Evaluating Risk from an Investor's Perspective

Investors should understand that there are risks associated with trading futures and options on futures. The Commodity Futures Trading Commission (CFTC) requires that prospective customers be provided with risk-disclosure statements which should be carefully reviewed. Past performance is not necessarily an indicator of future results.

Potential investors will want to become familiar with industry definitions for evaluating the risk-return element of managed futures performance. The following equations, with some variations, are often used.

Measure of Volatility
Standard Deviation: The dispersion (distance) of observations (performance data) from the mean (or average) observation. This measure is often expressed as a percentage on an annualized basis.

Measure of Capital Loss
Largest Cumulative Decline or Maximum Drawdown: The largest cumulative percentage (peak-to-valley) decline in capital of a trading account or portfolio. This measure of risk identifies the worst-case scenario for a managed futures investment within a given time period.

Measure of Risk-Adjusted Return
Sharpe Ratio: A ratio that represents a rate of return adjusted for risk, calculated as follows: Annualized rate of return – Risk-fee Rate of return Annualized standard deviation