Six honest serving men
Paul Fidell, Head of Business Development (Investments), introduces you to the investment special edition of Oracle. He uses Kipling's pithy poem to summarise each article in turn, which cover topics such as asset allocation, alternatives, infrastructure and management.
With the recent publication of the FCA's Asset Management Market Study Final Report, once again putting the asset management industry under the spotlight - this time in areas such as price competition, performance and clarity of objectives – I'm reminded of the importance of advisers being able to carry out proper, in depth, due diligence in the context of those who look after their clients' money.
The importance of this topic cannot be understated, and it's not just about keeping good records for the Regulator - important as that is. As we all know, past performance is not necessarily a reliable guide to future performance and the value of a client's investment can go down as well as up and is not guaranteed. They could get back less than they paid in. So it's far better that we understand how and why the performance was achieved and delivered, rather than simply focusing on one asset manager's number being higher than another.
Suitability comes in many different forms, but in the asset management world it is about the alignment of the asset manager['s thoughts and processes with the requirements of the customer. The adviser's role is to first, understand both sides and second, to marry them together by selecting appropriate managers and funds for use with their clients.
At a simple level this could be about the level of risk being taken - the percentage of equities held within a fund, for example, and whether this is appropriate for the client's requirements, attitude to risk and their capacity for loss. At a more complex level this could be about things such as:
the type of equities being used,
the manager’s approach to the use of currency hedging strategies,
liquidity management or
the ability and capability to invest in wider asset classes to achieve diversification.
Of course, it's possible to outsource much of this due diligence and research to a third party, and there are many firms providing such services. However, the responsibility for the selection of funds ultimately comes down to the advisers themselves. Without fully understanding the people, philosophy and process behind the funds we use, as well as the performance, how can we make the decisions that will fundamentally affect the financial wellbeing of our clients?
The answers to questions about processes
This special edition of Oracle contains a number of relevant articles written by experts working in Prudential's Portfolio Management Group (PPMG). The aim is to provide answers to the questions advisers often ask us about our processes, and more. And where better to start those questions, than with Rudyard Kipling's famous poem:
"I keep six honest serving-men
(They taught me all I knew);
Their names are What and Why and When
And How and Where and Who."
WHAT – is our starting point for asset allocation?
WHERE – do we differentiate ourselves from other asset allocation teams?
WHEN – would I use the PPMG approach?
HOW – can an investor gain access to the PPMG approach?
WHY – does this approach work?
WHO – are the key teams within PPMG?
What, why and who?
asset allocation can take many forms and it's crucial to understand whether a manager utilises Strategic Asset Allocation (SAA) or Tactical Asset Allocation (TAA), or indeed attempts to blend the two approaches in some way. Often the approach being used will not be made crystal clear, with the manager simply referring to "the importance of asset allocation" in a generic way.
Over many years, Prudential has invested considerable time, effort and resources into ensuring that our processes around both SAA and TAA is as efficient and effective as possible; focused on the client outcomes and consistent across all of our fund ranges.
The article from the Long-Term Investment Strategy Team (LTIS) within PPMG provides a comprehensive overview of this process and its outcomes. This article is focused on our SAA approach - what we do, how we go about it and our approach to Capital Market Assumptions and modelling.
The related article from the Investment Research Team then looks at our approach to TAA and how this can complement, and enhance, the work of the LTIS team and, in particular, bring valuable diversification benefits.
The next article looks at how the theory is applied in practice. Looking through the eyes of a portfolio manager, we see the day to day tasks that must be performed to keep a portfolio in shape and in line with the SAA and TAA processes, whilst maintaining appropriate levels of liquidity.
Together, these three articles essentially address the "WHAT", "WHY" and "WHO" questions.
For the "WHERE" question, it is firstly important to acknowledge that there are many multi-asset teams out there; all of them facing exactly the same economic challenges and all of them trying to do the best for their clients. The differentiating factor between them is often as not more about how they go about things, rather than the results they achieve.
At Prudential, our fundamental approach, from a position of considerable financial strength, is to operate as long-term investors. This allows us to potentially make use of 'alternative' asset classes that bring interesting and different characteristics of risk and return to a portfolio, that might not be available to other teams due to time or liquidity constraints.
There is a school of thought that suggests that traditional static asset allocation models, comprising equities, bonds and cash, have run out of road in terms of their ability to diversify for risk management purposes. What is now required, is to look further afield at alternative asset classes, new sources of diversification and, most importantly, to follow an active approach to asset allocation, perhaps employing sophisticated modelling techniques to help shape portfolios. The paradox is that the demands of investors for near immediate access to their investments places constraints on the managers in terms of their ability to make use of these alternative asset classes, many of which are best suited to those with a long-term investment horizon and the capacity to withstand short-term volatility.
As with due diligence, it is possible to outsource this need for active asset allocation and modelling - perhaps making use of 'off the shelf' asset allocation models. While this approach can provide a solution, it does have its limitations. For example, many of these models will restrict themselves to just considering the major, liquid, asset classes.
Here is another clear differentiator with the way in which PPMG operates. Not only do we have bespoke processes around modelling, which are fully aligned to all aspects of our asset allocation approach, but they consider a wide variety of asset classes, both liquid and illiquid.
A final point worth making is that PPMG does actually have "skin in the game" so to speak; with a need to invest your clients’ money in the asset allocation models that we construct. This brings a level of responsibility that is perhaps missing from an off the shelf model, where there is no actual client investment being made by the model provider.
The articles from PPMG's Alternatives team look at:
what we mean by alternatives,
what the risks and rewards are and
the diversification benefits.
There is also a look at our use of infrastructure investment.
That just leaves us with the "WHEN" and "HOW" questions.
I mentioned earlier about the importance of having a consistent approach to asset allocation available across a fund range. That is what PPMG can deliver. As a team, they have responsibility for asset allocation across all the multi-asset funds and/or portfolios operated by Prudential. That means the approach used behind each of the fund ranges listed below follows a consistent methodology. Ideas regarding asset allocation, diversification and risk management are applied equally across these funds in the UK retail funds universe:
The PruFund range of funds
Prudential's With-Profit funds
The Dynamic Focused Portfolios
The Dynamic Portfolios
Furthermore, these funds are also available for your clients to use through a wide variety of different tax wrappers, including:
|PruFund Growth||PruFund Cautious||Risk Managed Funds||Dynamic Focused Portfolios*****||Dynamic Portfolios*****|
|Prudential Retirement Account**||✓||✓||✓||✓||✓|
|Flexible Retirement Plan||✓||✓||✓||✓***||✓|
|Prudential Investment Plan||✓||✓||✓||✓***||✓|
|Prudential International Investment Bond available with currency options for PruFund Growth and PruFund Cautious • Sterling • Euro • US Dollar||✓||✓||✓||✓***||✓|
|Trustee Investment Plan||✓||✓||✓||✓***||✓|
* Capita Financial Managers are responsible for all the regulatory and legal aspects of the OEIC funds. Accordingly, OEIC fund names are prefixed with “CF”.
** The Prudential Retirement Account invests in the OEIC versions of the portfolios while the other products invest in the Unit Linked versions. The Unit Linked versions generally have a slightly larger proportion of their holdings in cash and may have different charging and taxation costs. This will mean their investment performance will be different to their OEIC equivalent.
*** Just two of the Dynamic Focused Portfolios are included: the Dynamic Focused 0-30 Portfolio and Dynamic Focused 20-55 Portfolio.
**** Just one of the Dynamic Focused Portfolios is included: the Dynamic Focused 0-30 Portfolio.
***** M&G Investment Management Ltd, part of the Prudential Group, are the investment managers for the Dynamic Portfolios and the Dynamic Focused Portfolios. They make the relevant adjustments to the portfolios based on PPMG’s asset allocation recommendations.
To bring everything neatly full circle, our final article looks at manager oversight and the due diligence process that PPMG themselves follow when dealing with fund managers, both within and outside the Prudential Group.
Of particular relevance to funds such as PruFund, the process and methodology are equally applicable to many of our other multi-asset funds. In many respects, the comprehensive structure we have in place is perhaps a good starting point as an indicator of the sorts of due diligence that any adviser should be conducting on the fund managers they are using.
ARTICLE by The Technical Team
Understand the corporation tax implications of a company investing in an insurance bond.
ARTICLE by The Technical Team
Chargeable event gains on bonds and Capital Gains Tax QA
Answers to questions from advisers on the interaction of chargeable event gains on a bond and capital gains tax.
5% Tax Deferred Allowance for bonds: Q&A
Questions from advisers answered about the 5% tax deferred allowance and how it relates to chargeable event gains on bonds.