in the Aventis Diversified Fund and the S&P 500 shows that, despite its 2008-2009 drawdown, the fund has outperformed the S&P (ex-dividends) by a wide margin and pushed to a new equity high by the end of 2010.

Strategically, Kim’s fund applies several spreading techniques: intramarket (calendar) futures and option spreads, which consist of going long or short in one contract month and taking the opposite position in another month in the same commodity (e.g., long July soybeans and short November soybeans); inter-exchange spreads, which consist of long and short positions in similar markets on different exchanges (e.g., long Brent crude oil vs. WTI crude oil, or long Kansas City wheat vs. Chicago wheat); intercommodity spreads, which combine long and short positions in related commodities (e.g., long corn and short beans). The final component consists of taking outright long or short futures and options positions.

Kim, 52, is also unusual in that he successfully transitioned from the exchange floor to professional money management. After graduating from Northwestern University with a degree in economics, he took a job with grain giant Cargill and worked his way through a series of positions, starting with “domestic trader” in Toledo, Ohio, where he “talked with country [grain] elevators and farmers.” From there he moved on to managing the wheat pit at the Chicago Board of Trade (CBOT), as well as trading corn, beans, and wheat with the Far East out of Portland, Ore.

In 1989, after seven years with Cargill, Kim decided to try his hand as a proprietary trader on the CBOT floor, starting in the wheat pit. Success did not come overnight. For the next nine years, Kim plied his trade on the floor, developing his skills and expanding his trading universe. Unlike the majority of pit traders, however, Kim was never just trying to capture the bid-ask spread or snatch small profits out of the market’s intraday gyrations.

“I wasn’t a scalper,” he says. “I would have a view on the market, and that view would be expressed primarily through calendar spreads. Later on, I traded more options.” In the mid-1990s, he enjoyed his first big successes, and from that point on he “began trading other markets with pretty significant size.” In 1998, Kim migrated off the floor and worked the markets from an office.

In 2000 he was ready for the next stage of his career — money management. He launched his first managed futures program, an ag-only program called the LaSalle Grain Fund, with partner Dave Fox, a fellow wheat trader who had a specialty options trading model. After relocating from Chicago to California in late 2003, Kim launched the Aventis Diversified Fund, which expanded the universe of markets he traded to “softs” (coffee, sugar, cocoa, cotton) and energies, in addition to grains.

As it was for virtually every corner of the financial world, 2008 turned out to be a transitional period for the fund. In addition to redefining their risk-management structure and programming a proprietary risk used in their daily decision-making process, Aventis made a point of integrating global macro issues into their business.

“We’re all lifelong learners, and with the 2008 meltdown we really began to focus on understanding the macros,” he says. “Now, whenever we sense a potential global macro concern is growing, we will dramatically alter our overall risk based on those factors. We also subscribe to global macro analysts, and we now incorporate this element as an input stream into our information flow on a daily basis. It’s really helped our overall trading.”

MFT: What’s the biggest difference between trading for yourself on the exchange floor and managing money?

PK: The No. 1 thing is that when managing money, every trading approach has to be scalable. Sometimes in the pits, even if you’re not a scalper, you can find some short-term trade that might make you a dime in 15 minutes or so. But that’s not a transferable skill. You really have to be right on the big picture, and you really have to be right on a move. You don’t have the option of just being able to take advantage of daily volatility.

Then there’s the business aspect: developing a team, a corporate discipline, and a trading discipline. When you’re trading for yourself, you answer only to yourself and your P&L. When you’re managing money and you tell your investors you’re going to strategize and execute a certain way — well, you have to be accountable for that. Keeping that discipline, and getting your company and staff “institutionalized,” were different issues than what I had to deal with before.

MFT: Which markets are you most active in?

PK: We focus on the grain sector — corn, beans, wheat. That includes Kansas City wheat and Minneapolis wheat, and the soybean sub-products — soybean oil and soymeal. The second area we focus on is soft commodities — cotton, sugar, coffee, cocoa. The third product line is energies — both Brent and WTI crude oil, gasoline, and heating oil.

MFT: Why do you favor these markets?

PK: I think we have several edges, but one of the primary ones is that we understand the fundamentals of these [physical] commodities. We start out each year with a fundamental view, assimilated from analyst reports, our contacts in the cash market who trade those underlying commodities, and from years of experience knowing which components of supply and demand can change. Obviously, that fundamental view can change depending on market conditions, and we adjust the view based on our conversations with the cash traders, as well as based on analyst changes.

MFT: What kind of time frame do you typically operate on?

PK: We’ve had three or four themes in the past year.

MFT: Themes?

PK: Yes — it’s an idea that, fundamentally, has a real dynamic potential. Then, we may trade multiple times within a particular “thematic view.” For example, we’ve had a bullish theme in crude oil for about a year, a bullish theme in ags — particularly corn — since May 2010, and a bullish theme in cotton from around August of last year to March of this year, followed by a very bearish theme in cotton until recently (mid-July).

MFT: Your fund really focuses on spread trading. What advantages do futures spreads offer over taking outright positions?

PK: Calendar spreads are more fundamentally driven. Also, you don’t have the same daily noise that occurs in an outright position.

MFT: Does that mean spreads are better able to reflect the fundamental perspective you have on a market at a given time?

PK: Yes.

MFT: What does your risk-management model consist of?

PK: First, we risk no more than 2 percent of our AUM per primary thematic position. Second, we never have more than three of those themes in our portfolio at a given time, which means the maximum risk we take is 6 percent.

We also make sure the three themes are not correlated. In practice, whenever it goes beyond 1 to 1.5 percent, we’re actively examining our position and our thought process — “Are we right? Are we too early?” — and working to reduce our risk. Of course, some of our trading decisions involve preserving capital and preserving the returns we have, especially late in the month.

MFT: If you’re operating primarily in a discretionary framework, how do you define what’s correlated and what’s not, aside from the markets themselves?

PK: We look at it in terms of a global-macro process. We look at the big players, and what their trades are tied to. The problem in commodities is that everything to a degree is correlated to crude oil, because crude has a huge role in the input cost of many of the commodities we grow and eat. You can’t really get around crude.

As a result, you really have to get the crude picture right to be able to trade the other commodities well. And there’s also that component of the energy sector that is now tied to the ags and softs — ethanol from corn and sugar, biofuel from soybeans. It’s all tied together now.

So, for example, if we have three themes, maybe we’re looking at two themes that are bullish and one that’s bearish. The bearish theme is uncorrelated to the other two, and we try to make sure the two bullish themes are as uncorrelated as possible. You can’t completely avoid a certain degree of correlation, but you can adjust for it in each instance.

MFT: What are the strengths of discretionary trading?

PK: I have a great deal of respect for systematic and trend-following traders, but they can’t compete with a really focused, good, discretionary manager. A discretionary trader is looking forward — he’s anticipating the changes that are going to happen. He can also adjust his trading immediately based on the current market environment and risk factors. As long as the discretionary trader stays focused and disciplined, I don’t think any trend-follower or system can match that trader’s performance — not yet, anyway.

It’s not like chess — the markets are much more complex. There are multiple variable streams, and all these factors and variabilities take turns dominating a market — what may be most important one day may not even be 10th on the list for the week. Computers can’t yet handle those variabilities. Overall, discretionary traders have an edge in terms of anticipation, the ability to react immediately to market conditions, and more flexibility in sizing trades.

Last year we had strong returns in the fund, and this year luckily is on the same pace. I think it’s tied to a couple of things. First, we haven’t been wrong on a fundamental view in quite a while, and that’s because we do our homework, and our years of experience help us determine when something’s “right” or when it’s “funny.” Second, we actively manage our positions, which means even if we’re bullish, if everybody else is in [the market], we’re out, or at least even. And we might even take a short position, contrary to our overall theme, for perhaps two or three days. But in today’s environment, that’s all you need.

MFT: Do you anticipate a relatively high degree of trend in physical commodities in the coming years?

PK: More than trend — I think it’s more accurate to say “a high degree of volatility.” Markets will trend, but because of high speculative participation there will be severe downdrafts like the ones we saw in March, May, and August. To make money, trend traders will have to correctly determine the time frame and volatility levels they should be at — otherwise they’ll be “off cycle” and will have poor returns.

MFT: What do you see yourself offering investors, in terms of managed futures in general and your fund specifically?

PK: Managed futures in general can produce significance alpha. The systematic side of business benefits in the event of major meltdown — that is, those funds are probably going to make you money in those instances. For example, in 2008, a lot of trend-followers made a lot of money. But they need strong trends. Whenever a market idea matures, the trend-followers are not going to do as well because a lot of people are in the market, which makes them vulnerable to sharp downdrafts.

However, if an investor can diversify his holdings among, say, a discretionary fund, a systematic fund, a high-frequency fund, and a trend fund, the overall package can provide pretty good alpha and non-correlation to the overall market.

What we offer is a risk-adjusted return with a much higher alpha than what people can get normally. Our goal with the fund is to return more than 25 percent per year with minimal drawdowns. And I can make money whether the market is going up or down; the only thing I need is a theme and liquidity. We trade enough markets that there are always opportunities.

MFT: How do you set a return goal like that, and how do you go about achieving it?

PK: First, we broaden our trading palette. For example, if you’re just trading grains and there’s nothing going on, you’re not going to make any money no matter how good a trader you are — you’re doing a good job by not losing money. By adding the softs and the energies, you expand the palette and increase your opportunities. The energy market, by the way, is without a doubt the best market in the world — incredible volatility, incredible amplitudes of moves, and highly liquid.

Second, we actively manage positions so downside and drawdowns are minimized. My goal is to make money every month; I don’t like to sit through heavy downdrafts or big swings. Capturing alpha is really about doing research and getting the fundamental view correct. Then, if there’s a great deal of market participation, we have more opportunity. Over the past several years, obviously, our markets changed with the advent of the Goldman Sachs Commodity Index, the GSCI. Once commodities were securitized, it brought a lot of money into the marketplace.

ETFs also changed the markets in recent years, and even more recently commodity mutual funds have been able to attract more capital. The overall increase in participation has really given more experienced traders like me more opportunities.

MFT: Let’s talk about your specific trading approaches. What advantages do futures spreads offer over taking outright positions?

PK: Calendar spreads are more fundamentally driven. Also, you don’t have the same daily noise that occurs in an outright position.

MFT: So is it that spreads are better able to reflect the fundamental perspective you have on a market at a given time?

PK: Yes.

MFT: What are your goals for your company and your fund?

PK: We want to continue to increase our income stream, of course. Along with the LaSalle Fund, I have two funds, and we’re working to bring all the business groups I’m involved with under one roof.

Also, we have a mandate to give away a significant portion of our profits to charity — anywhere from 10 to 50 percent annually. We allocate to various organizations and people we feel are positively impacting the world.

We want to continue to grow and be the best in our class. I still have a hunger for excellence, and competition, and we want our investors to have strong alpha.