Assessing fiduciary manager performance is complex but not impossible, says Xerox HR Services' Jacob Rubin.
Key points
Review the reporting received from your fiduciary manager for suitability
Challenge your fiduciary manager to introduce new investment ideas
Consider utilising independent oversight to better assess your fiduciary manager
Now, however, there is a sense that the tide is turning amid the Financial Conduct Authority’s asset management market study, the interim results of which were published recently. Along with the involvement of third-party evaluators, fiduciary managers are working hard to provide greater clarity. One approach is to break the solutions down into common elements.
Find the growth engine
All fiduciary solutions incorporate a 'growth engine', aiming to deliver returns over and above the rate of return used to discount the liabilities in an attempt to close a funding deficit or build a surplus.
Delving deeper into the underlying funds can unearth whether the skill of those researching managers and constructing portfolios is evidenced. There is a cost for active management and it is important to see the value, one hopes, it is adding
Each of the growth engines can be compared by assessing returns and the risk by which they have been achieved. With no investible benchmark available, comparisons can be made both against each other and similarly diversified multi-asset funds – which, after all, aim to be diversified to produce a return stream with lower volatility than equities.
Strategic asset allocation is the primary driver of returns. For example, those with higher allocations to equities within their growth engines will ultimately do better when equity markets rally and outperform most other asset classes.
However, delving deeper into the underlying funds can unearth whether the skill of those researching managers and constructing portfolios is evidenced. There is a cost for active management and it is important to see the value, one hopes, it is adding.
Tactical value-add
Shorter-term tactical decisions can also add value. The extent to which that comes through will depend on the specific fiduciary manager’s views and the way it is applied, for example via less frequent, subtle tilts to the strategic allocations or dynamic overlays using derivatives.
The opportunity set of asset classes and new ideas that a fiduciary manager can access is another way to compare across the market:
Are investors truly accessing asset classes through a fiduciary manager that they couldn’t elsewhere?
Are the portfolios suitably diversified and has this resulted in superior risk-adjusted returns?
Has there been an opportunity cost of not investing to take advantage of an illiquidity premium?
What's the house view on hedging?
Each fiduciary management client will also have a 'matching' portfolio that tries to mimic the sensitivity of the liabilities to changes in interest rates and inflation expectations.
While the level of hedging that is affordable may be constrained – say, if the discount rate still requires a high allocation to growth assets – understanding the fiduciary manager's views in the absence of constraints is important for evaluating whether they are operating in line with expectations.
For example, is a fiduciary manager’s theoretical house view to be underhedged on interest rates relative to the strategic target implemented in real life client portfolios?
Not many fiduciary managers seek to generate excess returns through active management of matching portfolios, tending to focus on risk mitigation.
As trustees set higher hedge ratio targets, the extent to which the matching portfolio is tailored across the liability profile will generate differences in performance relative to the liabilities.
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Implementation and soft factors
Furthermore, understanding how the solutions are implemented (via bespoke underlying mandates or pooled funds) is important as it demonstrates how much control the fiduciary manager has.
Other, more qualitative, factors involved in assessing the performance of a fiduciary manager include client servicing, reporting and education.
As there is no one-size-fits-all way of assessing the performance of fiduciary managers, one approach is to evaluate performance in bite-sized pieces. Identifying and assessing common denominators, having oversight of the whole market and defining expectations can all be used to assess a fiduciary manager.
Jacob Rubin is associate investment consultant of fiduciary management oversight at consultancy Xerox HR Services
