17 - Investment management Flashcards
Define: Active investment management.
The investment manager has a few restrictions on investment choice within a broad remit.
Define: Passive investment management.
Involves holding assets closely reflecting those underlying an index or specified benchmark. The investment manager has little freedom of choice.
Give the main risks of active management.
Extra dealing costs and poor judgement.
Give the main risks of passive management.
Tracking errors and the index performing poorly.
Define: Tactical asset allocation.
Involves short-term departure from the benchmark position in pursuit of higher returns.
Give the factors to consider before making a tactical asset switch.
- The expected extra returns compared with additional risk.
- Constraints on changing the portfolio.
- The expenses of making the switch.
- Issues with switching large amounts of assets.
- Taxes that may be realised during the switch.
- Transaction delays in the market.
Describe the principles of ‘Risk Budgeting’.
A process that establishes how much risk should be taken and where it is most efficient to take the risk in order to maximise returns.
Why is direct comparison between actively and passively managed funds not advisable?
You would need to take the different constraints on the investment managers into account.
Survivor-ship of actively managed funds.
Differences in objectives of the funds.
Give the aims of risk budgeting with regards to investment risk.
- Deciding how to allocate the maximum permitted overall risk between active risk and strategic risk.
- Allocating the active risk budget across the component portfolios.
What are the advantages of risk budgetting
- It bases asset allocation not purely on the asset’s expected return - but also on its contribution to the portfolio.
- It increases the attention paid to low correlation investments - Allocations to such investmets can reduce the total risk of the portfolio thorugh diversification
What are the conflicting objectives of portfolio construction?
- Ensuring security.
2. Achieving high long-term returns.
Define: Strategic risk.
The risk that the strategic benchmark does not match liabilities.
Define: Active risk.
The risk taken by the individual investment managers relative to the given benchmarks.
The risk of poor performance from the fund manager relative to the benchmark
Define: Structural risk.
This is where the aggregate of the individual investment manager benchmarks does not equal the total benchmark for the fund.
Why is it necessary to review the appropriateness of an investment strategy at regular intervals?
- The liability structure may have changed significantly.
- The funding or free asset position may have changed significantly.
- The manager’s performance may be significantly out of line with that of other funds.