Multi-management: the need for real expertise
What is multi-management?
Unlike direct investment into securities (essentially stocks and bonds), multi-management equates to building a portfolio of active or passive investment funds (mutual, unit-linked and Exchange Traded Funds – ETFs) aiming to optimise diversification through specialisation in every asset class with the goal of generating regular returns on investment.
Multi-management has been historically considered a form of “sub-management” destined to less well-off clients. This is no longer the case today! This investment style is already being adopted by individuals, institutionals and wealth managers alike and has come back to front-stage, through an open-architecture approach, enabling the best managers of various firms to be identified.
Nevertheless, direct-investment management approach is still preferred by investment managers and clients who are reluctant to delegate to a third party (the fund manager) the management of a portion of their assets…
What are the advantages of multi-management?
First of all, through multi-management, investors can expand their investment horizons by accessing several asset and sub-asset classes and investment strategies. Portfolio diversification, risk reduction, return over risk (net of fees) can all be optimised. Also, the best specialists for every asset class, geographical area and investment strategy can be selected in this manner.
In the current environment of low-yielding bonds (steadily declining in recent years) and of uncertain equity markets (further to very steep increases registered over the last ten years), coming up with new investment strategies has become a must. New niche asset classes and non-traditional strategies such as emerging debt and equities, MBS or Cat Bonds, as well as absolute return strategies, implementable through investment funds, are viable options in today’s environment.
How to select funds?
Faced with a plethora of investment funds with disappointing performances for the most part, analysis, selection and fund-tracking are essential steps of multi-management.
The first step consists of carrying out an initial selection of the best funds by category through quantitative analysis (relative performance, volatility, risk-reward ratio, maximum loss).
This first filter must be accompanied by qualitative analysis consisting of the careful study of documents (reports, presentation, DDQ, etc.) and interviews with the fund’s management team so as to best ascertain their process and investment strategy, portfolio building and exposure, how responsibilities are shared among team members and the way in which risk is dealt with.
The analysis of absolute return funds is a different approach than that of directional funds whose performance is much more dependent on management expertise. Contrary to widespread belief, the larger funds and those of well-known management firms are not necessarily the best choice. The investment fund selector’s role is to identify talented managers before they are known by the general public. Moreover, a number of niche funds are unable to replicate past performance when their size increases beyond a certain extent… Therefore, it is important that these funds be identified before they are closed in order to benefit from a level of performance not attainable by other funds.
The last step: how a portfolio of funds is built.
Multi-management is not limited to the selection of the best funds. In order to create a delicious dish, chefs must invariably have access to ingredients of the highest quality that are both ideally combinable and complementary, before seasoning the dish with carefully-chosen spices. It is the same with a multi-manager who must select and combine highly performing and complementary funds and hence control risk through the use of derivatives to generate alpha and adjust the beta of the portfolio.
The selection of various asset classes must enable a fund to cope with periods of stress. The fund’s architect conducts various tests to measure not only correlation with the various asset classes but also with other funds included in the portfolio. Managers must also adopt an active management approach and steer their portfolio to adapt it to the ever-changing economic and financial environment. In order to optimise return over risk all-the-while controlling costs, asset-class and multiple strategy allocation can be measured in terms of risk budgeting (volatility, downside risk, VaR or maximum Drawdown) as it has been defined. Every investment’s contribution to overall portfolio risk must also take into account the correlation between the funds and the asset classes constituting the portfolio. Risk management is an essential step of portfolio management.
Contrary to the initial impression of many, multi-management is more effective than direct management though it is also a more complex and very technical process. This management style requires top expertise and high specialisation. Funds of funds are an ideal way of implementing multi-management strategies.
About the author
Thierry Crovetto – CEO & Director of Investments
TC Stratégie Financière SAM is an asset management firm based in Monaco. As a firm with close ties to the academic world, our approach is focused on research leading to both asset allocation advisory as well as more complex quantitative models. From advisory mandates to « white label products », we strive to maximise investment performance all the while minimising risk of loss of capital.