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The fulfillment of fiduciary responsibility and acting in the client's best interests requires an incredible amount of portfolio detail to be managed for each client. This demands an even greater amount of client and investment data to be managed by diagnostic and analytical tools so that all this information can be managed and translated by advisors in terms meaningful to each individual client. The database manager/warehouse is a relational database management system (Oracle) which contains client and investment data, as well as the research, diagnostic and analytical tools that empower the financial advisor to add value through the management of information and data. These web-based tools allow the financial advisor to cut across all investment products to address and manage investment and administrative values (risk, return, tax efficiency, liquidity, cost structure, time, etc.), as is required by regulatory mandate and are essential for the client success. These web-based tools also facilitate the execution of the six financial services that constitute the Investment Process (Asset/Liability Study, Investment Policy, Strategic Asset Allocation, Manager Search and Selection, Performance Monitor and Tactical Asset Allocation) implied by regulatory mandate. The creation of the formal documentation of the investment process that delineates the values addressed and managed in each the six financial services that comprise the Investment Process, is today the responsibility of each individual advisor. (See Senior Consultant, November 2003, "Enabling Technology and Infrastructure" which explains technology in the context of the investment process.)
The next generation of technological innovation, which will hopefully be fostered by this Technology Blueprint, is to reduce the burden of the advisor creating these client deliverables (e.g., investment policy statement, AIMR-compliant performance reporting or an asset/liability study, etc.) required in high level counsel. Thus, by the advisor working within a highly structured, disciplined process that addresses and manages the full range of investment and administrative values required, the advisor, their supporting firm and their clients would be essentially assured that the advisor's fiduciary responsibilities are being fulfilled and value is being added.
The technologies cited are widely adopted at the very high end of the market where fiduciary responsibility is viewed more seriously. Through technological innovation, it is the hope of the High Net Worth Standards Initiative that this level of counsel can become the rule rather than the exception. Space does not allow an in-depth technical discussion on each technology cited, but a brief explanation follows.
Investment Policy
Investment policy governs how a client's assets are managed, establishes the roles of all parties involved, cites criteria for hiring and terminating managers, defines the client in very intricate terms, provides specific instructions the client may require, and delineates the parameters and metrics used in managing the client's portfolio. The innovation brought to bear in creating institutional quality investment policy statements has been extraordinary.
Using Conjoint Reasoning and Utility Theory to mathematically weigh each investment consideration of each investor, Klein Decisions gives us a precise understanding of who the client is and how they change over time. This innovation translates all the client's investment considerations into a custom index-based performance benchmark, invaluable in portfolio construction, thus providing a similar technology to that developed for medical diagnosis within an advisor's practice. Rowe Decision Analytics provides institutional quality investment policy capability with legal opinions that opine that the resulting portfolio is in compliance with the appropriate regulatory authority (UPIA, ERISA, UMIFA, UMPERS). Though investment policy statements are required in order for the advisor to fulfill fiduciary responsibility, it can take hundreds of manhours to create world-class documents. Typically only 20% of any given investment policy statement has to be customized to reflect the unique nature of each client; unfortunately, it's a different 20% for every client. The innovation of Rowe Decision Analytics is that it saves hundreds of manhours in creating custom policy statements for the full array of clients in the individual and institutional (defined benefit, defined contribution, public fund, profit sharing, Taft-Hawley, foundation and endowment) investor market segments by providing multiple institutional-quality investment policy templates with client questionnaires and the capability of providing custom legal opinions for investors in each market segment. Rowe Decision Analytics is the most cost-effective means for financial advisors to create world-class, institutional quality statements of investment policy with legal opinions. With Klein Decisions scientifically establishing the parameters within which a portfolio will be structured, and Rowe Decision Analytics providing the documentation to the client, today, legitimate world-class investment policy statements are within the reach of every advisor.
Research Model
Everything that involves the advisor gaining access to and managing data is included in the Research Model. Essentially, this technology empowers the advisor to add value and fulfill his fiduciary responsibilities because it enables the advisor to address and manage the full range of investment and administrative values that are unique to each client.
Data. Just as the client and their objectives can be defined in very intricate terms such as risk, return, tax efficiency, liquidity, cost structure and time, investments can be defined in similar terms. Each investment has hundreds of data points that allows a very high level of portfolio detail to be managed. These investment data points are provided by leading data vendors like Media General, Compustat, Northfield, Mobius and Morningstar on individual securities, managed accounts, mutual funds, etc. The innovation that is occurring is that data vendors like Prima Capital and Greenrock offer a well-documented, disciplined process for investment manager evaluation/selection and portfolio construction that meet fiduciary standards and transcends access to unmanaged raw data.
Economic Forecast/Research. AIMR, the grantor of the CFA designation, suggests that the prudent investment process begins with a forecast of the overall economy which addresses the issues of inflation, interest rates, corporate profits and potential stock market behavior. Whether the advisor chooses to follow sector rotation with index and sector funds, or goes deeper to determine the specific industries that would benefit from the economic forecast, economic forecasts from firms like Bank Credit Analyst, Economic Analysis Associates or QInsight are an invaluable starting point in portfolio construction.
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Account Aggregation. In order to add value, an advisor must make their recommendation in the context of all their client's holdings, as only then can they determine if their recommendation improved the overall portfolio return of all the client's holdings, reduced risk exposure or enhanced the tax efficiency, liquidity and cost structure of all the client's holdings as a whole. Providing AIMR-compliant reporting on all a client's holdings, incorporating information from multiple custodians has proven to be very, very difficult for our industry's leading financial services firms to achieve. (See Senior Consultant, December 2003, "DTCC Fills Technology Leadership Vacuum" to understand why this is so and how it can be easily resolved.) Yet, today, Yahoo Finance allows clients to directly enter all their holdings and receive, in real-time, updates on the performance of all their holdings. This is the technology required to provide continuous, comprehensive counsel. Today, only Investment Scorecard can provide AIMR-compliant reporting that would incorporate data from virtually any custodian. By All Accounts, Adhesion and Yodlee provide varying degrees of accuracy in the high 90% range in their aggregation of account information from the many various custodians with which they must work. As the DTCC establishes standardized protocol for the transmission of data, which could occur as early as this fall, the cost of AIMR-compliant account aggregation should fall significantly.
Factor Analysis/Performance Attribution Analysis. In 1974, the National Science Foundation financed research by Bar Rosenberg (later the founder of Barra) on the contribution to overall portfolio return of 65 factors, which now characterize attribution analysis or factor analysis. Though this analysis is constrained by the timing and availability of data such as corporate earnings, which is only available quarterly, many factors can be evaluated in real-time today. This analysis can be adjusted (to holdings-based analytics from returns-based analytics) for the investment management style of a manager. So, today, it is possible to understand, in real-time, why a particular manager is performing well or badly within their investment management style peer group. Style-based attribution analysis evaluates the difference between skill and luck. This is the next step beyond performance evaluation that facilitates high level counsel. PPCA's Stocktrib, a style-based attribution analysis, is invaluable in elevating the advisor's counsel. Quantal, Zepher, Vestec, and Northfield are also leading vendors of attribution analysis capability.
Analytical Tools (Post-Modern Portfolio Theory). There have been many innovations since Modern Portfolio Ttheory was first promulgated over 40 years ago, which have greatly elevated the counsel of the financial advisor. Bullrun Financial has empowered the advisor to evaluate a large number of portfolios in real-time with real-time analytics. Bullrun empowers the firms that support us to electronically provide account overview and support which makes compliance to client-approved investment policy and its associated investment strategy readily executable. Quantal, Northfield, Knobias, Yahoo Finance and several other firms provide historic ratio analysis (alpha, beta, etc.) in real-time. Risk Metrics and Barra provide state-of-the-art risk measurement and evaluation capability. Sorino's U-P Ratio provides best thinking in post-MPT performance measurement and its software is free. Financeware's Monte Carlo simulation helps advisors and their clients understand the arbitrary nature of the capital markets and quantify the probability of the client achieving their objectives. There are many other post-Modern Portfolio Theory innovations in web-based analytical tools which can be easily integrated into the advisor's practice that will greatly elevate the advisor's counsel in real-time.
Strategic Asset Allocation. Strategic Asset Allocation presumes if you can define a client in terms of risk, return, tax efficiency, liquidity, cost structure and time, and can define investments in the same way. Using the historical performance characteristics of investments, you gain a mechanism – strategic assets allocation – that will facilitate an investment portfolio to be constructed that coincides with the investor's needs. In fact, 93.6% of investment performance is attributable to determining the right configuration of asset classes in which to invest. There is an extensive array of outsourced asset allocation models to choose from. Ibbotson is one of the most widely used resources for strategic asset allocation. Many advisors and their supporting firms are concerned about the ability of the financial advisor to add value through the engagement of their investment and administrative counsel for an on-going advisory fee. This is mitigated by gaining access to investment methodology such as RowPyn (Senior Consultant, September/October 2001, "Investments Methodology, the Holy Grail of Consulting") and Oberuc's Dynaporte Portfolio Allocation Process (Senior Consultant, March 2004, "How You Could Have Made Money in Equities in the Bear Market of 2000-2002"). There are many resources available which can be brought to bear that can greatly enhance the advisor's ability to construct and manage a large number of custom investment portfolios to include overlay management, which will be discussed later.
Client Relationship Management (CRM). CRM systems organize and manage client communications, and can become an important adjunct to investment policy compliance to note the changing nature of the client portfolio management parameters, permanently recording the performance metrics reported and actions taken. Though CRM technology has yet to be tied to investment policy and reporting, it would be very inexpensive and very valuable to do so in streamlining the books and records of the advisor. Today, CRM is being used as a supercharged telephone book and scheduling technology. ACT and Brokers Ally are the most widely used CRM technologies.
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