New York-based Millburn Ridgefield Corporation’s longevity and dynamic, evolutionary analytical approach can make it an attractive employer for seasoned quants. Case-in-point: in January 2022, Millburn hired Dr Michael Soss in the newly created role of Deputy Chief Investment Officer, from Point72. Soss, who reports to Millburn co-CEO, Grant Smith, said: “What really drew me to Millburn is the team’s fifty years of success in quantitative investing combined with a drive for constant improvement…”
Commodities have always been a big part of the Millburn story and have developed into a key differentiator for the firm, which has invested in liquid commodity markets since the firm’s inception in 1971. Having systematically traded these markets for over 50 years makes Millburn one of the few that has survived through volatile markets and shifting regimes that have seen multiple generalist and specialist commodity funds shut down after performance setbacks. Millburn has traded through commodity super-cycles dating back to the 1970s, when US dollar depreciation following the breakdown of the Bretton Woods fixed exchange-rate dollar standard system coincided with broad based price inflation in commodities, and in the 1990s and beyond, when China’s modernization drove a wave of demand that kept prices elevated for years. Millburn has also had success trading commodities through extended periods of declining prices, such as 2012-2019. The manager has additionally navigated periods of more choppy, range-bound and sideways price action in commodities. Of course, while Millburn seeks profit, it is also accompanied by the risk of loss.
Commodities is a very large category, and markets within the category can behave quite differently, driven by different inputs…. we take an active approach that treats each market individually.
Barry Goodman, co-CEO, Millburn
Millburn has traded commodities in multi-asset class programs from the start and has also launched dedicated pure play commodity strategies, such as its Commodity Program, which underscores the firm’s belief in the sector. Generally closed to new capital since early 2018, the strategy was most recently recognized as the winner of The Hedge Fund Journal’s award for Best Performer in the Systematic Commodities – Multistrategy Category, based on strong risk-adjusted results in the COVID-stressed year of 2020 (with a net return of +14.21 and a Sharpe ratio of 0.97), and over the prior 2, 3 and 5 years ending in December 2020. Importantly, the correlation of the strategy versus traditional global equity, global fixed income and typical hedge fund strategies over each noted timeframe has been negative, which has added to the attraction in terms of diversifying an investor’s portfolio.
The Commodity Program continues to grow assets organically through performance while a new commodity strategy launched in June 2021, the Resource Opportunities Program (ResOP), managing an extensive suite of traditional and next generation commodity and resource related markets, is open to investors. The global investor base includes existing and new investors, such as sovereign wealth funds in Asia and family offices in the US. And further, for investors looking to capture more beta from a potential super-cycle (while still tactically adjusting exposures across different markets and sectors according to the opportunity set), the long-only Dynamic Commodity Strategy (DCOM), launched around the same time as ResOP, provides another option.
A growing variety of investors are warming to commodities. While Milburn’s belief in the benefits of including commodities in portfolios has remained constant through the decades, a broader range of investors recently appear to be now reaching similar conclusions. Inflation is now expected to be more than transitory, thanks to massive liquidity injections from global central banks, fiscal largesse, and the prospect of extended supply chain disruptions. Infrastructure investment, partly related to green ambitions, is another theme driving demand, while commodities can also act as a hedge against a weaker US dollar. Many investors are focused on these and other macro trends as the world emerges from the fastest, deepest, and broadest economic shock in recent history.
Jeff Currie, Global Head of Commodities Research in the Investment Research Division of Goldman Sachs sees a long bull market ahead. Last year he said: “Not only have oil, metal and agriculture prices rallied year to date, but structural impediments on supply have created sustainable deﬁcits, in our view, giving commodities broad-based positive carry…as we have argued since October last year, we believe this is the beginning of a new structural bull market in commodities, and with every market but cocoa and zinc in a deﬁcit we maintain our conviction in this view”.
Millburn has invested in liquid commodity markets since the firm’s inception in 1971
He also stresses the diversification potential from the asset class, pointing out that: “commodity diversiﬁcation is back as returns have decoupled from other asset classes”. Indeed, there have been several recent episodes when oil and other commodities have provided prima facie diversification: they have delivered double digit gains while bonds and equities sold off precisely on fears of inflation, and rate rises.
While the last decades-long down move in commodities has been dubbed a “lost decade” for long only investors and made it harder to stay invested, the historical non-correlation of the asset class to traditional global equity and bond investments is attractive and has been quite consistent. Now, with equities hitting all-time highs and the potential for a downturn increasingly on investors’ minds, and with bonds offering negative real yields in US Dollars (and negative nominal yields in many currencies) becoming less attractive as a source of income, this non-correlation may be even more important.
And with inflationary fears now moving into mainstream forecasting, it is worth noting that commodities have often historically performed well in such environments, offering a potential hedge for investor portfolios, especially if they are US dollar dominated.
Since commodity prices are set at the margin a small supply/demand imbalance can translate into an outsized move, with strong demand or low supply generally pushing prices higher, all else equal.
When these factors coalesce in a synchronized way, opportunities for violent moves can materialize.
Beyond this classic investment thesis for the asset class, Millburn has also recognized that the commodity space itself is evolving, and has expanded its universe into what they call “resource disruption,” which includes instruments providing exposure to next generation commodities like wind, solar, water, battery technology, cryptocurrencies and more. While trading through exchange-listed futures remains the bedrock of most programs, securities trading is of growing importance to Millburn in terms of accessing to those evolving next generation opportunities for which liquid, exchange traded futures markets may not yet exist.
Next generation commodities can tap into multi-year megatrends driven by policy, regulation and technology. Wind, solar and hydro power are related to the global commitment to decarbonization and there is scope to trade trends based on moving from brown to green, or indeed from “light green” to “dark green” as the distinctions between different energy sources become more nuanced.
If electricity (and perhaps eventually hydrogen) can replace oil and gas for many use cases, that can engender strong trends: “We have an exciting new world of electrification and environmental awareness, which is opening up entire new opportunities to invest, and is creating price trends as a result. We see these investments as providing incredible potential sources of diversification and alpha for our investors,” says Barry Goodman, Millburn’s co-CEO.
Green economics could already be stoking “greenflation” that upends the arguments for long term commodity price deflation: starving some resource producers and explorers of capital, and increasing their costs of capital, has the possibly unintended consequence of choking off supply of traditional energy, and renewable energy cannot yet fill the gap due to issues of seasonality, weather sensitivity and intermittency, and the fact that battery technology is not yet able to store enough electricity. Goodman explains: “There’s the idea that traditional commodity prices have been trending down as technology improves and, for example, it becomes easier (that is, less costly) to extract a barrel of oil from the ground or to mine copper. But there are also potential forces that can run counter to this and, in some cases and potentially for extended periods of time, can result in prices that rise significantly. Decarbonization has meant less investment in the infrastructure needed to extract a barrel of oil, for example. So the fragility of the oil supply has increased, and the potential for price shocks has grown. That is just one example, but it is really this period of incredible transition that we are seeing that we believe has the potential to produce trading opportunities.”
Indeed, a scarcity of capital production and exploration not only increases prices but also adds to volatility. Millburn are not running standalone ESG programs or strategies per se but may be well positioned to profit from extreme trends in some markets, such as record-breaking natural gas prices in Europe and Asia in 2021, and all time high carbon emission prices in 2022. European carbon futures listed on the ICE exchange are one example of a deep and liquid market that fits into Millburn’s programs well.
We believe this is the beginning of a new structural bull market in commodities, and with every market but cocoa and zinc in a deﬁcit we maintain our conviction in this view.
Jeff Currie, Global Head of Commodities Research – Investment Research Division, Goldman Sachs
Though Millburn appreciate the arguments for being broadly constructive on commodity markets, they believe in the importance of staying flexible and nimble in their trading approach. “Even if we believe in the diversification benefits of adding commodity investments to a portfolio, and even if we believe we may be entering into a new phase of growth for commodity markets in general, the experience is unlikely to be singular. Look under the hood of the last super-cycle or examine even the recent surge in commodities more closely. When you do so, it becomes clear that moves have not been uniform. It may be, then, that only a subset of commodities enter into a true super-cycle, while others move only into what might more properly be described as cyclical bull market behaviour. For example, global demand for copper and aluminium, combined with low inventories, may drive true, sustained super-cycle behaviour in those instruments. But other markets may react in different ways. Perhaps crude oil will take a different path. Simply put, commodities is a very large category, and markets within the category can behave quite differently, driven by different inputs,” says Goodman. “This is why we take an active approach that treats each market individually”. In 2021, lithium more than trebled in price and other metals used in electric vehicles posted double digit gains while another base metal – iron ore – saw double digit losses, as did some precious metals including silver and platinum.
Even 2021, arguably an excellent year for commodities, did not always see the most synchronized and uninterrupted rallies. Iron ore saw reversals of more than 50%, and even the largest commodity markets such as crude oil experienced pullbacks of the order of 30% in a few weeks, with both realized and implied volatility reaching extreme levels.
As a result the bottom-up tactical approach resonates with investors who are contemplating how to take advantage of the tailwinds of a potential commodity super-cycle, in both traditional and “next gen” markets, while allowing for the possibility that different commodities will likely move up in fits and starts, on different timeframes, and with different factors of influence.
Millburn addresses these challenges with its typical approach to all asset classes: diversify among as many markets as possible, include inputs into its models that are believed to pick up on sustainable market moves, and control risk both systematically and through constant monitoring. In sum, it is a machine and human approach that uses technology but always in the framework of what the firm believes are sound money-management principles.
The models also adapt to the unique features of commodity markets. As an example, term structure tends to be especially important for commodity markets, because the forward curve shape can significantly contribute to, or detract from, returns.
Millburn has synthesised decades of experience and evolved into an eclectic approach that uses a variety of fundamental and technical data inputs, acknowledging that market dynamics are driven not only by supply and demand but also by behavioural factors and investor sentiment. These models are positioned to potentially capitalise on the coming megatrends in certain commodities and resource-related markets, while also heeding the need for risk controls in relation to diversification, volatility and downside controls, and aiming to generate the attractive risk-adjusted returns that have secured its performance awards.