CTA stands for Commodity Trading Advisor. A CTA is basically a trader, and could be one person or a group of people. Usually, a CTA is organized in some business format (LLC, Corp, etc.). There are several key items that separate a CTA from other formats of trading in our futures / commodities world.
CTAs have what is a called a “Disclosure Document” that is available to the public, and is similar to a prospectus. It details information about the CTA, the trading style or strategy, markets traded, if options are used, starting minimums, performance data, etc. CTAs typically always post ACTUAL trading results, not hypothetical. The results are after any and all fees, an average of all accounts on their trading program.
First, the trading advisor trades via Power of Attorney (POA). When you sign up for their program, you sign a power of attorney form that gives the trader discretion to trade your account along with all they others they trade. Normally, unless it is a pool (a CPO is a Commodity Pool Operator), you’ll have your own account, and the traded contracts are traded right in your very own account, not co-mingled with anyone else’s trades.
A CTA program has three types of fees that can be charged typically. There is a commission charge for the actual trade execution (normally, the CTA doesn’t participate in commissions), a management fee, and an incentive fee. The management fee is often anywhere from 0% to 2% annually, sometimes billed monthly or quarterly. It is a percentage of the asset value in the account. So if you had a $10,000 account, a 1% management fee might charge $8.33/month ($10,000*.01/12). The CTA primarily makes their money by charging a % of new net profits. This is the “incentive” the trader has to make money for the client. If the trading goes well, the CTA stands to make A LOT of money, and of course we like that because we want the clients to make money. The incentive fee is only charged on NEW net profits, net meaning after prior incentive fees have been deducted. So if one month the CTA makes $100, and the second month loses $200, he/she would have to make at least another $100 before any incentve fee could be charged.
Notional Funds: Some CTAs will allow what is called “notional funding”. This would be described in detail in the Disclosure Document, but here is an example of how it works. We have a CTA we work with called Clarke Capital. As of this email, they have a 13 year track record, and a $50,000 minimum account size. However, because the average margin requirement for the type of trading they do is only about $18,000 on average, they will allow clients to open with only $25,000 in their account but trade the account AS THOUGH it were $50,000 (this would be considered 50% notional funding). There is two reasons to do this: 1) if you cannot afford the $50,000 minimum but still want to participate in the program, 2) if you are comfortable with the track record and simply want to trade their program more aggressively. So, for example, you could trade starting with $100,000 but actually trade 50% notional and the CTA would trade it like a $200,000 account. If you go this route, you would need to double all the profits AND losses on their track record. Example: you have $25000 in your account, and they are trading it like $50,000. if they make $1000, that is a 2% return.. but it would be a 4% return on your account ($25,000 / $1000).
Managed Futures programs such as these can be an excellent diversification for your investment portfolio. We recommend taking a look at an information brochure put out by the Chicago Board of Trade.
This is a starting point on CTAs. They are all different. Some have very good returns, but also very large drawdowns. We recommend CTA’s that have a good profit-to-drawdown ratio, and have a reasonably high Sharpe ratio. For more discussion on this topic please contact us.