effectively communicating investment performance to clients
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS MAINSTREET ADVISORS
AS ADVISORS, WE ARE BY OUR NATURE COMPELLED TO FOCUS ON INVESTMENT PERFORMANCE IN DISCUSSIONS WITH CLIENTS. TO EFFECTIVELY COMMUNICATE INVESTMENT PERFORMANCE, A LOGICAL, CONSISTENT, AND COMPREHENSIVE PROCESS IS IMPERATIVE. WE ARE, HOWEVER, KEENLY AWARE THAT IF WE LEAN EXCESSIVELY ON OUR PERFORMANCE RECORD, WE RISK TOPPLING OVER CLIENT RELATIONSHIPS WHEN [NOT IF] WE ENTER BEAR MARKETS OR PERIODS OF LACKLUSTER BENCHMARK-RELATIVE RETURNS.
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
BENCHMARKING
NOTHING CREATES MORE SKEPTICISM ON THE PART OF A CLIENT THAN A BENCHMARKING STRUCTURE THAT IS EITHER OVERLY COMPLEX OR CONSTANTLY CHANGING.
When it comes to effectively communicating investment performance to clients, there is perhaps no more important tool than benchmarking. Benchmarks are the market return reference points against which client portfolio performance is measured. Benchmarking can occur anywhere from the total portfolio level all the way down to each individual security. When designing a system for benchmarking, there are a number of important practical and philosophical details to consider. First, your benchmarks must be generally accepted by the industry. Save for unique satellite asset classes that justify similarly unique benchmarks, stick with well known benchmarks with which clients are more likely to be familiar. Second, your chosen benchmarks must be clear and consistent. Nothing creates more skepticism on the part of a client than a benchmarking structure that is either overly complex or constantly changing. While it may be that this is a result of an effort to construct something that is apples-to-apples to the client portfolio, be aware that a complex and changing benchmark scheme may likely convey the opposite of the intended message. Consider the value of a benchmarking structure that allows for the demonstration of the relative value of both security selection and asset allocation decision making. Taking a “balanced” portfolio as an example, adopt both a blended and a static benchmark.
The blended benchmark is a traditional apples-toapples total portfolio benchmark, composed of a multitude of indexes blended on the basis of the client’s average asset allocation over time. In addition to the additional complexity, this approach does not allow for a discussion on the impact of asset allocation positioning. So, as a complement, we introduce a static benchmark. A static benchmark is a hyper-simplified total portfolio benchmark that does not change over time, save for in situations where a client’s overall investment objective is meaningfully augmented. In the case of the aforementioned example “balanced” portfolio, this would be a 50% allocation to a broad equity benchmark (MSCI ACWI), a 45% allocation to a broad fixed income benchmark (BB Aggregate), and a 5% allocation to cash (Lipper Money Market). The intention here is to construct a benchmark that is representative of what a client’s portfolio would look like if it were constructed using the fewest number of passive instruments to cover the greatest swath of the market. In other words, what would the portfolio look like if the client constructed it with minimum effort and investment expertise? Taken together, these two total portfolio benchmarks allow for a robust discussion with clients on the impact of both security selection and asset allocation decisions.
BENCHMARKING – STATIC VERSUS BLENDED BENCHMARK BLENDED BENCHMARK 5.00% 5.04%
STATIC BENCHMARK 5%
18.01%
4.79% 2.77% 3.02% 7.29% 4.64%
45%
3.98% 50% 10.73% 30.05%
S&P 500 RUSSEL 2000 MSCI EAFE EM BOFAML NON-US BOND GLOBAL REAL ESTATE COMMODITIES
4.69%
S&P 400 MSCI EAFE BOFAML 1-10YR GOVT/CREDIT BOFAML HIGH YIELD GLOBAL INFRASTRUCTURE LIPPER MONEY MARKET
MSCI ACWI BB AGGREGATE LIPPER MONEY MARKET
FOR ILLUSTRATIVE PURPOSES ONLY.
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
3
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
RISK-ADJUSTED RETURNS
investment performance. Were the returns sufficient enough to warrant the risk taken to earn them?
While a deep discussion on the hows and the whys of the performance story is critical, a more fundamental building block for effective advisorclient communication is an understanding of riskadjusted performance. We find it helpful to view client portfolio returns in the context of the risk assumed, as a form of check-and-balance for us as advisors and portfolio architects. It can be easy to produce outsized returns, especially over shorter periods of time, when no consideration is given for the risk or volatility implications of those decisions. For this reason, we recommend following up a discussion on absolute and benchmark-relative portfolio returns with an analysis of the risk and return metrics for that portfolio.
Putting this risk-return analysis together in a package that can be digested by clients can be a challenge. Consider the approach found in the diagram below. This diagram plots a client’s portfolio on the basis of total return and standard deviation, relative to the simplified total portfolio benchmark discussed earlier. That benchmark, represented by the independent variable (IV) is found at the point where each of the lines intersect. The relative positioning of the client’s portfolio, described by the letter A, is critical. In this example, the client’s portfolio (A) is above and to the left of the benchmark (IV). Therefore, for this analysis period, the portfolio has posted a higher annualized total return, and did so with less risk. It is important to also note the third data point on the diagram – the risk free portfolio (RF). We include the risk free rate, with a line drawn through it and through the benchmark, to express a kind of portfolio efficiency slope. As clients have different objectives and goals, it is neither reasonable nor appropriate to expect every client portfolio to exhibit both greater returns and lower risk. The key is portfolio efficiency, which is to say that we want incrementally more return for each unit of risk assumed. It may be perfectly appropriate for a portfolio to have 20 percent more risk than the benchmark, so long as this is supported by incrementally more return. In other words, we want client portfolios to fall somewhere above the diagonal line drawn on the diagram.
In the simplest terms, risk in an asset or a portfolio can be expressed using standard deviation, which is a measure of the volatility or dispersion of a portfolio’s returns. The beta statistic, however, introduces systematic (market) risk and represents how likely an asset or a portfolio is to respond to movements in the broad market. A portfolio’s alpha, which incorporates beta and is perhaps the single most useful measurement of risk-adjusted return, seeks to articulate for clients how much excess return was provided through the active management of the portfolio. This highlights a common error which is evaluating a portfolio by looking solely at returns. A look at a portfolio’s alpha answers the essential question everyone should ask when evaluating
RISK-ADJUSTED RETURNS ANALYSIS 36 32
MORE RETURN, LESS RISK
MORE RETURN, MORE RISK
28 24 RETURN (%)
20 16
A
IV
12 8 4 0
RF
-4 -8 -12
LESS RETURN, MORE RISK
LESS RETURN, LESS RISK 1
3
5
7
9
11
13
15
17
19
21
23
25
27
29
RISK (STANDARD DEVIATION)
A IV RF
ACCOUNT NUMBER 123456789
SOURCE: GREENHILL
4
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
DESCRIPTION Client Portfolio Benchmark Citi T-Bill 1-Mo
ANNUAL RETURN 15.77 14.46 0.07
STANDARD DEVIATION 11.64 14.49 0.02
ALPHA 4.73 0.00 0.00
BETA 0.74 1.00 0.00
R-SQUARED 0.86 1.00 N/A
BEG DATE 12/31/11 12/31/11 12/31/11
END DATE 12/31/16 12/31/16 12/31/16
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
PERFORMANCE ATTRIBUTION
that are necessary for successful discussions with clients start within your own team. Effective internal communication is the essential first step.
In addition to the value derived from a detailed discussion on the sources of outperformance and underperformance at the total portfolio level, it can be even more meaningful to discuss performance attribution with our more sophisticated clients at a portfolio segment level. Illuminating this for those clients is especially vital when it comes to proprietary individual security strategies. A detailed attribution analysis similar to the one found below for a domestic large cap equity strategy can be a critical tool in an effort to articulate for clients where exactly you are adding value in their portfolio. This analysis examines sector overweights and underweights (bars on the left), and breaks down total attribution into its allocation and security selection components (bars on the right). The result is a detailed analysis that can be further broken down to study even a single security’s individual impact on total portfolio outperformance/ underperformance.
Amongst the team of individuals involved in the portfolio construction process, a clear, collaborative, and consistent process allows for everyone to be on the same page. Build a structured investment research process and decision-making mechanism, while also encouraging all those involved to practice similar behaviors and preach an investment philosophy that is consistent with the team’s overarching goals as asset managers. This approach, perhaps more importantly, then must extend to all other client-facing team members who are not involved in portfolio construction, but are charged with communicating the process and investment results to clients. Solicit feedback, share your agreed-upon benchmarking structure, and spearhead internal communications to encourage consistency of message and philosophy. These communications should include educational sessions, economic and market publications, and regularly scheduled conference calls to keep all team members apprised of any important developments. We should leave no stone unturned in the effort to communicate our best thinking to our clients.
COMMUNICATION IS KEY
THE COMMUNICATION
Given the topic of this paper, it should go without saying that effective communication skills are a fundamental tool for success. At this point, it should also be abundantly clear that a robust discussion on investment performance can very quickly find you behind the wheel of the proverbial car that has run afoul of the client’s stated directions and into the weeds. The communication building blocks
In communicating investment results with clients, there are a number of risks at play – some less apparent than others. Indeed, ineffective internal
BUILDING BLOCKS THAT ARE NECESSARY FOR SUCCESSFUL DISCUSSIONS WITH
ATTRIBUTION ANALYSIS
CLIENTS START WITHIN YOUR
ATTRIBUTION EFFECTS
AVERAGE WEIGHT DIFFERENCE
OWN TEAM.
3.39%
EFFECTIVE INTERNAL
3.00%
CONSUMER DISCRETIONARY
COMMUNICATION
1.45%
CONSUMER STAPLES
IS THE ESSENTIAL
1.40%
INDUSTRIALS
0.86%
FIRST STEP.
-0.13 0.11 0.10
TELECOMMUNICATION SERVICES
0.14%
-0.04
FINANCIALS
-0.34%
-0.02
UTILITIES
-0.53%
0.01
CASH
-1.69%
INFORMATION TECHNOLOGY
0.01 -0.15
ENERGY
-2.01% -2.84%
MATERIALS
-2.84% -4%
0.33
HEALTH CARE
0.04 -0.02 0.04
REAL ESTATE -2%
0%
RETURN SUMMARY PORTFOLIO RETURN BENCHMARK RETURN ACTIVE RETURN
2% 1.46 1.19 0.27
4%
-0.1
0
0.1
0.2
0.3
0.4
ACTIVE RETURN ATTRIBUTION SUMMARY ACTIVE RETURN 0.27 ALLOCATION 0.07 SELETION 0.20 CURRENCY 0.00
SOURCE: BLOOMBERG
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
5
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
communication or a lack of structure in your process and philosophy will – at best – delay the decision making process. At worst, we confront the risk of suboptimal decision making. In reality, however, we would argue that poor decision making is not a worst case scenario. The perception of poor performance is your greatest enemy. Without a thoughtful and thorough understanding of what matters most to each client, you will be in a perpetual state of risk of that client perceiving that their performance is just not good enough – regardless of what the benchmarks indicate.
equity. While the index’s (S&P 500) absolute returns are stellar, coming in at nearly 15% per year over the past five years, mutual fund managers have struggled mightily to keep pace. According to Morningstar, an estimate of the average large cap core mutual fund manager total return during that time was just over 13%. A respectable absolute return figure to be sure, but well behind the benchmark return posted by the S&P 500. In fact, in order to post a return higher than the benchmark over that same five-year period, a mutual fund manager would have had to have been in the 14th percentile amongst its peers. If we look out over the last ten years, the bar lowers, but still comes in at a lofty 21st percentile.
THE ACTIVE VERSUS PASSIVE DEBATE When it comes to justifying our existence as advisors, there is perhaps no greater existential threat than the growing – and typically cyclical – chorus touting the superiority of passive investing. It is no secret that the historic bull market over the better part of the last decade has brought with it a structural challenge for active managers, in particular for those operating in the more mature and efficient spaces of the market. Over the past 5-10 years, a concerning trend has emerged in an asset class that has been an area of focus amongst active managers – large cap domestic
The lesson here is that periods of low volatility or cycles during which an awareness for and understanding of risk are not rewarded can persist for longer than you may realize. It is imperative that during these periods where relative returns are not objectively favorable, our performance discussions are structured in such a way that other areas of our value proposition for clients can be easily demonstrated.
1 YEAR 2 YEAR 3 YEAR 5 YEAR AVERAGE LCB* FUND TOTAL RETURN
10.64%
S&P 500 INDEX TOTAL RETURN
11.96%
RANK NEEDED TO BEAT S&P 500 (%)
26th
SOURCE: MORNINGSTAR, INC. *LCB: LARGE CAP BLEND
6
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
4.67%
6.92%
13.21%
6.54%
8.87%
14.66%
12th
5th
14th
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
HOW DO WE AMPLIFY THE VALUE PROPOSITION?
SUSTAINABLE
1.
Allow your client to passively steer the conversation. Identify a topical discussion point or a client interest, and use that to guide the conversation and paint the broad performance picture. Pick one or two charts, and use them to tell a story. If a venture into the weeds is of value to the client, this discussion will guide you there organically.
2.
Resist the urge to talk at your client. Performance reviews are not presentations. It is an opportunity to address client concerns, answer questions, and reaffirm client goals and objectives.
3.
Give clients a peek behind the curtain. Too often, we see advisors underestimate clients. Professional looking materials, detailed and technical economic/market data, and investment process background are more than just window dressing. While most clients will review and understand a small portion of what is provided, strong supplementary materials establish credibility – at the very least. Do not shy away from giving clients a glimpse into the significant depth of work behind constructing their portfolio.
4.
Solicit feedback. While this should go without saying, it is important to solicit feedback on the effectiveness of your investment performance discussions. Discuss your communication methods with each of your clients (we tend to follow a template). Do not underestimate the importance of soliciting feedback from your colleagues – particularly those charged with sharing the message directly with clients.
5.
Play to your firm’s strengths. Avoid the common pitfall of presenting yourself (or your firm) as something you are not. If you are a boutique or local shop, emphasize your nimbleness and individual client focus. If you are a recognized brand, focus on the breadth of resources you can bring to bear for your clients. Your client is, ostensibly, with you for a reason.
6.
Build customized relationships, not customized portfolios. By and large, our clients should have access to all of our best ideas. While some degree of customization is often necessary, avoid the trap of using the portfolio itself to convey to clients that what they are getting is bespoke. The custom-tailored element should be your interactions with the client, and the additional value you can add based on their unique needs.
VALUE COMES THROUGH TRULY UNDERSTANDING THE ISSUES FACING CLIENTS FROM THEIR PERSPECTIVE, REDUCING THE COMPLEXITY IN THEIR LIVES, AND GIVING THEM THE FREEDOM TO PURSUE THE THINGS THEY LOVE.
As noted throughout, the key to effectively communicating investment performance often involves focusing on aspects other than strict benchmark-relative investment performance. The more and better we communicate with our clients – and the broader the set of topics covered – the more likely we are to uncover other areas where they need our advice/consultation. A more holistic conversation allows for the establishment of goalsbased performance and financial advice. Does the client have a total return bogey? Does the client have an above average aversion to negative performance periods? Does the client care more about volatility, tax minimization, or do any other non-performance-related topics dominate your conversations? Is the client working towards a specific goal? Who is the client? What is important to them? What concerns them? Even consistently excellent investment performance cannot guarantee a successful advisor-client relationship. Sustainable value comes through truly understanding the issues facing clients from their perspective, reducing the complexity in their lives, and giving them the freedom to pursue the things they love.
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
7
The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. This presentation is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and makes no implied or express recommendations concerning the manner in which any client’s account should or would be handled, as appropriate investment strategies depend upon the client’s investment objectives. The portfolio risk management process and the process of building efficient portfolios includes an effort to monitor and manage risk, but should not be confused with and does not imply low or no risk. Diversification does not assure a profit or protect against loss. Traditional and Efficient Portfolio Statistics include various indices that are unmanaged and are a common measure of performance of their respective asset classes. The indices are not available for direct investment. Past performance is not indicative of future results, which may vary. The value of investments and the income derived from investments can go down as well as up. Future returns are not guaranteed, and a loss of principal may occur. Investing for short periods may make losses more likely. The opinions expressed are those of MainStreet Advisors. This information is subject to change at any time, based on market and other conditions. The information presented has been obtained with care from sources believed to be Reliable, but is not guaranteed. Member and/or officers may have material ownership interest in investment mentioned. Any investments purchased or sold are not deposit accounts and are not endorsed by or insured by the Federal Deposit Insurance Corporation (FDIC), are not obligations of the Bank, are not guaranteed by the Bank or any other entity and involve investment risk, including possible loss of principal. MainStreet Advisors and “Bank” are independently owned and operated. WPCIP001_042617
MAINSTREET ADVISORS
120 N LASALLE, 33RD FLR CHICAGO, IL 60602 312.223.0270 MAINSTREETADV.COM
AS ADVISORS, WE ARE BY OUR NATURE COMPELLED TO FOCUS ON INVESTMENT PERFORMANCE IN DISCUSSIONS WITH CLIENTS. TO EFFECTIVELY COMMUNICATE INVESTMENT PERFORMANCE, A LOGICAL, CONSISTENT, AND COMPREHENSIVE PROCESS IS IMPERATIVE. WE ARE, HOWEVER, KEENLY AWARE THAT IF WE LEAN EXCESSIVELY ON OUR PERFORMANCE RECORD, WE RISK TOPPLING OVER CLIENT RELATIONSHIPS WHEN [NOT IF] WE ENTER BEAR MARKETS OR PERIODS OF LACKLUSTER BENCHMARK-RELATIVE RETURNS.
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
BENCHMARKING
NOTHING CREATES MORE SKEPTICISM ON THE PART OF A CLIENT THAN A BENCHMARKING STRUCTURE THAT IS EITHER OVERLY COMPLEX OR CONSTANTLY CHANGING.
When it comes to effectively communicating investment performance to clients, there is perhaps no more important tool than benchmarking. Benchmarks are the market return reference points against which client portfolio performance is measured. Benchmarking can occur anywhere from the total portfolio level all the way down to each individual security. When designing a system for benchmarking, there are a number of important practical and philosophical details to consider. First, your benchmarks must be generally accepted by the industry. Save for unique satellite asset classes that justify similarly unique benchmarks, stick with well known benchmarks with which clients are more likely to be familiar. Second, your chosen benchmarks must be clear and consistent. Nothing creates more skepticism on the part of a client than a benchmarking structure that is either overly complex or constantly changing. While it may be that this is a result of an effort to construct something that is apples-to-apples to the client portfolio, be aware that a complex and changing benchmark scheme may likely convey the opposite of the intended message. Consider the value of a benchmarking structure that allows for the demonstration of the relative value of both security selection and asset allocation decision making. Taking a “balanced” portfolio as an example, adopt both a blended and a static benchmark.
The blended benchmark is a traditional apples-toapples total portfolio benchmark, composed of a multitude of indexes blended on the basis of the client’s average asset allocation over time. In addition to the additional complexity, this approach does not allow for a discussion on the impact of asset allocation positioning. So, as a complement, we introduce a static benchmark. A static benchmark is a hyper-simplified total portfolio benchmark that does not change over time, save for in situations where a client’s overall investment objective is meaningfully augmented. In the case of the aforementioned example “balanced” portfolio, this would be a 50% allocation to a broad equity benchmark (MSCI ACWI), a 45% allocation to a broad fixed income benchmark (BB Aggregate), and a 5% allocation to cash (Lipper Money Market). The intention here is to construct a benchmark that is representative of what a client’s portfolio would look like if it were constructed using the fewest number of passive instruments to cover the greatest swath of the market. In other words, what would the portfolio look like if the client constructed it with minimum effort and investment expertise? Taken together, these two total portfolio benchmarks allow for a robust discussion with clients on the impact of both security selection and asset allocation decisions.
BENCHMARKING – STATIC VERSUS BLENDED BENCHMARK BLENDED BENCHMARK 5.00% 5.04%
STATIC BENCHMARK 5%
18.01%
4.79% 2.77% 3.02% 7.29% 4.64%
45%
3.98% 50% 10.73% 30.05%
S&P 500 RUSSEL 2000 MSCI EAFE EM BOFAML NON-US BOND GLOBAL REAL ESTATE COMMODITIES
4.69%
S&P 400 MSCI EAFE BOFAML 1-10YR GOVT/CREDIT BOFAML HIGH YIELD GLOBAL INFRASTRUCTURE LIPPER MONEY MARKET
MSCI ACWI BB AGGREGATE LIPPER MONEY MARKET
FOR ILLUSTRATIVE PURPOSES ONLY.
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
3
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
RISK-ADJUSTED RETURNS
investment performance. Were the returns sufficient enough to warrant the risk taken to earn them?
While a deep discussion on the hows and the whys of the performance story is critical, a more fundamental building block for effective advisorclient communication is an understanding of riskadjusted performance. We find it helpful to view client portfolio returns in the context of the risk assumed, as a form of check-and-balance for us as advisors and portfolio architects. It can be easy to produce outsized returns, especially over shorter periods of time, when no consideration is given for the risk or volatility implications of those decisions. For this reason, we recommend following up a discussion on absolute and benchmark-relative portfolio returns with an analysis of the risk and return metrics for that portfolio.
Putting this risk-return analysis together in a package that can be digested by clients can be a challenge. Consider the approach found in the diagram below. This diagram plots a client’s portfolio on the basis of total return and standard deviation, relative to the simplified total portfolio benchmark discussed earlier. That benchmark, represented by the independent variable (IV) is found at the point where each of the lines intersect. The relative positioning of the client’s portfolio, described by the letter A, is critical. In this example, the client’s portfolio (A) is above and to the left of the benchmark (IV). Therefore, for this analysis period, the portfolio has posted a higher annualized total return, and did so with less risk. It is important to also note the third data point on the diagram – the risk free portfolio (RF). We include the risk free rate, with a line drawn through it and through the benchmark, to express a kind of portfolio efficiency slope. As clients have different objectives and goals, it is neither reasonable nor appropriate to expect every client portfolio to exhibit both greater returns and lower risk. The key is portfolio efficiency, which is to say that we want incrementally more return for each unit of risk assumed. It may be perfectly appropriate for a portfolio to have 20 percent more risk than the benchmark, so long as this is supported by incrementally more return. In other words, we want client portfolios to fall somewhere above the diagonal line drawn on the diagram.
In the simplest terms, risk in an asset or a portfolio can be expressed using standard deviation, which is a measure of the volatility or dispersion of a portfolio’s returns. The beta statistic, however, introduces systematic (market) risk and represents how likely an asset or a portfolio is to respond to movements in the broad market. A portfolio’s alpha, which incorporates beta and is perhaps the single most useful measurement of risk-adjusted return, seeks to articulate for clients how much excess return was provided through the active management of the portfolio. This highlights a common error which is evaluating a portfolio by looking solely at returns. A look at a portfolio’s alpha answers the essential question everyone should ask when evaluating
RISK-ADJUSTED RETURNS ANALYSIS 36 32
MORE RETURN, LESS RISK
MORE RETURN, MORE RISK
28 24 RETURN (%)
20 16
A
IV
12 8 4 0
RF
-4 -8 -12
LESS RETURN, MORE RISK
LESS RETURN, LESS RISK 1
3
5
7
9
11
13
15
17
19
21
23
25
27
29
RISK (STANDARD DEVIATION)
A IV RF
ACCOUNT NUMBER 123456789
SOURCE: GREENHILL
4
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
DESCRIPTION Client Portfolio Benchmark Citi T-Bill 1-Mo
ANNUAL RETURN 15.77 14.46 0.07
STANDARD DEVIATION 11.64 14.49 0.02
ALPHA 4.73 0.00 0.00
BETA 0.74 1.00 0.00
R-SQUARED 0.86 1.00 N/A
BEG DATE 12/31/11 12/31/11 12/31/11
END DATE 12/31/16 12/31/16 12/31/16
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
PERFORMANCE ATTRIBUTION
that are necessary for successful discussions with clients start within your own team. Effective internal communication is the essential first step.
In addition to the value derived from a detailed discussion on the sources of outperformance and underperformance at the total portfolio level, it can be even more meaningful to discuss performance attribution with our more sophisticated clients at a portfolio segment level. Illuminating this for those clients is especially vital when it comes to proprietary individual security strategies. A detailed attribution analysis similar to the one found below for a domestic large cap equity strategy can be a critical tool in an effort to articulate for clients where exactly you are adding value in their portfolio. This analysis examines sector overweights and underweights (bars on the left), and breaks down total attribution into its allocation and security selection components (bars on the right). The result is a detailed analysis that can be further broken down to study even a single security’s individual impact on total portfolio outperformance/ underperformance.
Amongst the team of individuals involved in the portfolio construction process, a clear, collaborative, and consistent process allows for everyone to be on the same page. Build a structured investment research process and decision-making mechanism, while also encouraging all those involved to practice similar behaviors and preach an investment philosophy that is consistent with the team’s overarching goals as asset managers. This approach, perhaps more importantly, then must extend to all other client-facing team members who are not involved in portfolio construction, but are charged with communicating the process and investment results to clients. Solicit feedback, share your agreed-upon benchmarking structure, and spearhead internal communications to encourage consistency of message and philosophy. These communications should include educational sessions, economic and market publications, and regularly scheduled conference calls to keep all team members apprised of any important developments. We should leave no stone unturned in the effort to communicate our best thinking to our clients.
COMMUNICATION IS KEY
THE COMMUNICATION
Given the topic of this paper, it should go without saying that effective communication skills are a fundamental tool for success. At this point, it should also be abundantly clear that a robust discussion on investment performance can very quickly find you behind the wheel of the proverbial car that has run afoul of the client’s stated directions and into the weeds. The communication building blocks
In communicating investment results with clients, there are a number of risks at play – some less apparent than others. Indeed, ineffective internal
BUILDING BLOCKS THAT ARE NECESSARY FOR SUCCESSFUL DISCUSSIONS WITH
ATTRIBUTION ANALYSIS
CLIENTS START WITHIN YOUR
ATTRIBUTION EFFECTS
AVERAGE WEIGHT DIFFERENCE
OWN TEAM.
3.39%
EFFECTIVE INTERNAL
3.00%
CONSUMER DISCRETIONARY
COMMUNICATION
1.45%
CONSUMER STAPLES
IS THE ESSENTIAL
1.40%
INDUSTRIALS
0.86%
FIRST STEP.
-0.13 0.11 0.10
TELECOMMUNICATION SERVICES
0.14%
-0.04
FINANCIALS
-0.34%
-0.02
UTILITIES
-0.53%
0.01
CASH
-1.69%
INFORMATION TECHNOLOGY
0.01 -0.15
ENERGY
-2.01% -2.84%
MATERIALS
-2.84% -4%
0.33
HEALTH CARE
0.04 -0.02 0.04
REAL ESTATE -2%
0%
RETURN SUMMARY PORTFOLIO RETURN BENCHMARK RETURN ACTIVE RETURN
2% 1.46 1.19 0.27
4%
-0.1
0
0.1
0.2
0.3
0.4
ACTIVE RETURN ATTRIBUTION SUMMARY ACTIVE RETURN 0.27 ALLOCATION 0.07 SELETION 0.20 CURRENCY 0.00
SOURCE: BLOOMBERG
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
5
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
communication or a lack of structure in your process and philosophy will – at best – delay the decision making process. At worst, we confront the risk of suboptimal decision making. In reality, however, we would argue that poor decision making is not a worst case scenario. The perception of poor performance is your greatest enemy. Without a thoughtful and thorough understanding of what matters most to each client, you will be in a perpetual state of risk of that client perceiving that their performance is just not good enough – regardless of what the benchmarks indicate.
equity. While the index’s (S&P 500) absolute returns are stellar, coming in at nearly 15% per year over the past five years, mutual fund managers have struggled mightily to keep pace. According to Morningstar, an estimate of the average large cap core mutual fund manager total return during that time was just over 13%. A respectable absolute return figure to be sure, but well behind the benchmark return posted by the S&P 500. In fact, in order to post a return higher than the benchmark over that same five-year period, a mutual fund manager would have had to have been in the 14th percentile amongst its peers. If we look out over the last ten years, the bar lowers, but still comes in at a lofty 21st percentile.
THE ACTIVE VERSUS PASSIVE DEBATE When it comes to justifying our existence as advisors, there is perhaps no greater existential threat than the growing – and typically cyclical – chorus touting the superiority of passive investing. It is no secret that the historic bull market over the better part of the last decade has brought with it a structural challenge for active managers, in particular for those operating in the more mature and efficient spaces of the market. Over the past 5-10 years, a concerning trend has emerged in an asset class that has been an area of focus amongst active managers – large cap domestic
The lesson here is that periods of low volatility or cycles during which an awareness for and understanding of risk are not rewarded can persist for longer than you may realize. It is imperative that during these periods where relative returns are not objectively favorable, our performance discussions are structured in such a way that other areas of our value proposition for clients can be easily demonstrated.
1 YEAR 2 YEAR 3 YEAR 5 YEAR AVERAGE LCB* FUND TOTAL RETURN
10.64%
S&P 500 INDEX TOTAL RETURN
11.96%
RANK NEEDED TO BEAT S&P 500 (%)
26th
SOURCE: MORNINGSTAR, INC. *LCB: LARGE CAP BLEND
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MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
4.67%
6.92%
13.21%
6.54%
8.87%
14.66%
12th
5th
14th
EFFECTIVELY COMMUNICATING INVESTMENT PERFORMANCE TO CLIENTS
HOW DO WE AMPLIFY THE VALUE PROPOSITION?
SUSTAINABLE
1.
Allow your client to passively steer the conversation. Identify a topical discussion point or a client interest, and use that to guide the conversation and paint the broad performance picture. Pick one or two charts, and use them to tell a story. If a venture into the weeds is of value to the client, this discussion will guide you there organically.
2.
Resist the urge to talk at your client. Performance reviews are not presentations. It is an opportunity to address client concerns, answer questions, and reaffirm client goals and objectives.
3.
Give clients a peek behind the curtain. Too often, we see advisors underestimate clients. Professional looking materials, detailed and technical economic/market data, and investment process background are more than just window dressing. While most clients will review and understand a small portion of what is provided, strong supplementary materials establish credibility – at the very least. Do not shy away from giving clients a glimpse into the significant depth of work behind constructing their portfolio.
4.
Solicit feedback. While this should go without saying, it is important to solicit feedback on the effectiveness of your investment performance discussions. Discuss your communication methods with each of your clients (we tend to follow a template). Do not underestimate the importance of soliciting feedback from your colleagues – particularly those charged with sharing the message directly with clients.
5.
Play to your firm’s strengths. Avoid the common pitfall of presenting yourself (or your firm) as something you are not. If you are a boutique or local shop, emphasize your nimbleness and individual client focus. If you are a recognized brand, focus on the breadth of resources you can bring to bear for your clients. Your client is, ostensibly, with you for a reason.
6.
Build customized relationships, not customized portfolios. By and large, our clients should have access to all of our best ideas. While some degree of customization is often necessary, avoid the trap of using the portfolio itself to convey to clients that what they are getting is bespoke. The custom-tailored element should be your interactions with the client, and the additional value you can add based on their unique needs.
VALUE COMES THROUGH TRULY UNDERSTANDING THE ISSUES FACING CLIENTS FROM THEIR PERSPECTIVE, REDUCING THE COMPLEXITY IN THEIR LIVES, AND GIVING THEM THE FREEDOM TO PURSUE THE THINGS THEY LOVE.
As noted throughout, the key to effectively communicating investment performance often involves focusing on aspects other than strict benchmark-relative investment performance. The more and better we communicate with our clients – and the broader the set of topics covered – the more likely we are to uncover other areas where they need our advice/consultation. A more holistic conversation allows for the establishment of goalsbased performance and financial advice. Does the client have a total return bogey? Does the client have an above average aversion to negative performance periods? Does the client care more about volatility, tax minimization, or do any other non-performance-related topics dominate your conversations? Is the client working towards a specific goal? Who is the client? What is important to them? What concerns them? Even consistently excellent investment performance cannot guarantee a successful advisor-client relationship. Sustainable value comes through truly understanding the issues facing clients from their perspective, reducing the complexity in their lives, and giving them the freedom to pursue the things they love.
MAINSTREET ADVISORS
EFFECTIVE COMMUNICATION
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The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. This presentation is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and makes no implied or express recommendations concerning the manner in which any client’s account should or would be handled, as appropriate investment strategies depend upon the client’s investment objectives. The portfolio risk management process and the process of building efficient portfolios includes an effort to monitor and manage risk, but should not be confused with and does not imply low or no risk. Diversification does not assure a profit or protect against loss. Traditional and Efficient Portfolio Statistics include various indices that are unmanaged and are a common measure of performance of their respective asset classes. The indices are not available for direct investment. Past performance is not indicative of future results, which may vary. The value of investments and the income derived from investments can go down as well as up. Future returns are not guaranteed, and a loss of principal may occur. Investing for short periods may make losses more likely. The opinions expressed are those of MainStreet Advisors. This information is subject to change at any time, based on market and other conditions. The information presented has been obtained with care from sources believed to be Reliable, but is not guaranteed. Member and/or officers may have material ownership interest in investment mentioned. Any investments purchased or sold are not deposit accounts and are not endorsed by or insured by the Federal Deposit Insurance Corporation (FDIC), are not obligations of the Bank, are not guaranteed by the Bank or any other entity and involve investment risk, including possible loss of principal. MainStreet Advisors and “Bank” are independently owned and operated. WPCIP001_042617
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