PE = Performance Evaluation MCP = Manager Continuation Policies CML = Capital Market Line HF = Hedge Funds YC = Yield Curve Performance Evaluation Performance Measurement Performance Att
Trang 1“ EVALUATING PORTFOLIO PERFORMANCE ”
1 INTRODUCTION
Calculating accounts’
performance based on investment related∆
PE = Performance Evaluation
MCP = Manager Continuation Policies
CML = Capital Market Line
HF = Hedge Funds
YC = Yield Curve
Performance Evaluation
Performance Measurement Performance Attribution Performance Appraisal
Analyzing sources of return&
importance of those sources
was generated due to skills or luck
Assessing size & consistency
of accounts’ relative to performance
2 THE IMPORTANCE OFPERFORMANCE EVALUATION
2.1 The Fund Sponsor's Perspective
Fund sponsors ⇒ owners of large pools of investable assets
It provides an exhaustive quality control check of the fund & its constituent parts
It acts as a feedback & control mechanism
2.2 The Investment Manager's Perspective
return of some benchmark
processes
3 THE THREE COMPONENTS OFPERFORMANCE EVALUATION
Account ⇒ one or more portfolios of securities managed by one or more investment management organizations
Trang 24.1 Performance Measurement without Intra-period External Cash Flows
= − −
defined period of time after considering all external CF (contributions
& withdrawals)
If contribution is received at the start of the period:
4 PERFORMANCE MEASUREMENT
4.2 Total Rate of Return
income & capital gains
4.3 The Time-Weighted Rate of Return
period of one unit of money initially invested in the account
& withdrawals made by clients
Not affected by external CF
Advantage/Disadvantage of TWR
CF occurs
& potentially more error prone
4.4 The Money-Weighted Rate of Return
in the account over the entire evaluation period
Trang 3A/C is valued at beginning & end of the evaluation period
Advantage/Disadvantage of MWR
Sensitive to size & timing of external CF
over external CF
4.5 TWR versus MWR
performance MWR > TWR
MWR & TWR provide significantly different results if:
4.6 The Linked Internal Rate of Return
frequent time intervals & then chain links over the entire evaluation period
4.7 Annualized Return
− 1
period < full year
4.8 Data Quality Issues
Illiquid & infrequently priced assets with heavy external CF activity generally not reliable in nature
5.1 Concept of a Benchmark
portfolio-benchmark
P=M+S+A
5 BENCHMARKS
Trang 45.2 Properties of a Valid Benchmark
Unambiguous ⇒ clearly defined identities & weights
Investable ⇒ passive investment alternative
Measureable ⇒ return can be readily calculate
Appropriate ⇒ consistent with manager’s style
Reflective of current investment opinions
Specified in advance ⇒ known to all interested parties at the start of evaluation period
Owned ⇒ manager should be aware & accept accountability
5.3 Types of Benchmarks
Absolute
criteria (not investable)
Manager’s Universes
Median manager or fund from a broad universe of mangers or funds as a benchmark
benchmark validity criteria
Advantage
Measureable
Broad Market Indexes
Disadvantages
Broad market indexes as benchmark e.g S&P 500
Style drift Advantages
Measureable & investable
Style Indexes
Using specific portion of asset category as benchmark
in certain securities
manager’s investment process
Advantages
Well known & easy to understand
Trang 5Factor Model Based
of return to the returns on an account
Normal portfolio ⇒ portfolio which has exposures to sources
of systematic risk factors that is typical for a manager
Difficult to obtain & expensive
to use
same factor exposures can generate different returns
Advantage
Facilitate manager & fund sponsors to better understand manager’s investment style
Return Based Benchmarks
These benchmarks are constructed using the series of a manager &
investment style index’s return
manager’s investment process
required
who rotate among style exposures
Advantages
Intuitive & easy to use
investable & specified in advance
information regarding account return is available
Custom Security-Based
Reflect manager’s research universe weighted in a particular manner
Expensive to construct &
maintain
Advantage
validity criteria
Effective allocation of risk across all the investment managers
Effective monitoring & control
of investment processes
5.6 Tests of Benchmark Quality
biases relative to the account (Avg historical β
of A/C should be close to 1)
Difference b/w (P-M) & S should be highly correlated
Volatility of account’s return relative to a good benchmark should be < than volatility of the account’s return relative to a market index
Trang 65.6Tests of Benchmark Quality
similar to those of benchmark
Systematic bias if A/C’s risk characteristics are always greater or always less than benchmark
poor
purchased/sold for the purpose of periodic rebalancing
Passively managed portfolio ⇒low benchmark turnover
Large no of +ve active positions ⇒ good custom security based benchmark has to be constructed
5.7 Hedge Funds and Hedge Fund Benchmarks
evaluate HF performance due to short positions
traditional methods to calculate return does not yield reliable results
Hedge Fund Benchmarks
= −
Limitation ⇒ not appropriate if rapidly changing leveraged positions
Limitations ⇒ assume normal distribution
6 PERFORMANCE ATTRIBUTION
Macro attribution ⇒ conducted at the fund sponsor level (total fund performance)
Micro attribution ⇒ carried out at the investment manager level (performance of individual portfolios)
Trang 76.1 Impact Equals Weight Times Return
benchmark
6.2 Macro Attribution Overview
6.3 Macro Attribution Inputs
Policy Allocations Benchmark Portfolio Returns
fund & individual managers
Fund sponsor’s risk tolerance & liabilities
category
Fund Returns, Valuations, and External CF
Computing fund return at individual manager level to evaluate decision regarding manager selection
accurate rate of return
decision-making on the fund’s performance
6.4 Conducting a Macro Attribution Analysis
increasing order of volatility & complexity
contribution of each level to the overall return of the fund
Macro Attribution Components
contributions
at RF
strategy-beginning value
Trang 8Macro Attribution Components
Fund’s beginning value & external CF are invested passively based on policy allocations
where
= return on ith asset category
= weight of asset category i
invested in manager’s benchmark
sum (each manger’s policy proportion of the total fund’s
return – return of the manager’s asset category)
× × ܣ−ܤ
the manager according to the manager’s policy allocation
managers’ return – their benchmark return)
Return metric perspective:
Allocation effects incremental contribution= fund’s ending value-value calculated at the investment manager’s level
deviate from their policy allocation
6.5 Micro Attribution Overview
! "−" − #
Limitation ⇒ as the no of securities in a portfolio the impact of any individual security becomes insignificant
6.6 Sector Weighting/Stock Selection Micro Attribution
Advantage ⇒ only holdings & their returns are required to perform attribution analysis
Limitation ⇒ ignores the impact of
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Pure sector allocation:
Within sector selection:
assumes same sector weight in portfolio as in benchmark
Allocation selection interaction:
Trang 96.7 Fundamental Factor Model Micro Attribution
at the beginning of evaluation period
of the factors
6.8 Fixed-Income Attribution
∆ in general level of IR
∆ in sector, credit quality, individual security differentials to the Y.C
Factors That Contribute to Total Return of F.I Portfolio
analysis
IR environment
separated into expected & unexpected return
7 PERFORMANCE APPRAISAL
Performance appraisal ⇒evaluation of investment skill of managers & to make decisions regarding retaining or modifying portion of investment program
manager’s skill
7.1 Risk-Adjusted Performance Appraisal Measures
that predicted by CAPM
= ಷ
ಲ
Represents the slope of the line b/w RF & the point representing the avg return &β for the security
Trang 107.1 Risk-Adjusted Performance Appraisal Measures
& =ಲ
ಲ
risk return trade off
hypothetical portfolio that is created by combining the account with borrowing or lending at Rf so that its SD is identical to the market index
= +' ಲ
ಲ ( )*
Information Ratio
+, = ಲ ಳ
ಲಳ
outperforms (underperforms) the benchmark
7.2 Quality Control Charts
Assumptions:
Null hypothesis ⇒ manager has no investment skill
Confidence band ⇒indicates the range within which the manager’s value added returns are expected to fall
7.3 Interpreting the Quality Control Chart
around the horizontal line ⇒ deviations from the benchmark are purely random
manager fall within the confidence band
8 THE PRACTICE OF PERFORMANCE EVALUATION
Sponsors use qualitative & quantitative factors to evaluate investment managers
8.1 Noisiness of Performance Data
determine truly superior performance
Trang 118.2 Manager Continuation Policy
cost in terms of money & time
MCP ⇒ to the costs of manager’s turnover & to deal appropriately with future poor performance
procedures to overall managers
8.3 Manager Continuation Policy as a Filter
managers & retain +ve value added mangers
Null hypothesis ⇒ manager has no investment skill
Alternative hypothesis ⇒ managers are not zero value added managers
Type I error ⇒rejecting the null hypothesis when it is true
Type II error ⇒ not rejecting the null when it is incorrect
type II error
... investment manager’s leveldeviate from their policy allocation
6.5 Micro Attribution Overview
! & #34 ;−& #34 ; − #... general level of IR
∆ in sector, credit quality, individual security differentials to the Y.C
Factors That Contribute to Total Return of F.I Portfolio
analysis
IR environment... Confidence band ⇒indicates the range within which the manager’s value added returns are expected to fall
7 .3 Interpreting the Quality Control Chart
around the horizontal line ⇒ deviations