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Still having trouble getting a handle on the ins-and-outs of managed futures? You're not alone. We turned to Jon Sundt, president of Altegris Investments, to help us sort it all out. Sundt has more than 23 years of experience in the alternative investment industry, so we figure he knows what he's talking about.

1). What are managed futures, and why are they an asset class that advisors should be aware of?

The managed futures space refers to professional money managers, known as Commodity Trading Advisors, who use proprietary trading systems to invest in futures and options contracts. Today, it's becoming more important for wealth advisors to understand managed futures and their potential role as a key component in a diversified portfolio. Investment managers in managed futures have the ability to gain exposure to all four major asset classes: equities, fixed income, commodities, and currencies, across more than 150 futures markets worldwide. This diversification means that some managers can potentially profit from both positive and negative developments in multiple markets at once.

2). Are there other unique features of managed futures investments?

Managed futures offer investors access to highly liquid global investments, a critical factor in today's investment environment. Highly fluid futures exchanges provide central clearing mechanisms along with daily liquidity for most markets. This may offer investors the benefit of reduced counterparty risk and allows a CTA to respond rapidly to changing conditions, which may help limit losses and protect profits. Managed futures as an asset class also may offer a number of other potential advantages over traditional asset management, including more flexible investment time frames and historically low correlation to traditional assets -- including equities, real estate, emerging markets and bonds.

3). Why is interest in managed futures increasing today?

In 2008, during a time of extreme volatility for equity markets, many traditional asset classes suffered their steepest declines in decades, while managed futures, as an asset class, measured by the Altegris 40 Index, delivered positive returns of more than 15%.

If you compare managed futures returns to other major market indices from 1990 to 2009, managed futures, as measured by the Altegris 40 Index, returned an impressive 476.24% in total return, second only to hedge funds among the major asset classes. The Altegris 40 Index tracks the performance of the 40 leading managed futures programs that report their returns to Altegris, based on ending monthly equity for the previous month.

I think the interest comes from investors exploring investment options that have the potential to profit in up or down markets, especially given the performance of traditional asset classes during the credit crisis, although as we all know, there can be no assurance of profit with any investment strategy. Managers in managed futures typically utilize directional trading strategies with the aim of capturing profits over the short-, medium-, and long-term in both up and down markets, a concept that's appealing in the wake of 2008. Contributing to this is the fact that managers can also trade both the "long" and "short" sides of the market depending on their interpretation of fundamental and/or technical market data.

4). How do managed futures compare with stocks, in terms of performance and returns?

Over the past two decades, managed futures have outperformed equity markets as measured by market indices. Comparing the historical indices, managed futures, represented by the Altegris 40 Index, have returned 9.5% annualized (through 12/09) while U.S. equities (as measured on a total return basis by the S&P 500 TR Index) returned 8.21% annualized for the same time period.

From a portfolio perspective, managed futures have historically outperformed equities during periods of substantial loss in the equities markets while experiencing limited losses during periods of equities strength. While there is no guarantee that this performance will continue in the future, or that any specific CTA's strategy or program will be profitable, managed futures in our view can represent a potential portfolio diversifier against equity exposure for appropriate investors.

5). What is the overall role that managed futures should or can play in a portfolio?

Managed futures can be a critical portfolio asset for suitable investors. Based upon historical analysis, they can improve the overall risk-adjusted return profile for the average investor. Over the long term, managed futures have proven their resilience and diversification benefits for many investors.

Most investors have a broad asset allocation with a heavy weighting in traditional asset classes including stocks and bonds. Research and history have shown that it is desirable to invest in multiple asset classes, particularly ones with little correlation to existing investments. This can be a critical factor in attaining a well-diversified portfolio.

Over the past 20 years, managed futures have demonstrated low historical correlation with investments in emerging markets, real estate, commodities and even bonds and hedge funds. Similarly, managed futures have consistently shown low or even negative historical correlations to traditional, core equity investments. With all six of these major asset classes combined in an equally weighted portfolio, managed futures averaged near-zero historical correlations to the portfolio, over the past three, five, 10, and 20-year time frames.

6). What about the risk of managed futures compared with that of stocks?

On a long-term basis, the U.S. equity market (S&P500TR Index) returned a respectable 8.21% annualized for the past 20 years, which might lead some to believe that allocating to the equity market was a stable selection. Yet there was quite a bit of volatility in the equity market during this period - the tech bubble, wars in the Middle East, the housing market collapse, the credit crisis - resulting in significant drawdowns.

The worst drawdown from 1990 to 2009 maxed out at nearly -51% for US equities. This means, if a client had invested in the S&P in October `07, the credit crisis erased more than half of the principal. Despite the impressive gains in equity markets since the bottom in February `09, equities have recovered only half these losses.

In contrast, over the past twenty years, the worst drawdown for managed futures was -15%, back in April 1992, which was followed by recovery within 4 months. Over the past ten years, returns from managed futures averaged 7.34% per year, while equity markets are still underwater today.

Bonds were the only major asset class that had a relatively low drawdown of -5.15%, though on a total return basis, managed futures outperformed bonds with annualized returns of 9.5% over 20 years.

7). How do managed futures compare to other asset classes such as hedge funds, commodities, real estate, etc.?

Taking into account the returns and the corresponding level of risk, we believe managed futures can represent a better risk-adjusted return than hedge funds, emerging market equities, real estate securities and commodities for suitable investors.

Managed futures rank among the top three best-performing asset classes over the past 20-year time frame, as well as during shorter durations of three-, five-, and ten-year periods. Comparing annual asset class performance between 1990 and 2009, managed futures have delivered investors positive returns in 18 out of 20 calendar years.

8). What challenges do advisors face in investing in managed futures for clients?

There are thousands of options available to investment advisors today. Having the time and ability to filter through these choices is no easy task. Selecting the right CTA to meet an advisor's client needs requires specialized expertise and focused resources. Many investment advisors outsource some of this responsibility in order to focus on the fundamental elements of wealth management and maintaining quality client relationships.

In addition, managed futures strategies aren't without some degree of risk and volatility. This makes selecting the right managed futures program in relation to your client's investment objectives and risk tolerance even more important. Advisors may not always have the dedicated resources to rigorously identify, analyze, qualify and evaluate the universe of managed futures investment alternatives and associated risk. That is a major benefit of outsourcing this work to a third party - confidence that the requisite ongoing due diligence and monitoring of managed futures strategies is performed.

9). Are all managed futures "created equal"?

The success of a particular managed futures strategy is tied to the investment talent and strategy applied by the CTA executing the strategy, whether on behalf of a managed futures fund or a client separate account. Managers can focus on short-, medium- or long-term time frames, as well as specialize in particular markets or types of instruments. This translates into a wide palette of managed futures choices, each with unique historical risk/return profiles. Depending upon the client's investment objectives, two or more managed futures programs can often be complementary in achieving optimal portfolio design.

10). Are managed futures right for every type of investor?

Managed futures are a viable alternative investment vehicle for sophisticated investors who have a clear understanding of managed futures, meet the investor qualification and suitability requirements of a particular investment option and are financially able to bear the risks inherent in trading managed futures. Generally, as with all investments, the investor must have the required investment capital, realistic expectations about returns on a managed futures investment and tolerance to a certain level of drawdowns, or peak-to-trough declines in performance. That is why it is important to work with a professional adviser who has done the appropriate research and has the resources to monitor these funds. It is also imperative that investors ask a lot of questions to ensure that managed futures meet their investment objectives and level of risk tolerance.

11). In what type(s) of market environments do managed futures perform best?

Managed futures can potentially profit in an up or down market, in part due to the wide variety of trading strategies employed by CTAs. The truth is that different managers' use varying formulas to generate returns and this variety can produce potentially attractive returns in both bull and bear markets, depending on the strategy. But, as with investing in general, it's important to look at the performance of managed futures on a longer time frame rather than purely short-term swings. After a terrific year for managed futures in 2008 (up 15.47%), 2009 was a difficult year for the asset class (down -7.98%). Over the long term, we believe managed futures have proven their resilience and diversification benefits.

12). How do you see the managed futures space evolving in the future?

While it's not possible to predict future performance based on past performance, we do believe that managed futures will remain an important investing tool into the future because of their historically low correlation to stocks and potential return stream. Institutional and individual investors are becoming increasingly interested in alternative investment products, which will likely make it essential that advisors become more knowledgeable about the alternatives available to them, including managed futures.