Factor Crowding in Commodity Futures

Can investors detect when commodity futures momentum, value and carry (basis) strategies are crowded and therefore likely to generate relatively weak returns? In the March 2021 version of their paper entitled “Crowding and Factor Returns”, Wenjin Kang, Geert Rouwenhorst and Ke Tang examine how crowding by commodity futures traders affects expected returns for momentum, value and basis strategies. They define commodity-level crowding based on excess speculative pressure, measured for each commodity as the deviation of non-commercial trader net position (long minus short) from its 3-year average, scaled by open interest. They calculate crowding for a long-short strategy portfolio as the average of commodity-level crowding metrics of long positions minus the average of commodity-level crowding metrics for short positions, divided by two. They specify strategy portfolios as follows:

• Momentum – each week long (short) the equally weighted 13 commodities with the highest (lowest) past 1-year returns as of the prior week.
• Value – each week long (short) the equally weighted 13 commodities with the highest (lowest) ratios of last-week nearest futures price to nearest futures price three years ago.
• Basis – each week long (short) the equally weighted 13 commodities with the highest (lowest) basis, measured as percentage price difference between nearest and next maturity contracts as of the prior week.

For each strategy, they measure effects of crowding by measuring returns separately when strategy crowding is above or below its rolling 3-year average. Using weekly (Tuesday close) investor position data published by the Commodity Futures Trading Commission (CFTC) for 26 commodities traded on North American exchanges during January 1993 through December 2019, they find that:

(more…)