After a stellar 2008, the hedge fund strategy is taking a beating. Is it time to bail?

In 2008 few hedge fund strategies performed better than managed futures, which attempt to profit from short-term moves in commodity, currency, and other markets. And in 2009 few have performed worse. Does that mean it's time to bail out on managed futures?

If one looks simply at returns, it might seem so. The category is down 7.8% through the end of July (the most recent data available), according to Altegris Investments, a broker-dealer based in La Jolla, Calif. That's lousy compared with the Standard & Poor's (MHP) 500-stock index's 9.3% gain over the same period—and with the 15.5% return that managed futures posted in the midst of last year's market meltdown. Such stellar performance in 2008 had some proponents calling managed futures "the new diversifier." And while this year's numbers aren't pretty, the fact that the category hasn't moved in lockstep with the market is actually better for your portfolio. "The funds are doing what you'd expect them to do," says Adam Erickson, chief operating officer at Brewer Investment Group, a Chicago wealth management firm. "They're not following the stock market."

The funds' managers, who are also referred to as commodity trading advisers, buy and sell futures contracts in everything from oil and natural gas to currencies and interest rates. They hope to profit from large price moves, up or down, over a few weeks or months, and they usually do so with the help of complicated computer programs that help identify trends. "They're good at capturing large price movements in commodities and currencies," says David Bailin, president of alternative investments at Merrill Lynch Wealth Management (BAC).

But this year has been noticeable for its lack of pronounced—and sustained—market movements. Until it recently spiked above $1,000 an ounce, gold had spent much of the year trading in the 900s. The euro has been stuck in a 6 cents range against the dollar since May. And even when there have been moves—oil's bounce from $45.20 to a recent $71.10 is a good example—they've been sudden, uneven, and short-lived. "There's been talk of double dips and green shoots, inflation and deflation, and plenty of stutter steps and reversals," says Altegris President Jon Sundt, referring to the market's mixed signals. "It's the choppiness of the market that's responsible for the performance."

So investors in managed futures shouldn't expect a smooth ride. Managers often lose small amounts of money as their computer models identify possible trends that fail to materialize. But when the trends do emerge, they can often make up for the losses. In every year since 2000, Altegris' managed futures index has had periods in which it fell 6% or more yet still finished up for the year. Last year's gains came despite a 7% loss during the summer. Says James Shelton, chief investment officer at Kanaly Trust: "The investment itself has a little bit higher volatility than people are aware of." Merrill Lynch says managed futures make up about 2% of its high-net-worth investors' portfolios. Some advisers recommend going as high as 15%.

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