Princeton Investments and Technologies, LLC : Commodity Arbitrage Program

Summary

The Commodity Arbitrage Program grew out of our company's principals' proprietary trading since 2003 as well as our collective rich quantitative modeling experiences. The program uses statistical methods to identify trading opportunities in commodity calendar spread markets. (Calendar spreads are pairs of future contracts of same commodity but with different futures expirations. An example of a calendar spread for WTI crude oil would be long December 2018 WTI crude oil while at the same time short November 2018 WTI crude oil contract). In general we do not trade the directional underlying commodity market unless we have strong signals with conservative risk limits.

The program currently trades futures contracts in Natural Gas, Crude Oil, Gasoline, Heating Oil, Live Cattle, Lean Hogs, Wheat and Corn.

Investment Strategy

Aggregated behavior of market participants ultimately drives the calendar spread prices, certain consistent market behavior can emerge, for example seasonality. For example, because October is usually warmer than December, the natural gas price difference between October and December is usually negative. The spread price reflects also the commodity inventory. If the October supply is tight, natural gas October and December price difference can be dramatically positive.

We use statistics methods and our specific calendar spread market knowledge to dissect closely the spread price behavior including seasonality, and design entry and exit to capitalize on these patterns.

Once individual commodity pair signals are generated, we construct a near-optimal portfolio using modern portfolio theory. One key aspect of the portfolio construction is that the risky or volatile pairs get proportionally lower portfolio weight.
v We execute our entry and exit orders according to the prevailing market conditions using our proprietary execution algorithms.

Risk Management

Risk management is essential to capital growth and long-term investment success. It is a cornerstone of the trading program since its inception.

We implement stringent risk management from several aspects.

1. We have an overall portfolio level stop-loss: If the drawdown reaches the backtest maximum of about 8%, the entire portfolio is programmed to stop-loss.
2. We use low leverage: The utilized margin is usually under 10% of the portfolio margin allowed by futures brokers.
3. We trade calendar spreads of many different commodities: The portfolio weight of each position is inversely proportional to its volatility, thus volatile calendar spreads get lower weight.
4. We trade only liquid spread markets so that our risk control can actually be achieved if necessary.