Founded in 1807, John Wiley & Sons is the oldest independent publishing company in the United States. However, these advances, while generally positive, can lead to information overload—in effect leading many people to not see the forest for the trees.
THE SEARCH PROCESS
Also note that the search process is actually more circular than linear – the analytical stage leads to the hiring stage, and once a manager is hired, we start back at the analytical stage to monitor the manager's performance. In an investment manager's analysis, the steps are subject to change and change due to scheduling, information delays, and many other factors.
OUTLINE AND STRUCTURE
The equity manager analysis section sets the tone for the rest of the book. While many of the analytical techniques we use to evaluate equity and fixed income managers can also be used to evaluate alternative managers, this section will highlight the unique analytical issues that arise in these asset classes.
AUTHOR’S NOTE
Although not exhaustive, Part Three will highlight the issues and provide an outline to use in evaluating investment managers in this area. The investment guidelines are in two primary stages: (1) the investment policy statement (IPS) and (2) the investment portfolio guidelines.
INVESTMENT POLICY STATEMENT
To achieve a nominal rate of return for the total portfolio equal to or greater than the custom benchmark return. When setting guidelines, it is extremely important to set asset allocation guidelines that parallel the return/risk parameters set forth in the investment objectives section of the investment policy statement.
CONCLUSION
Sourcing investment managers is much easier today than it was a decade and a half ago. The search process was very time consuming as much of the work that needed to be done was done manually.
INDUSTRY CHANGES
Moreover, more financial websites have been added in the past five years than I care to count. I'm surprised that the information I receive for free from general interest websites like Yahoo.com and MSN.com and business/.
NONLINEAR PROCESS
Note that we have listed several possible substitutions for each investment manager (or style). The answer ranges from internal and third-party databases to various media outlets and the personal Rolodex contacts of each investment manager analyst.
THIRD PARTY DATABASES
This can be by email or through direct access on the database firm's website. Some investment managers may unknowingly provide incorrect information about their firms/products to the database provider.
SAMPLE SCREENING CRITERIA AND TECHNIQUES
Include only small-cap equity products. This narrows down the screen by eliminating any products that are not small-cap. Portfolio Criteria Per the restrictions, the selected manager must complement the Fund's small cap growth managers.
INTERNAL DATABASES
For example, I can take the list of six candidates (refer to Exhibit 2.4) and add some names to the search even if they have been eliminated based on the criteria established in the screening process. Based on this data, it might be a good idea to include this manager in the search and see how his product compares to the six products identified in the screening process.
MEDIA/INTERNET
For example, I may know of an investment manager who left his firm a year ago to start a small-cap value product for a large foreign-owned investment company. Because this manager's “new” small-cap value product does not have a three-year track record (as specified by the screening criteria), this product would have been eliminated.
INVESTMENT CONSULTANTS
INDUSTRY CONTACTS
I make it a habit to build a relationship with software vendors and other service providers in the investment industry and often ask them if they have any clients (managers) that they are impressed with and, conversely, that they are not too impressed with. And, as I highlight later in the book, I often ask investment managers during the interview phase who they feel is their biggest competition.
MODIFYING THE SEARCH
Now that we have stated our investment objectives and screened for a short list of investment products that meet our needs, we can almost begin the analytical process. While this information is very helpful, it is only the tip of the iceberg.
SIMPLE QUESTIONNAIRE
SAMPLE REQUEST FOR INFORMATION
Professional investment turnover at one of the fund's existing small-cap value managers led to their termination and subsequent search for a replacement. Form ADV—If you are an investment advisory firm registered in the United States, you must provide a copy of the most recent Form ADV filed with the SEC.
INTRODUCTION
This section, which highlights the many formulas used to calculate and evaluate performance, lays the foundation for the rest of the chapter. Practical Application of Formulas In this section, we analyze the performance of CAM using a variety of performance measures and tools, including performance comparisons, data tables, and graphical illustrations.
CONCEPTUAL ASPECTS OF PERFORMANCE MEASUREMENT
PDRn= Period decimal return from the end of business on the date before the last cash flow to the end of. When a cash flow occurs, we must value the portfolio from the moment before the cash flow.
PRACTICAL APPLICATION OF PERFORMANCE FORMULAS
The CAM portfolio significantly outperformed the small-cap value benchmark from July 1999 through February 2000. However, the CAM portfolio still managed to significantly outperform the broad small-cap index (55%) in the rising (positive) months.
AIMR’S PERFORMANCE PRESENTATION STANDARDS (PPS)
Disclosures. Although the PPS provides greater consistency in performance reporting by specifying rules to be followed when creating performance presentations, exceptions do exist. A set of limitations has been created to allow for the effective and efficient evaluation of tax implications as they relate to the performance offers.
COMPOSITE ANALYSIS
No leverage was used in the management of the accounts included in this composite. While no one likes to read the fine print, it is an essential part of the analysis.
DEFINING RISK
Performance is usually the most prevalent, but in many ways risk is just as important (if not more important). Unlike loss of capital, which is an absolute measure, opportunity risk is relative in nature.
MEASURES OF RISK
We can use formula 5.3 to calculate the Sharpe ratio for the CAM small-cap value portfolio. Because we calculated the daily standard deviation and are asking the question what the VaR is over a 10-day period, we need to "scale" the daily VaR statistic.
SUMMARY-LEVEL DATA
The sum of the top five sectors in the portfolio is just under half of the total portfolio. Just over 10% of the portfolio consists of stocks with a market capitalization of over $2 billion (four stocks).
FUNDAMENTAL ANALYSIS
Starting from top to bottom, we can compare the portfolio's overall statistics with the small-cap indices. Using this ratio, the investor can make assumptions about a company's current valuation (price) based on the company's estimated earnings.
QUESTIONNAIRE
At each stage of the investment manager's analysis process thus far, we have stopped to make a decision as to whether the investment firm and product under review should proceed to the next step in the process. The investment company may be understaffed in this department or have inefficient people responsible for the process.
DUE DILIGENCE QUESTIONNAIRE U.S. Equity
The first three sections (which deal with stable and broad organizational issues) remain the same regardless of the number of products involved. If another company owns your firm, what percentage of the parent company's revenue does your firm contribute.
SECTION TWO: FIRMWIDE PROFESSIONAL STAFF
Is your organization, subsidiaries, parent company, officers or directors involved in litigation, legal proceedings or investigations by any regulatory authority related to your firm's investment activities. Describe the compensation structure for your firm's portfolio managers and research analysts, including incentives, bonuses, performance-based compensation, and equity ownership.
SECTION THREE: OPERATIONS Reporting
Include biographies of the staff responsible for the product(s) under review and of any investment professionals who may work on other products. Describe your company's computer database and systems environment for securities research, fund accounting, risk management, performance measurement, and client reporting.
SECTION FOUR: PRODUCT INFORMATION (EQUITY) Clients/Assets
Describe in detail the investment process used by the investment team in managing the product. You can search for the investment firm, even if you don't know its full name, simply by selecting that search option and typing in part of the firm's name.
DATA FROM THE MANAGER
Portfolio managers often write monthly and/or quarterly investment reports or updates that go into great detail about the inner workings of a portfolio. These reports are a fantastic way to get a peek inside a portfolio manager or portfolio team.
NEWS SEARCH
When you ask a search engine to search for the term "portfolio manager," this is the exact spelling it will use in the search. As Exhibit 8.1 illustrates, the next logical step in the process is to set up an initial investment meeting.
INITIAL MEETING
Some of the names we held in the portfolio rose so far so quickly that we had some individual portfolio weights rise to uncomfortable levels. The long side of the portfolio does not exactly reflect the small-cap product, but it is reasonably close.
MEETING MEMO
The hedge fund's long position closely mirrors the positions in the small-cap value portfolio. I'm also concerned that the company is actively managing a small-cap long/short hedge fund.
ABSOLUTE ATTRIBUTION ANALYSIS
As highlighted in formula 9.1, the IPA for each individual position is the product of the initial period weights and the return for the period. The aggregate SLA for the consumer cyclical sector is simply the sum of the IPAs of the 12 consumer cyclical stocks in the small-cap CAM portfolio.
