New Strategy Seeks 'True' Downside Protection
TruColor Capital Management LLC has developed a volatility management strategy designed to limit risk in down markets, and outperform across the market cycle.
Called Tactical Volatility Rotation, the system depends more on analyzing volatility-related signals to determine market downturns rather than on other factors, according to TruColor.
Managing volatility has become a critical issue for high-net-worth investors and institutions, many of whom have been rocked by the up-and-down market in recent years. However, according to Boston-based TruColor, many systems designed to smooth out the market's peaks and valleys do not actually do so.
TVR is designed to address that problem by focusing on volatility and behavior of markets using different criteria than most other strategies, said Michael Dunn, chief research officer of TruColor.
Most strategies are based on the assumption that markets act in a symmetrical manner, similar to a bell curve, with the extreme ups and downs rare and equal, according to TruColor. TVR assumes the extremes are more likely to occur and that the ups and downs are not symmetrical, with downs being more pronounced.
TruColor is a hedge fund investment firm that offers high-net-worth and institutional clients access to equity markets in emerging countries. The company says it aims to improve returns and capital preservation for its clients through the use of proprietary risk management and risk prediction techniques.
"Volatility in emerging markets scares off some investors who then miss out on the returns that can be earned in these markets," Dunn said. But by using certain signals, the investor can reap the benefits while limiting the downside, he said.
"We abandon the assumption that there is a symmetrical distribution on the up side and down side of the market," he said.
The more realistic assumption is that the downside tail of the market is going to be more significant than the upside. If you look at the volatility patterns in emerging markets, you can get a sense for when to move to safer investments, maybe even selling short, he said. When the volatility patterns indicate the market is more likely to move up, investors can move to riskier investments, maybe even leveraging or borrowing to buy more.
A white paper by TruColor, entitled, Managed Volatility Strategies: Which Flavor is Right for You?, compares TVR strategy with other strategies, such as fundamental weighting of assets or scaling all assets to contribute equally to risk. The white paper concludes that strategies are not mutually exclusive and can be combined.
-Karen DeMasters
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