October Market Outlook | September & August Performance Review

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IN REVIEW | August & September ROE Capital Performance
I apologize for the lack of a September newsletter (reviewing August performance). I was traveling at the end of August and for much of September and was unable to produce one.

The equity markets have been of two minds in 2010: rally on recovery and record profits or panic on sovereign solvency and fear of removal of central bank liquidity. The speed and strength of the price movement has been reflected in my results. When I have been caught long on the panic declines, my results have suffered. When price movement favors the long, I have soared. When I have been exposed on the short side to the rumor of central bank intervention, I have eaten crow. When my short positions line up with investor fear, I have benefited. There has been very little middle ground. The end result is that I have had substantial month to month volatility in my programs, which can also be seen in the major averages. The psychological profile of 2010 equity markets is a violently fractured one, a Dr. Jekyll and Mr. Hyde split personality—and it has been anyone’s guess as to who will show up in a given day. As a result, it has been difficult to build on a string of gains.

In August, my systems were exposed to the long side when the market chose to focus on evidence that the recovery is faltering. As a result, we gave back recent gains and posted our biggest losing month end result of the year (for Jefferson and nearly so for Monticello). The waning weeks of August mirrored the waning weeks of May, as one poorly timed buy haunted me through the end of the month. We met September’s rally with much more time in cash, finding favorable trading setups in the margins of the strong rally in equities.

A year over year comparison of monthly returns shows how difficult things have been. In 2009, my Monticello program had 3 months in which we experienced a percentage gain or loss of over 4% or more (2 winners and 1 loser). In 2010, 6 of 8 months have posted gains or losses of 4% or more (3 winners, 3 losers). For my Jefferson program, 2010 has produced 3 months gaining or losing 3% or more versus just one in 2009. The story of 2010 has been fierce back and forth, with no trend or stable range-bound market in which to find profitable trades. In short, it has been a very difficult year to trade. While I am pleased to be on the ‘happy side of par’ for the year, my performance numbers are not to my liking.

However, there is much with which to be pleased. My programs’ recovery from drawdown lows has been quick. My systems squared off with several waterfall decline periods and whipsaw recoveries and have managed to gain for the year. Year to date, one program has returned twice the S&P 500, while the other lags closely behind. Conversely, there is much with which to be disappointed. My performance is below where I would like it to be—it is not good enough simply to be slightly ahead or behind the S&P 500. New equity highs have been brief, too far between and difficult to recapture.

As we enter the final quarter of the year, I am hopeful as the macro conditions appear to be favoring my algorithms. Trade set-ups which have plagued my results this year are returning to profitability. Overnight ranges are contracting and intraday ranges are expanding. This can mean good things for my trading. We will endeavor to make the fourth and final quarter of a seesaw year a profitable one.

IN FOCUS | October Market Outlook
In my August market commentary, I speculated that equity markets would form a top and sell off. This indeed was the case, as macro conditions punished the markets through the last week of that month. Almost on cue, however, market pundits trotted out something called “The Hindenburg Omen.” This clumsily named market indicator was purported to be “behind” every market crash since 1928, though on closer inspection it is less accurate in predicting crashes than flipping the quarter in my pocket. Even still it made the rounds on CNBC, blogs and even a few serious financial news outlets. Analysts began predicting 20% declines in equities by the end of September. The end was nigh…again.

On the first of September, the market bought a ticket on the Hindenburg and reversed, recapturing August’s decline and sending the market back toward the 1150 level it sought at the end of July. The Dow posted its best September in 70 years. This is in keeping with my contrarian view of equity markets—that when the short term focus of the market moves prices and sentiment too far in a given direction, prices are bound to reverse. It is also in keeping with the story of US equity markets in 2010. When the markets focus on macro conditions, a panic sell-off ensues. When the market keys in on central bank intervention or corporate profits, we go back to “climbing the wall of worry” and rally, but where are we ultimately headed?

There are still strong headwinds facing equity pricing. Two of the largest components of GDP (real estate and health care) face regulatory uncertainty via Dodd-Frank and Obamacare. Consumer spending is under pressure. Rising commodity prices are inflating non-durable goods prices like food, which will grab a larger share of consumers’ disposable income, reigning in consumption. Consumption will be further constrained by unemployment and tax increases looming in 2011. Private sector investment is still being crowded out by government and Western sovereign solvency remains a heavy counterweight to growth.

Yet, equity markets are grinding out higher prices. Companies continue to reign in cost structures and post near record profits on less revenue. Stocks remain cheap to cash (and almost anything else) and the global reach of blue chips ensures that meager US growth does not impact the bottom line the way it used to. The market could absorb even a disastrous September employment report. QE1 never stopped (see POMOs), QE2 is coming in some form (to stave off the brewing foreclosure crisis) and it will serve to further inflate asset prices and weaken the dollar. And as I have noted many times, if money is cheap (or in the current environment practically free)—why not borrow it and buy anything (especially commodities)?

The market seems bound to climb higher into the November election. After the post-election FOMC announcement, we will sell off a little but we should continue our march higher from that pullback. Though the economic picture in the US has stalled or declined, the market has decoupled from the US economy. Stocks will move higher, while higher commodity prices continue to squeeze the consumer.

In my 2010 outlook, I argued that equity markets were exhausted and would “struggle throughout the year.” This was based on my reasoning that “a crisis of public debt could expose the central structural problems in the US economy.” I postulated equities would move lower throughout the year. As a result of continued central bank intervention, even in the face of a change of power in Congress, I now believe that the fourth quarter of 2010 will be positive and equity markets will close higher for the year. Bernanke has punted a reckoning with the ‘new normal’ into 2011.


John L. Roe
ROE Capital Management, Inc.

PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS. An investment with ROE Capital Management is speculative, involves a high degree of risk and is designed only for sophisticated investors who are able to bear the loss of more than their entire investment. Read and examine the disclosure document before seeking ROE Capital Management’s services.

ROE Capital Management, Inc. | 125 South Wacker Drive | Suite 300 | Chicago, IL 60606312-436-1782, office | 312-212-4073, fax | info@roecapital.com | http://www.roecapital.com

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August 2010 Market Outlook & July Performance Review

IN REVIEW | July ROE Capital Performance

After stumbling a little the first week of the month, both programs gained a solid footing and began a run toward their highs of the year. In the last week of the month, the surge over 1100 and subsequent profit-taking move in the S&P gave us the trading setups needed to post new highs for Monticello and come close in Jefferson.

With one program out of its April–July drawdown and the other close to a new high, it is instructive to consider the risks associated with my programs. This drawdown was completely within what I have come to expect from my models. On an annual basis, we can expect a drawdown of at least 10%. It is uncomfortable, but it is a reality. Deeper drawdowns of 15% or more can be expected every 18 to 36 months. They are an unfortunate component of my programs. However, without these periods, the gains would not be attainable. If I were able to predict when the drawdowns are due, I would certainly step out of the way.

It is also instructive to see how we compared to our peers during this period. The low of the most recent drawdown occurred in May. At the close of May, both programs were still ranked in the top 20 by compound annual return for stock index CTAs on BarclayHedge.com. Of those top 20, all but 2 had deeper drawdowns than either Roe Capital program. With our June recovery, both of our programs return to the top 10 of stock index CTAs, as ranked by 12 month compound annual return. It is my opinion that given our July performance, we are likely to remain on that list for July (once all of our peers report their results). At their worst so far this year, both programs still remain ranked high amongst their peers, as measured by compound return and by risk. I am hopeful they will lead my peers if we climb to new highs.

Nonetheless, we shed some of our new clients in May and lost more funds under management to nervous redemptions. Given the market environment at the time, much of that is understandable. It underscores the importance, however, of being able to withstand losses in a managed futures program. While the market environment was frantic in May, it is nothing we have not seen before (as in the fall 2008). The drawdown was completely within what I have argued is my expectation for these trading models. We will certainly go through it again, perhaps even to a greater degree. But if one is not prepared to weather such a period, managed futures is not the asset class for that investor.

IN FOCUS | August Market Outlook
At the end of June, I shared my fear that the ephemeral summertime/oversold rally had not yet appeared in equity markets. In July, it showed up with a vengeance. Instead of testing support at the 950 level, the S&P surged over 10% peak-to-valley intra-month. As I noted last month, when you hear the cheerleaders on the boob-tube forecasting doom, invoking ‘black swans’ and ‘death crosses,’ it is indeed time to buy with both hands, both feet and anything else you throw into the fray.

However, last month I invoked Sir Templeton’s famous warning that “this time is different.” Do not be fooled by the summertime low volume mischief in the market. The situation has not fundamentally changed. The economic data is still very bleak and getting worse with every release, despite unbelievable spin from the usual suspects. A reminder of the highlights:

  • New Home Sales for May were revised down to a 36.7% decline (the worst on record) and June’s decline is the second worst month on record, yet the wise guys (see boob-tube cheerleaders above) applaud the better than expected month over month results—which are only better because of the downward revision in May! Obviously, this is due to the expiry of the new homebuyer tax credit. When will the Keynesian politicians learn that when you artificially spike demand, you create bubbles and crashes, and, worse yet, rob growth from future quarters. The examples are too numerous to list.
  • To the point of robbing from future quarters of growth, second quarter GDP came in at its slowest pace in a year. It was dragged lower by deficits, low private sector growth and less consumer spending. It was also artificially buoyed by a 4.4% increase in government spending. First quarter QDP was revised higher, but inventory growth accounted for most of the gain. The depth of the recession was revealed to be more extreme than previously thought, with lower revisions for 2007, 2008 and 2009—and the pundits go back to cheerleading corporate earnings.
  • Most companies boasting better than expected earnings were produced on worse than expected revenue, meaning reducing costs accounts for the gains, not growth. And yet, the cheerleaders hail an expanding economy.
  • Durable Goods Orders declined 1.0% (+1.0% expected) and again the analysts talk about earnings mitigating the obvious slow down in manufacturing.
  • The European bank stress tests used dubious standards for evaluation, ignoring where most sovereign debt exposure lies. Yet, the low failure rate leads analysts to claim a quick and painless end to the sovereign debt crisis.
  • The Fed’s Beige Book discusses US economic recovery slowing and the analysts say this is good because it means the return of quantitative easing.

We have gone from a market psychology of ‘the end is nigh’ to ‘happy days are here again’ in 30 days, with nothing but fiction and spin to induce buying. Good news is good for stocks again because the recovery is going swimmingly. Bad news is good news again for stocks because it means quantitative easing, more stimulus and an increased likelihood of a tax reprieve from Congress. It sounds like déjà vu all over again, doesn’t it?

As such, we would look for a top sometime in August. The S&P seems determined to squeeze the shorts back to 1150. Once it gets there, the gas tank will be empty and we will be range-bound awaiting news, which could cause the market to break. I am hopeful that the formation of this market top can lead to an indecisive range-bound market, which can be good for my trading models.


John L. Roe

President, ROE Capital Management


PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.An investment with ROE Capital Management is speculative, involves a high degree of risk and is designed only for sophisticated investors who are able to bear the loss of more than their entire investment. Read and examine the disclosure document before seeking ROE Capital Management’s services.

ROE Capital Management, Inc. | 125 South Wacker Drive | Suite 300 | Chicago, IL 60606
312-436-1782, office | 312-212-4073, fax | info@roecapital.comwww.roecapital.com

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This post is redistributed from the original newsletter at Attain Capital Management (www.attaincapital.com).  To see the original material, please click here.

Managed Futures Spotlight: Roe Capital Management Monticello Spreads Program

By John Cummings

We hear requests from clients and readers of our newsletter quite often to highlight a managed futures program which is doing something different than most others, and/or highlight an up and coming program which is not generally known or listed elsewhere.  We are happy to oblige when we can, but we usually run into problems finding a unique enough program (most are doing trend following or option selling) and a program with a long enough track record.

Today, we highlight the Roe Capital Management, which has two programs which fit both the unique requirement and emerging requirement (having less than $10 MM under management). The Roe programs are called the Monticello Spreads and Jefferson Index programs, which for all you history buffs out there are named after the third President of the United States – Thomas Jefferson.  Manager John Roe picked Jeffersonian names for the programs given their contrarian nature and his view that Thomas Jefferson was a political contrarian.

Who Is The Manager?

If there is one thing we have learned about managed futures managers over the years, it is that they come in all shapes and sizes.  For every quant or rocket scientist who can rattle off probabilities of a market finishing the day in a certain direction but must look up the difference between Chicago and Kansas City Wheat; there is an old school pit trader who wouldn’t know a fractal equation if it hit him on the head but has honed his or her craft by observing and trading the markets from the floor of the exchange.

Today’s manager, Mr. John Roe, falls somewhere in between as he started out in the famous trading pits of Chicago, but quickly realized that they future of trading was in the electronic markets.  Originally recruited to the trading floor for his tech skills (he was manning a Globex terminal), Mr. Roe eventually found himself in the middle of a changing landscape that saw seasoned pit traders heading off the floor and upstairs to trade electronically on “the screen” as they call it.

Mr. Roe got his start in the financial markets as clerk in the Eurodollar pit at the Chicago Mercantile Exchange, which at the time was the largest (nearly the size of a football field) and most active pit on the trading floor. Over 1500 traders and clerks came to work every day on what was then known as the CME’s upper trading floor.  Years later, only a couple hundred people remain in the Eurodollar pit as electronic trading now dominates the landscape.

While on the floor, John worked for of the largest institutional spread brokerage groups in the Eurodollar pit, where his role was to help brokers create markets on volatile back month Eurodollar spreads by executing unfilled legs of spread orders on the CME’s GLOBEX electronic exchange.  During this time, Mr. Roe also worked with local independent traders who had moved off the floor and onto the trading screen.  His service to them was to provide “color” of what was going on in the pit (who was buying, who was selling, etc.) to the upstairs traders who no longer had a feel for the momentum in the pit.

In August 2005, Mr. Roe left the trading floor to manage a trading desk specializing in automated electronic system execution for high net worth clients, where he was formally introduced to the world of algorithmic trading.  This experience exposed John to the benefits of system trading and it wasn’t long before Mr. Roe was researching and developing trading models of his own.  Roe Capital Management was launched in October of 2007 and began trading for clients in June of 2008, right in the teeth of the now infamous credit crisis.

Outside of work, Mr. Roe is active in philanthropy and politics.  For five years, John served on the board of directors of the Awassa Children’s Project, a Chicago based non-profit group, which operates two non-governmental organizations for children orphaned by AIDS in Awassa, Ethiopia.  John has since resigned from the board of directors to focus on Roe Capital, but he continues to remain active with the organization as a volunteer.   Mr. Roe also has a keen interest in politics and has managed several state congressional campaigns and served as a strategic advisor to a few US congressional campaigns.  In his limited free time, John likes to ski, sail, and is such a rabid Chicago Cubs fan that he named his dog Wrigley.

How Does the Program Work?

Both the Roe Capital Monticello Spreads Program and the Roe Capital Jefferson Index Program focus exclusively on US stock index futures markets, which are amongst the most liquid and high volume markets in the world. The programs are short term in nature, with an average trade hold time of approximately 1 to 2 days.

But instead of using volatility breakout or momentum based strategies like the bulk of stock index traders (especially the systematic ones), the core strategy behind both the Roe Capital Monticello Spreads Program and the Roe Capital Jefferson Index Program is a contrarian strategy which looks to benefit from the fact that markets often take two steps forward, then one step back, and vice versa.

Mr. Roe believes his models can identify periods of what he calls momentum exhaustion, where the prevailing short term trend has run out of steam and will reverse course over the next few days.  The underlying models consist of algorithms that use a variety of proprietary calculations (we tried our best to get more out of Mr. Roe, but he guards his secret sauce recipe dearly – and was only willing to give us the vague proprietary calculations) to forecast the probability that e-mini SP 500 prices will reverse direction.  Once his models calculate that a trading day’s action has signaled a shift in the probability that a move has run its course, the program looks to enter into a trade on the market close in hopes that the next day’s price action will reverse course.

Mr Roe believes that short term price movement is more apt to see short term reversals due to basic forces such as profit taking, changes in sentiment, economic releases, and so on; which are usually contrary to the prevailing short term trend. Anyone who has ever seen the market bounce back the next day, or sell off the next day after the earnings report or merger that drove prices higher is reviewed in further detail knows how that can work.

Trade Example: Monticello Equity Spreads Program:

As the ‘spread’ in its name suggests, the Monticello Spread Program will enter a trade via an inter-market spread. Spread Trading is the simultaneous purchase and sale of two usually similar futures contracts in the hopes that the one you purchase rises more (or falls less) than the one you sell  Most spread traders usually buy one contract month of a market while selling another contract month of the same market. For example, buying July 2010 Corn futures and selling December 2010 Corn futures is a spread trade. But in the case of an inter-market spread, there are two separate markets involved.

In the case of the Monticello program, those two markets are the e-mini S&P 500 futures and e-mini Nasdaq 100 futures.  The emini S&P is always the ‘leader’ in the trade, where Roe will buy the SP and sell the Nasdaq when a long trade is signaled, and sell the SP and buy the Nasdaq when a short trade is signaled. The program will typically look to enter the position with a ratio of five long ES contracts to one Short NQ contract, but trades can also be entered at a ratio of 5/4 and 7/4.

This SP/Nasdaq inter-market spread is what Mr. Roe calls his core position, and it is established at the close of the markets (3:15 CST) on days in which the internal models signal a high probability of a reversal the next day. This core position is held overnight, and the following day the systems will begin to evaluate market conditions on the open of the SP Futures (8:30 CST) and look to insert a stop in the market on the swing high/low of the first half hour of trading.

This stop level will be used as the exit point for the core position if market conditions go against the trade. (Disclaimer: stop orders can no guarantee an order is filled at the desire price).  If the trade were to be stopped out, the position would be liquidated by selling the 5 ES and buying 1 NQ simultaneously (if long, vice versa if short).

Here’s where it gets interesting – should the market move in the Core positions favor during the day, contrarian day trade models are employed that will look to trade around the core position, trying to take profits, then enter back into the core position at better levels than the previously executed day trade. These day trade models provide an extra opportunity for profit, but more importantly, they provide flexibility to the strategy and allow the manager to hedge his core position throughout the day.  The downside to it is that the market may not give the day trade model a chance to get back in line with the core position, leaving the program flat while the market moves in the direction previously held by the core position.

The Jefferson Index Program trades the exact same models, as the Monticello Spreads program with the only difference being that Jefferson will only take the long or short ES futures position on each trade leaving the system 100% biased in the direction of the systems signal.  It does not include the Nasdaq hedge positions the Monticello program does. Because of this, the Jefferson Index Program can be considered the more aggressive of these two strategies.

While 90% systematic, both programs also include discretionary risk filters designed to limit market exposure around major economic reports (FOMC, Unemployment, etc.) and over the weekend.  These were implemented in August of 2009.  Before major announcements the manager may choose exit the core position or cut back on the open position to cut down on exposure to temporary spikes in the marketplace that often occur in the first few minutes after an announcement on interest rates or otherwise.  The second filter is that Mr. Roe will force the program to close out all positions on the close on Friday and remain flat over the weekend.  The goal of this filter is to eliminate exposure to news based market moves in the Friday to Sunday news cycle (Friday to Monday if Monday is a holiday).

With trades on either side of the market, its short term holding period, and day trades around the core position, both the Monticello and Jefferson programs trade a nit more frequently than your typical CTA, at about 7500 to 10,000 RTs per million.  On average both programs have winning trade percentage of approximately 60% with a ratio of 1.25 points made for every 1 point lost.  Therefore limiting slippage plays a big role in this systems success.

From the risk perspective, the average risk per trade is 0.25% to 0.50% although max risk per trade is in theory unlimited, as the core position will be held overnight without a stop.  Mr. Roe uses fixed portfolio sizing and will trade 1 contract per $20k in the Monticello Program and 1 contract per $25k in the Jefferson Program.  There is a floor 5 ES / 1 NQ for Monticello and 2 ES for Jefferson.

Attain Comments:

The list of strategy types which have seen success over the past 16 months include short term traders (Dominion), spread traders (Emil Van Essen), contrarian [through short volatility] traders (HB Capital), and stock index traders (Paskewitz).  The Roe programs, being a short term stock index spread trading contrarian model, combine aspects of all of these varying strategies which have enjoyed success in the difficult trading conditions of the past 16 months, making it no mystery why they have been able to perform so well.

But it is the fact that they were also able to perform in the volatile 2008 market environment which shows us there is something good going on here.  This is likely due to the manager’s philosophy to take what the market gives him, while also proactively managing risk.  Unlike other short-term traders who can be stuck in a losing position as the markets move against them day after day, the ROE programs will look to trade around positions and limit losses by employing intra-day stops (and via the Nasdaq hedge in the Monticello program).  The advantage of having a spread trade on is that it can help mitigate risk (especially overnight) and the manager can be more flexible with is trade size.

Another feather in Mr. Roe’s cap is that he has been executing stock index systems professionally for the last 5 years, giving him a leg up (in our opinion) on what it takes to ensure that trades are filled efficiently with a limited amount of slippage.  He has experience working directly with GLOBEX and has access to best of breed order entry technology, which should work to his advantage given the number of trades put on each year by the programs.

One thing that we are interested to see is how performance compares across the two programs moving forward.  In our conversations with Mr. Roe, he has mentioned that in testing Monticello has outperformed Jefferson on both winning trades and losing trades (7% to 5% on the upside, -4% to -5% for losing trades) as well as overall risk adjusted results in the back testing.  However, the Jefferson program has outperformed Monticello on both counts in real time trading.

According to Mr. Roe, this is because the Nasdaq has been acting stronger than it normally does during the rally off the March 2009 lows, cutting back on the profitability of the Monticello program.  Mr. Roe expects that over time as the economy improves the spread between the ES and NQ will move back to a more normal distribution.  However, we could also argue that this phenomenon would also help the Monticello program during a drawdown phase, as the NQ would provide a better hedge on a losing SP trade.  We suspect that the performance difference between testing and real life could also be the result of higher than expected trading costs (slippage & commission) as the extra positions in the Monticello program are cutting into performance when compared to Jefferson.

Items to take note of include Roe tending to have greater success during low volatility periods and potentially struggling in periods of expanding market volatility.  For example, both Roe programs outperformed their peers in the 1st quarter of 2010 when stocks drifted higher at a slow and steady pace. However, during the most recent increase in volatility the Roe programs remained near breakeven when many short-term traders put up big numbers.

Another item is the discretionary filters Mr. Roe is using to limit market exposure. Any time discretion is used; there are concerns about it being used consistently. We understand Mr. Roe’s theory of going flat over the weekend and before major economic reports as it helps limit risk and maybe improve the investors psyche. However, coming from a systematic background we also know that this type of scenario can be very hard to test and there is a chance that exiting trades early and before the weekend is doing more harm than good. At the very least, we wish that the filters being used were more quantifiable.

Lastly, as with most emerging managers – there are risks with Roe concerning his being a small operation at this point.  When Roe is the name is on the door, what happens if Mr. Roe is sick, goes on vacation, and so on? These are often the tradeoffs between an accessible program, however; and one with a $5 Million minimum.  And Mr. Roe assures us he will look to put money back into the company and build up his staff and back office as his assets under management expand.

Overall, we are excited to follow along and work with Mr. Roe as he grows his CTA.  Thus far, he has proven to be an adept manager in some of the toughest markets conditions conceivable for a short-term stock index CTA.  Growing pains are a frequent problem for emerging managers; but in seeing Mr. Roe’s eagerness to learn of potential problems before that happen and work with firms like Attain to iron any possible issues out – we are confident that Roe Capital will make sure all decisions have their customer’s best interests in mind as they continue to grow their business.

Futures based investments are often complex and can carry the risk of substantial losses. They are intended for sophisticated investors and are not suitable for everyone. The ability to withstand losses and to adhere to a particular trading program in spite of trading losses are material points which can adversely affect investor returns.

Chart of the Week : Roe Capital Performance Summary

Futures based investments are often complex and can carry the risk of substantial losses. They are intended for sophisticated investors and are not suitable for everyone. The ability to withstand losses and to adhere to a particular trading program in spite of trading losses are material points which can adversely affect investor returns.

Past performance is not necessarily indicative of future results. The performance data for the various Commodity Trading Advisor (“CTA”) and Managed Forex programs listed above are compiled from various sources, including Barclay Hedge, Attain Capital Management, LLC’s (“Attain”) own estimates of performance based on account managed by advisors on its books, and reports directly from the advisors. These performance figures should not be relied on independent of the individual advisor’s disclosure document, which has important information regarding the method of calculation used, whether or not the performance includes proprietary results, and other important footnotes on the advisor’s track record.

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July 2010 Market Outlook & May/June 2010 Performance Review

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IN REVIEW | May & June 2010 Performance
As I have noted before, losing money is the aspect of trading with which I am least comfortable.  Since the market began pricing in the European debt contagion in mid May, my systems have underperformed my expectations.  Perhaps it would be more correct to state that my programs underperformed my hopes, but met with my expectations for their capabilities.  In my last monthly update (looking into May), I speculated that our drawdown could extend to 10% or even 15% or more.  That is precisely what happened.

Normally in a volatile equity market, I expect my systems to produce gains with expanded risk.  In my opinion, losses on individual trades will become larger with expanded volatility, but gains should also expand – and I believe our gains will outpace our losses.  But this market environment, marked by waterfall declines in overnight trading sessions, has given us few opportunities to regain our forward momentum.

May was a volatile month for both of my programs.  In the first half of the month, we surged forward, only to retreat and make new lows for the year as the brutal month wore on.  My programs went toward their historical intra-monthly lows, then came back a little to close the month.  As we look at the historical performance of my systems, a silver lining emerges.  With everything the market threw at us in May—the much ballyhooed ‘flash crash’, European debt woes, a collapsing Euro currency, European Central Bank intervention, an unfolding environmental and economic disaster in the Gulf of Mexico, fears of a ‘double dip’ recession, threats of war on the Korean peninsula, escalating tensions on the Gaza Strip—my programs did not violate my expectation of a low for a drawdown.  Survival was the name of the game for May and that is just what we did.

June was a much better month for both programs. We came out of May with a long way to go to recapture new highs, and nearly did so by the last week of June in my Monticello program.  We gave back some gains at the end of the month (more so in Jefferson than Monticello) and settled for a positive month.  Monticello outpaced Jefferson, as we made money on both sides of the spread for a change.

IN FOCUS | July 2010 Market Outlook

Panic ruled the markets in May as prices reflected sovereign debt fears, slowing Asian demand and signs that the US recovery is weaker than the market wanted to believe, or worse yet, non-existent.  The debt crisis is far from over and most likely the worst is yet to unfold.  There are fewer and fewer scenarios that bail out US asset values and the balance sheets that rely on the inflated value of those assets.  As commitment to austerity plans in Europe rally the Euro, the US dollar becomes a sell again, which will punish all dollar-denominated assets.  Deflation is the 800-pound gorilla in the room.

The S&P wants to trade lower in the early July.  This is very significant given the fact that we should be experiencing an ephemeral oversold/seasonal rally.  If it does not appear, we are in for some trouble.  Should we get to 950 quickly, we could see a short term relief rally as the market rolls through the low volume dog days of summer.  After all, we are heading into earnings season and low corporate cost structures will bolster earnings, providing some impetus for a rally.  However, there is no significant support at 950.  Institutional support resides somewhere in the 850 to 890 range.  Should the sell off breach 950 and not find a low volume summer rally to support it, the waterfall declines could return.

The political backdrop is further pressuring equity prices.  In Europe, the populace fights cuts in public spending even as their governments have changed course and embrace austerity. In America, our president warns against reducing stimulus too quickly, while a majority of the electorate wants government spending reigned in.  This disconnect punishes sentiment and confidence as everyone thinks everyone and everything is moving in the wrong direction.  Congress is preparing a monstrous new set of financial regulations affecting everything from OTC derivatives to payday loans.  Throw in expiring tax cuts, the expiration of the new homebuyer tax credit (and with it the last peg of support blocking fresh lows in housing prices) and looming state budget deficits, and there isn’t much to rally this market.

Normally when the sentiment is this bad, the put/call ratio is this elevated and you hear phrases like “death cross” on CNBC, the market is a big fat juicy buy.  However, these days Sir Templeton’s four most dangerous words in investing reign supreme:  “This time it’s different.”  The market resides somewhere between stagflation and the double dip.  And as I warned in my 2010 outlook in January, the implosion of US state budgets will drag the real economy lower.  Illinois is poised to be the first to weigh in; California and New York follow close behind.  The resulting job losses and cuts in pension distributions and transfer payments could shove us to depression.  They will look to the feds for a bailout.  Get ready for stimulus and quantitative easing part deux.

As per usual, the macro situation does little to affect the execution of my systems.  I expect elevated volatility to be present in the market for some time to come.  This will give rise to more trading opportunities for my programs.

John L. Roe

President, ROE Capital Management


PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.An investment with ROE Capital Management is speculative, involves a high degree of risk and is designed only for sophisticated investors who are able to bear the loss of more than their entire investment. Read and examine the disclosure document before seeking ROE Capital Management’s services.

ROE Capital Management, Inc. | 125 South Wacker Drive | Suite 300 | Chicago, IL 60606
312-436-1782, office | 312-212-4073, fax | info@roecapital.comwww.roecapital.com

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May 2010 Market Outlook & April 2010 Performance Report

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IN REVIEW | April 2010 ROE Capital Management Performance & Drawdown Analysis

After a 39.78% run up for our Monticello program and a 33.20% run up for our Jefferson program, we turned in our first negative month in over a year, losing -4.98% and -4.74% respectively.  April began as did March, anemic volume and volatility coloring a market coasting higher.  As in March, our programs found few opportunities in the first few weeks of the month.  When the S&P began forming a top above 1200, both of our programs were caught long on news of the SEC lawsuit against Goldman Sachs and fears of the looming sovereign debt contagion.  Two trades impacted by these news events delivered most of the loss incurred in April.  As mothballed volatility roused erratically to our new market environment, we shook out a few trades to close the month on our lows.

We have entered a drawdown and, as such, it is important to take stock of our performance and examine the risks posed by our investment vehicles.  Our programs have experienced a run-up of 39.78% (Monticello) and 33.20% (Jefferson) in the last 12 months, with no more than a 4% intra-month drawdown during that time (and no closed month drawdown at all).  That performance placed us in the top 10 of all CTAs trading all asset classes worldwide for the last 12 months as ranked by risk and in the top 5% as ranked by return.  Given our April drawdown, we are still in the top 3% by risk and in the top 5% by return of all CTAs reporting to Barclays in the last 12 months.  Amongst our peer CTAs in the stock index sector, we were the number 1 and 3 program ranked by risk and number 7 and 8 program ranked by return prior to April.  At the time of this writing, we still rank as the 7th and 8th program by return, slipping to the 2nd and 4th Stock Index CTA program ranked by risk.  By any valid comparison of which we can conceive, our programs are competing near the top of the industry.

We realize that this is cold comfort for accounts which began trading in March and April, and thereby did not participate in the previous year long run-up.  The loss this month, while regrettable (as all losses are), is entirely within expectations for our algorithms.  It is our opinion that a drawdown of 10% can be expected annually in each program and a 15% drawdown can be expected every 18 to 36 months. These drawdowns are simply part of the trading game; we have to accept and limit risk in order to deliver return.  Obviously if we knew when these losses were due, we would step out of the way.  Unfortunately, our crystal ball only gives us probabilities of market action, not specific dates and times.

The market environment of late is one which has few historical equivalents.  While the VIX and other volatility indicators have certainly traded at these levels many times in the past decade, what is different is the price action which has produced these levels.  Since the February 5th low in the E-mini S&P (and corresponding VIX peak) through April 15th, the e-mini S&P closed down -0.5% or more only twice.  In that period, the e-mini S&P has closed lower in only 10 of 46 trading sessions, with an average of those lower closes at a meek -0.47%.

However, despite lack of a sell of sellers, the e-mini S&P gained more than 1% in only 5 of those sessions.  That’s a market floating higher ever so gently, with little or no pullback.  We can speculate that this resulted from macro conditions favoring capital flow to US equities (unprecedented dovish monetary policy, low bond yields and sovereign debt fears, China’s policy of diversifying US dollar currency holdings into US corporate assets, etc.).  Whatever the reason for the market’s price action, it results in fewer trading opportunities for our systems.

When markets coast higher, our algorithms tend to spend more time out of the market.  The reason is simple:  there is only one way to trade (buy) and those gains—made over the course of months—can be lost in a few minutes when news breaks the markets.  Our algorithms are contrarian in nature, seeking momentum exhaustion, and there has been virtually no exhaustion of this bull market since February, save the last week or so.  As a result, our programs traded in few sessions.

When trading opportunities are scant for our programs, it increases the odds that we will post negative returns.  We have to be precise in the few sessions in which we trade to earn yield; if we are wrong once or twice, the market environment does not provide an opportunity to pare the losses.  In the sessions we traded in April, we experienced a few losses which were large relative to the range, and happened upon few opportunities to trade out of them.

The good news for our programs is that the market environment is changing.  Ranges are expanding and so too should our trading prospec

IN FOCUS | May 2010 Market Outlook

As we opined in last month’s outlook, the S&P could not find much ground above 1210, though it did work higher from the March close.  April was a small gain in the S&P, cut short by some panic selling.  Earnings, momentum and monetary policy argue for higher prices, but the ever present sovereign debt crisis is planting fresh uncertainty in equity markets.  It is beginning to look like Germany may favor orderly default for weak EU constituents over bailouts.  Greece is just the first of the little “piggy’s” to come to market (Portugal, Italy, Ireland and Spain lie in wait).  Combine that with China cooling its red hot economy and the vol is back.  Equities do tend to “get it last,” so May will be a key month.  Will the European debt crisis be enough to force the market to new lows on the year?  Perhaps the better question is if two of the top four economic zones in the world (China and the EU) are ending their inflationary policies, can US equities go much higher?

The S&P needs a breakout above 1220 with good volume to keep the bulls around.  Recent sell-offs have seen rising volume, while rallies have been on low volume.  The market will likely decline into the employment report and then rally, keeping an eye on the action in the Euro currency.  If the Euro currency begins a panic decline, expect a panic decline in US equities.  Investors will (and should) fear that the already soft recovery is being weakened by sovereign debt burdens.   May will likely see a range from 1135 to 1190.  A close below 1135 portends a very rough summer for US equities, as deflation becomes the name of the game.

As the market begins to digest its near term prospects and risks, we anticipate a return to a market environment more favorable to our algorithms.  Rising uncertainty in the markets will give rise to many trading opportunities.  As we find more trading opportunities, I am confident that we will return to profitability.  However, please be aware the current drawdown may deepen—perhaps 3 or more times as much as it stands today. As we noted above, clients should expect annual 10% drawdowns and 15% drawdowns in 18 to 36 month periods. We cannot predict the depth and timing of our drawdown.  However, we are confident that we will pull out of it.

John L. Roe

President, ROE Capital Management


PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.An investment with ROE Capital Management is speculative, involves a high degree of risk and is designed only for sophisticated investors who are able to bear the loss of more than their entire investment. Read and examine the disclosure document before seeking ROE Capital Management’s services.

ROE Capital Management, Inc. | 125 South Wacker Drive | Suite 300 | Chicago, IL 60606
312-436-1782, office | 312-212-4073, fax | info@roecapital.comwww.roecapital.com

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April 2010 Market Outlook & March 2010 Performance Review

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IN REVIEW | March 2010 ROE Capital Management Performance
Editor’s note:  I apologize for the lateness of this update.  I was traveling at the beginning of the month and unable to process the newsletter prior to the holiday.

As US Equity markets drifted higher and volatility drifted lower in March 2010, our programs turned in their lowest monthly trading volumes since inception, trading in only a handful of sessions.  When equity markets move higher slowly, with very little selling pressure or pullback, our algorithms tend to trade less often.  As such, we found few opportunities and posted a slightly positive month in both of our programs.

The small positive month extends the winning streak for our Jefferson Index Program to 13 consecutive months and marks 12 consecutive months of gains for our Monticello Equity Spreads Portfolio.  In the past 12 months, our programs have crept into the top rankings for all CTAs in all asset classes.  Looking at the 1,083 CTAs reporting to Barclays, our programs are in the top 6% of all CTAs ranked by their returns in the last 12 months, as well as by their 2010 year to date returns.

However, as we noted in our annual review, analyzing a managed futures investment by return only does not provide the full picture, as it does not factor in the risk taken to produce the returns.  Considering that there are managers ranked higher by return than ROE Capital who have compound average returns of 12% and draw downs of 89%, it is necessary to account for risk when looking at these rankings.  When ranked by Sharpe ratio (a measurement of the risk premium of a strategy), Jefferson is in the top 10 of these 1,083 CTAs reporting to Barclays for the last 12 months (ranked 7th in February and 10th in March*), and Monticello follows close behind in the top 20. If you look at stock index trading CTAs, Jefferson is the number one trading program ranked by Sharpe Ratio in the last 12 months and Monticello is the number three program.

This of course constitutes the best 12 months for both of our programs.  Investors would be exceedingly lucky had they invested last March, picking our bottom point and catching the best 12 month performance for our firm.  Therefore, it is also instructive to look at the worst 12 month return for both programs, as well as their averages.

Viewed through these time frames, we are pleased with the results and we will seek to continue the success.

IN FOCUS | April 2010 Market Outlook

As we thought, the S&P charged ahead through 1150 and beyond in a market without much in the way of institutional guidance.  The market is now exhausted, severely overbought and looking for a little pullback.  After the start of the month/quarter buying exhausts, we should see some selling from profit taking, federal and state tax deadlines and the strong tendency for equity markets to decline after the March expiration.  However, as has been the pattern for the past few quarters, a few months of rally begets a sharp but brief sell off, followed by more rally.  Without news, we should be range bound between 1164 and 1210 but, in the near term, equity indexes should move higher.

The recovery remains soft and the sovereign debt crisis lurks a negative backdrop, but the severity of the debt picture is unfolding slowly.  As it does, an interesting dynamic is playing out.  Capital flow is shifting from US treasuries to corporate debt and stocks, as the bond market tells us it may be safer to lend money to some US corporations than to US and state governments.  Much hay was made over the Bloomberg news item that two year bonds from Berkshire Hathaway commanded lower yields than two year treasuries.  Indeed this makes sense; if the blue chips and their ilk are deemed too big to fail (perhaps soon by law), they are backstopped by the US government which can print money and raise taxes to shore up its corporate dependents.  But the US and state governments are recklessly spending and adding to their long term liabilities, which makes lending to them risky.  Corporations account for future liabilities on their current balance sheets. Governments do not.  In the near term, sovereign debt uncertainty favors capital flow to US equities and higher stock prices.  This will reverse in the long term as the cost of these liabilities weighs on the living standards of those forced to pay for them.

For now, money is free and stocks are cheap to cash.  Why not borrow money and buy stock (or anything for that matter)?  Since stocks are one of the few assets producing yield, we are watching an equity bubble inflate.  Emerging markets attempts to cool growth also favors increased capital flow to US equities.  The political backdrop in the US has steadied the market as well; though the health care package crowds out private investment and will inflate costs (through de facto price controls), its passage removes what the market despises most:  uncertainty.

As the market consolidates ahead of its next move, we anticipate few trading opportunities for our programs.  April will likely be a month of low trading volume for us, though we should trade a bit more than March.

There was a revision in our February performance for the Monticello Equity Spreads Portfolio.  We originally reported the February performance at 5.72% and it has since been revised up to 6.57%.  It is incumbent on us to explain this revision, as we are not in the habit of reporting erroneous information, especially when it comes to our performance.  Our accountant—who is an exceptional professional—did not err in the calculation of performance.  He simply reported the performance for our second program, the Jefferson Index, on the wrong form.

Normally we would have caught the mistake prior to publishing the performance numbers, but it was in line with our expectations of performance for the program.  Though it is unusual that both programs would have the same performance in a given month, they have had the same results before (see August 2009).  Only during the billing of client accounts did I notice that no Monticello account performed under 6% for the month—of course that meant Monticello on the whole could not have performed below 6%.  The problem stemmed from a cell on an Excel sheet in which our accountant had previously manually entered performance.  He manually entered the performance of our Jefferson program in the Monticello program’s summary.  He has since linked the cell to tabulate from the billing performance sheet, so this mistake will not happen again.

I want to stress how seriously we take the calculation and reporting of our performance.  If you have any questions about this or any other matter, please feel free to contact me at your convenience.

John L. Roe

President, ROE Capital Management


PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.An investment with ROE Capital Management is speculative, involves a high degree of risk and is designed only for sophisticated investors who are able to bear the loss of more than their entire investment. Read and examine the disclosure document before seeking ROE Capital Management’s services.

ROE Capital Management, Inc. | 125 South Wacker Drive | Suite 300 | Chicago, IL 60606
312-436-1782, office | 312-212-4073, fax | info@roecapital.comwww.roecapital.com

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March 2010 Market Outlook & February Performance Review

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IN REVIEW | February 2010 & the Month Ahead
At the end of January and in our year end review, we noted that the macro conditions argued for rising volatility in the major averages with sideways to lower prices throughout February.  This was indeed the case in the first week of the month as the VIX raced to new 2010 highs and the S&P to new 2010 lows.  This situation gave rise to many trading opportunities for our systems early in the month.  Volatility faded sharply mid-month on the back of the equity rally, reducing our opportunities and we spent most of the last week of February in cash.  Traders made several attempts to break the market at the end of the month, but prices rebounded to close the month.

Our Monticello Equity Spreads program booked its most successful month since April of 2009, with the Jefferson Index posting its most successful month since December of 2008 and its 12th consecutive positive month. (For detailed performance results, click here.) For the second month in a row, both of our programs had nearly identical performance, despite substantial variance in trading through the month.  That is unlikely to continue.

The macro environment has not improved since our last survey.  The situation in Greece has taken a turn for the absurd, as it becomes clear that it used OTC derivatives to mask the depth of its deficit and debt.  Greece and its euro-zone equivalents remain unable to address their fiscal shortcomings because public unions undermine the political will to cut off the public trough.  More than one sovereign default is imminent.

A similar situation continues to play out in various debt swamped US states.  As Illinois is our home, it is our favorite example.  The state finally admitted that it will likely have a $13 billion dollar budget shortfall—almost half it’s core 2010 budget—which is almost as much as California’s deficit, though Illinois has 1/3 the population of the Golden State.  The politicians are talking about raising revenues to meet the crisis, but even a 300% hike in state income taxes would not fill the gap (especially considering the decline in incomes and employment in this recession). And of course, addressing only revenue sources does nothing to fix structural budget imbalances, enormous unfunded pension and health benefit liabilities or general government waste.  California, New York, New Jersey, Connecticut, North Carolina and Florida are not far behind.  Without a federal bailout, Illinois should be in default before the end of the year.

We want to be clear on what the risk of this unfolding sovereign debt crisis means.  As all recent economic data has indicated, the global recovery is soft—even after trillions of dollars were thrown into the financial system by central banks and governments.  High levels of public debt have prolonged past recoveries by placing debt burdens on future growth, but this debt environment is very different.  Never before have so many wealthy nations carried such high levels of public debt.  Either Western governments reign in the spending, which will keep us in a protracted (but necessary) period of economic stagnation, or they march onward to default, which brings on the second wave of global financial crisis.  This is not a question of if for us, but when.  Living standards in the West have increased on paper asset inflation in the last 20 years; that “juice” has to come out of the market, living standards must revert to income levels and then real economic growth can resume.

The disconnect between US equity market prices and reality will continue in the short term.  The S&P 500 has retraced a little over 50% toward its 2010 high.  Traders will gun for 1150 in the S&P, pouring into stocks the first days of the month of March.  This rally should fade by the end of the first week and the S&P will be range-bound awaiting news (look for a potential surprise lower in the February non-farm payroll number).  Bernanke indicated that the Fed is in no hurry to raise interest rates, but it is ending the purchase of mortgage backed securities at the end of March which could test the banks.  If previous shallow recessions are any indication this deep recession will necessitate prolonged record low interest rates for years, even in the face of a sovereign debt crisis.  With the euro in crisis, the dollar will find support in the lack of a currency alternative.  Stocks remain cheap to cash, so the major averages should rally until the sovereign debt crisis forces the market to test its 2010 lows.

We expect near term volatility to return to elevated levels in the next few weeks.  This should provide our systems with many trading opportunities in March.

John L. Roe

President, ROE Capital Management


PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.An investment with ROE Capital Management is speculative, involves a high degree of risk and is designed only for sophisticated investors who are able to bear the loss of more than their entire investment. Read and examine the disclosure document before seeking ROE Capital Management’s services.

ROE Capital Management, Inc. | 125 South Wacker Drive | Suite 300 | Chicago, IL 60606
312-436-1782, office | 312-212-4073, fax | info@roecapital.comwww.roecapital.com

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