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Opalesque Futures Intelligence
Opalesque Futures Intelligence

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Published by: Opalesque Publications on Mar 30, 2012
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Copyright 2009 © Opalesque Ltd. All Rights Reserved.
Human Capital Advantage
One very noticeable thing about people in hedge funds and other
nancial businesses is how knowledgeable they are. I have to admit tooften being awed by the skills and intelligence one encounters in theindustry. But even by high standards, Roy Niederhoffer is exceptional.There’s his early fascination with computers, resulting in his buildinga computer game business while in high school. Then there’s hisforay into computational neuroscience in college. These skills cametogether in designing high-frequency trading programs. This issue’s
Founding Father
contains his insights about this intriguing but not wellknown strategy. In
Futures Lab
his colleague Susan Roberts – anotherperson who makes one think of the amazing skill level in the industry– documents the distinctive features and advantages of short-termtrading.When you say brain trust, Renaissance Technologies is the name thatprobably rst pops to mind by free association. We have an interestingbit about Renaissance inNews Briefs.Talking with people, it is clear that human capital has to be closelyallied with technology to succeed in something as complicated ashigh-frequency trading. We were lucky to have anInsider TalkwithTrading Technologies’ Tom Haldes and Elise Fleischaker on the two-wayinteraction between automated trading and investment strategies.
Practitioner Viewpointwe drew on a lot of high-end human capitalto get a sense of where commodity markets are going and what itmeans for investors. Who, by the way, have been moving to globalmacro and managed futures strategies—seeIndex Tracker.
Chidem Kurdas
In This Issue
Founding Father Q&A
There are few managers in high-frequency trading and even fewer with a long track record. We are delighted to present insightsfrom Roy Niederhoffer, one of the rare long- time practitioners of this intriguing nichestrategy .................................................... 2
Futures Lab
Susan Roberts of R.G. Niederhoffer Capitalanalyses the distinctive features of short- term trading compared to long-term trendfollowing. What effect do these have on aninvestor’s portfolio? ................................ 5
Insider Talk 
The latest perspective on the two-waystreet between automation and investmentstrategy, from Trading Technologiesexecutives .............................................. 9
News Briefs
Renaissance Technologies, Carbon permitsand more ...............................................13
Practitioner Viewpoint
Several views on the outlook for commodityinvesting, including forecasts from a reportfrom Nouriel Roubini’s RGE .................... 14
Index Tracker 
Asset flows and various indexes .............16
Top Ten
CTAs with the smallest drawdowns ..........17
May 19, 2009
Copyright 2009 © Opalesque Ltd. All Rights Reserved.
May 19, 2009
The High-Frequency Artist
Short-term trading is not easy to understand and we can infer that it is extremely hard to practice, because few people engage in it and evenfewer survive for a long time. We are delighted to present a practitioner with one of the most distinguished and substantial track records in this intriguing niche strategy.R. G. Niederhoffer Capital Management offers hedging in the original sense of protecting investor portfolios in downturns. One trading
program has the specic goal of hedging a portfolio against equity 
market and fund of fund losses. That program returned 55% in 2008.Founder Roy Niederhoffer possesses diverse skills that are seldom found 
in one person. In his ofce there is a wall of computer screens with fast-
changing symbols and numbers, but also two surprising objects: a violinand a piano. He’s been playing since childhood and is a serious enoughmusician to play violin in the Park Avenue Chamber Symphony (www.chambersymphony.com).But music was only one of his youthful interests. He encountered computers as a teen when his brother – Victor, whose ups and downs as a fund manager are well known – asked him to help unpack one of theearly microcomputers. Roy immediately took to the computer. Within a year he wrote a video game, started a computer game business and had his high school friends working for him, creating games.It says something about short-term trading that the strategy brought together Mr. Niederhoffer’s diverse skills. Below he tells us his story and 
discusses the high-frequency approach. In the Futures Lab article that follows, his colleague Susan Roberts compares high-frequency trading to
other strategies and presents evidence.
Roy Niederhoffer
Copyright 2009 © Opalesque Ltd. All Rights Reserved.
May 19, 2009
Opalesque Futures Intelligence: How did you getinto short-term trading?Roy Niederhoffer: I studied computationalneuroscience at Harvard and planned to gointo that eld. But in 1987, my brother Victorinvited me to join him, and from 1987 to 1992I worked for his rm. He was an early innovator
in the high-frequency trading space and trained
a number of successful managers. While I wasthere, I developed computer programs toanalyze high frequency price data and usedthem to develop and test my trading ideas. In1992, I left to start my own rm, with the goalof building an institutional, highly-quantitativeasset management business. I had alreadyrun a successful 30-person computer gamedevelopment business in high school, so I hadsome useful experience being an entrepreneur.OFI: Did your interest in the brain science haveany effect on your career?RN: In time I realized that there is an overlapbetween my interests in neuroscience andin trading. The structure of the brain drivesbehavior, including market behavior, inpredictable ways. Understanding that helped merene my trading approach.OFI: Do those behavioral patterns show up infutures trading?RN: Denitely. My early forays into trading werequite discretionary and not very successful. I fellinto many traps—holding losing trades too long,being emotional about my decisions, lettingrecent experience inuence me too much. Ourstrategy now is based on the idea that becauseof certain cognitive biases hard-wired into thehuman brain, the behavior of market participants,and therefore prices, can be predicted.OFI: How can you predict what people will do?RN: When people are emotional, they revert to
instinctive behavior patterns that result in non-
random price movements. Our research attemptsto identify those situations and capitalize onthem.OFI: For how long a period can you predict?RN: It is much easier to forecast prices in theshort-term than, say, a year from now. We dohave some accuracy at predicting what willhappen in the next hour or day, perhaps out toa week or two. We test rules with hundreds of thousands of individual observations, so we havea moderate-to-high degree of condence in therules that make it all the way through our tradingprocess.OFI: How long do you hold positions?RN: Our trades range from a few minutes toa few weeks in duration, but our “effective”duration is about one or two days. Economicfundamentals tend to be swamped bypsychological factors in the short-term—thereare waves of exuberance or panic that drivemarkets up or down, and we take advantage of that. But psychology can’t swamp fundamentalsindenitely and eventually prices reectfundamentals relatively accurately.OFI: Don’t some trend followers look for similarpatterns?RN: The rationale for our trade entries and exitstend to be different from trend-following, so ourresults are different. We are very comfortabletaking positions opposite “the trend”.OFI: Do you trade the same instruments ascommodity trading advisors?RN: We trade many of the same markets as trendfollowers, but like many short-term traders weare generally more focused on the equity sector.Historically, trend-followers have had greaterallocations to xed income, foreign exchangeand commodities than most short-term traders,who tend to trade a higher percentage of equityindex futures.OFI: Why equities? Foreign exchange marketsmust be liquid enough for short-term trading.RN: Since our strategy attempts to capture theeffects of human emotion on price movements, itstands to reason that it might be more successfulin a sector like equities where there is a higherpercentage of “retail” money, than, say, foreignexchange. But we believe our models should besuccessful in that sector as well.OFI: Why are there so few high-frequencytraders?RN: It is a difcult strategy to get started in.We have maybe a million lines of proprietarycomputer code that we’ve developed over theyears. There are many dead ends and pitfalls—we managed to fall into them particularly inour early years. After 16 years in the business,
“There is ahigh barrierto entry, butthere is aneven higherbarrier tolong-termsurvival inthe high-frequencyspace.”

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