Performance analysis (also known as attribution analysis) is a “top of the list” requirement for asset managers seeking to “demonstrate their value,” a new report concluded.
The Celent analysis covers two important coverage areas for financial advisors – but only if they actually follow through on the issue.
“Performance analysis is not only crucial in the investment process but increasingly critical for solid client communications,” said report author Jay Wolstenholme, a senior analyst with Celent’s Securities & Investments.
Attribution analysis is a performance-evaluation tool that burrows deep into the investment acumen (and results) of fund portfolio managers. More directly, attribution analysis measures the portfolio effects of a given manager's investment decisions, focusing especially on overall investment policy, asset allocation, security selection and activity.
According to a recent report from Zephyr Associates, a financial data reporting provider, a good portfolio performance analysis campaign answers the following questions:
• What factors aid in attributing a manager’s performance?
• Is it stock picking, investing in the right style, or market timing?
• Were certain sectors over or underweighted?
“To answer these questions for short time periods, such as a day, a week, a month or a quarter, requires a sophisticated process that must identify and price each security in the portfolio at least daily - some even argue that this should be done intra-day at the time of any transaction,” the Zephyr report stated.
This kind of attribution analysis is “costly and time consuming” and only practical for separately managed institutional portfolios, the report said. It is possible to do a more general attribution analysis using returns-based style analysis on any portfolio, like mutual funds, for which monthly or quarterly returns are available.
Most of a manager’s returns are attributed to asset-class returns, the report noted. A U.S. equity manager’s returns depend mostly on how well the U.S. stock market does.
“The second-most important factor for an equity manager is investment style,” the report said. “Most growth stock managers perform well when growth stocks are in favor. Conversely they perform “badly” when growth stocks are out of favor. A primary goal is to find out how much of the manager’s return comes from the general market and investment style, using a technique called style analysis.”
The Best Approach
According to Celent, there are three keys to factor in identifying primary performance analysis (PA): identifying the “main PA trends in asset management”; knowing what problems to solve; and understanding the key functional areas for PA systems in asset management.
Perhaps the largest key for advisors is to recognize that with game-changing technological advances with investment-based data analysis, finding faster and better ways to measure performance is no luxury for money managers – it’s a necessity.
“Equity attribution variables continue to expand as asset managers are developing new types of smart beta portfolios that blur the lines between passive and active investment styles,” Wolstenholme said. “It’s important that both asset managers and investors be able to assess … all detailed factors to ensure that performance Alpha is being achieved through the adjusted weighting of factors versus just luck or chance.”
Financial advisors would do well to recognize that clients are trending toward favoring asset managers who engage in portfolio performance analysis.
“In today’s investment environment, asset owners are gravitating toward asset managers who can quantitatively outline their performance achievements, starting with aggregation, drill down to contribution and attribution detail, visualization graphics, and increasingly mobile and configurable access,” Wolstenholme said.
Brian O'Connell is a former Wall Street bond trader, and author of the best-selling books, The 401k Millionaire and CNBC's Guide to Creating Wealth. He's a regular contributor to major media business platforms, including CBS News, The Street.com, and Bloomberg. Brian may be contacted at firstname.lastname@example.org.
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