Hello Forum, I have been infrequently visiting WSO for quite some time, mostly asking questions, while me and my team were working on our system. Currently we are rolling out our system, having [quite unintentionally, I should say] :) stress-tested it during the rollercoaster of the last couple weeks. It was quite pleasant to see that it generated positive returns on both up and down days, keeping the win ratio between 57% and 85% (knock on wood ...). Currently the system trades index futures, mostly ES, but I was told by someone, that to properly scale it up and to become interesting for large HFs, we wold do better, if we switch to trading ETFs, as trading futures (CTA-type of operations) is less popular among HFs, than trading index or equity ETFs.
Given that our system is pretty much agnostic regarding what it trades (it needs only FIX-compatible data streams), switching to ETF will not be technically challenging. So the question that I have is this: does medium and large HFs look more favorably, in general, at trading ETFs than trading the index futures? Thank you. Cheers!
Based on the most helpful WSO content, the preference between trading index futures and ETFs can depend on several factors, including the type of hedge fund, its strategy, and operational considerations:
Liquidity and Scalability:
Regulatory and Operational Preferences:
Investor Perception:
Strategy Alignment:
Cost Considerations:
In summary, while index futures like ES are highly efficient for trading and widely used by systematic funds, ETFs might be more appealing to medium and large hedge funds due to their scalability, transparency, and alignment with broader investment mandates. If your system can seamlessly switch to ETFs without losing its edge, it could make your strategy more attractive to a wider range of hedge funds.
Sources: Explain to me like I'm a 12 year old the benefit of a hedge fund, Q&A: First year macro hedge fund analyst, Good time for a new analyst to join L/S hedge fund?, Will L/S Hedge Funds Be Around In 10 Years?, Is there a future for non-quant hedge funds?
converting into ETFs will do nothing for you. cash equities is certainly more popular but on the single stock level- if you are only trading macro asset classes that are cheaper and more efficient to trade as futures, funds will generally view you even less seriously than what your description merits, if you are not using futures
it sounds like you don't trade many assets, which is your largest problem. most CTAs will be diversified into hundreds of bets, it is really hard to have enough edge in a small number of instruments to build a successful systematic track. your live performance is probably luck, or taking a tail risk you don't know about. I would focus on increasing the number of futures you trade.
Thank you, PM in HF. Very much appreciate your comment. Your comments to my previous post related to risk assessment, which I posted several months ago, helped me to rethink some approaches, and now, I see that both branches of my strategy (more riskier, and less riskier) have positive skew (~2.5) and positive average ($ per transaction). Your comment helped me to update my performance metrics, which is very helpful. Thank you.
Your current comment raised couple issues, so I will try to address them briefly here, although I would greatly appreciate if there may be a possibility to continue this conversation as private messages exchange.
Back to the issues you mentioned. You are correct that we trade a small number of instruments, but this is only because we have just rolled out our platform 2 months ago (Feb, 18th, to be precise), with the intent to increase the number of instruments as we progress. Fortunately, the first weeks of April, helped to "stress test" the platform in the real time, and to be frank, I am not disappointed with the results.
The thought of switching to ETF, came from a person form the industry, who mentioned that ETF's are more popular, but also that clients of the hedge funds are more inclined to fund the strategies, that clients do understand. The thought was that given the perceived complexity of the futures (which is true to some extent), and the additional licensing requirements (CFTC), less clients would be willing to allocate to the "pure" futures-based strategies.
Thus, currently I am contemplating if it does make sense to switch to ETFs, or to develop a "mixed" strategy, which would work with both futures and ETFs. The point is that my platform, to the major extent, is "agnostic" regarding the traded instrument(s), as it works at the microstructure signals level (without going into the HFT-type execution). Thus, as long as the instruments are traded on the regNMS-, or MiFID-regulated exchanges/bourses, my platform can "decipher" their behavior.
In a nutshell, as you see form my user name, I am a theoretical physicist, thus my knowledge of the "HF world" is either very limited, or non-existent ;) But like solving complex problems, and the market keeps providing the proverbial "food for thought" in abundance ;) I would be very grateful, if there might be a possibility to discuss this, and possibly other questions that I have, in more details. Happy Easter!
Helping because I was once in a similar situation & realize the questions I was asking back then might have sounded similar (I have a pure math background from a top program and initially knew nothing about finance). Some pointers:
I am not trying to be harsh for the sake of it, but rather to help you find the knowledge to succeed in this industry faster. I have no clue what your background in physics is, and you could definitely have many of the important ingredients to succeed in this field, but are likely missing a number of critical gaps. My advice is keep at it and build a longer track (you will learn a lot along the journey :), and the obvious forms of feedback are: focus on trying to expand the number of instruments you trade, trading futures vs. ETFs will make no difference, and be careful not to over-market until you really know what you are doing. Cheers!
From my experience, futures are way more popular, especially for the main indices
On a few very specific indices, a HF may trade ETFs because the future is less liquid
In a HF setup, ETFs are more painful to trade:
- you need to set up an agreement with a bank to take leverage and being able to short ETFs. A lot of paperwork/legal/compliance/fees négociation. Even though if u join a big HF, they will be already set up, but could be a red flag at a smaller HF. Still overall more fees than on a future
- more cash usage: the bank will probably ask for a higher initial margin than the future's clearing house. Again HF try to reduce the cash needed to deploy your strategy
- finally counterparty risk: you trade ETFs vs the bank so for risk/compliance there is a counterparty risk. For future there is a clearing house so no counterparty risk
Thank you. The liquidity of the ETFs was certainly one of my concerns, as I saw that the ETF's, unless we talk about smth really big like SPY, are less liquid. It was one of the reasons why I selected futures as the starting point. If we assume that I do not plan to completely switch to ETFs, and maintain the presence in the futures space, then, I have couple additional questions, if I may. First, from your experience, what would be a good composition of the futures portfolio to start with? Besides the ES and NQ, with which I am a "bit familiar", I was also thinking about several EU index futures like the futures on DAX and STOXX (maybe CAC40). Based on your experience, what other liquid futures would you suggest? I also have couple observations regarding the "response" I see when I send a Fill-Or-Kill mini-ES order (CQG variant of the Immediate-Or-Cancel order) for even a very small number of contracts. Long story short, I see that my orders often times generate an "adverse" movement by 1 or even more large points. These moves usually do not last long, and "thermalize" back to the starting point, and or even move where I want them to go, but sometimes, when the immediate jump is for more than 2 large points (which happened more times than I want ;)), it "messes" with my risk control module. I have a decent understanding of what the HFTs are capable of, with the queue jumping, while using the "unprotected quotations", but still, with top-of-the book for ES being at about 3 mil or higher, I am surprised that 2-5 ES orders can move the instrument. Does it have to do with certain flags, assigned (or NOT assigned) to my orders? thank you. Cheers!
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