Due Diligence and Selecting Strategies Flashcards
Conditions for TAA to add value
(1) short- to medium inefficiencies in the market, (2) a systematic approach can be designed to exploit these inefficiencies
Central relationship of the Fundamental Law Of Active Management (FLOAM)
IR = IC * √BR
IR = estimated alpha / volatility alpha (ie risk adjusted) IC = Measure of a managers skill BR = Number of bets
Transfer coefficient
Measures the ability of a manager to implement her recommendations, and has a upper limit of 1
IR = IC * √BR * TC
Three important characteristics of sound TAA model development
- Use of meaningful economical signals
- Absence of data mining
- Avoidance of overfitting
unconditional empirical analysis approach to asset allocation
Uses historic mean and volatility within an SAA approach to form asset weights without regards to the current condition of the economy
conditional empirical analysis approach to asset allocation
uses current condition of the economy and market (along with historic mean/volatility) within a TAA approach to form asset weights
consequence of adverse selection in PE funds
both unproven GPs and inexperienced LPs will form relationships with each other
GP Life Cycle
- Entry & establish (Fund I)
- Build & Harvest (Fund II)
- Decline or exit (Fund n)
Evidence Regarding Fund Performance Persistence
- Performance persistence until the late 1990’s and has been in decline since the 2000s
This implies a greater focus on aspects of manager selection
Six challenges to performance persistance hypothesis
- Ambiguities regarding definition of top performance
- Secular market trends
- Performance dispersion is heterogeneous in PE
- Is the performance luck or skill
- Comparing heterogeneous funds
- Effect of changes in fund size
A SPICE Girl challenges return persistence
Three detailed questions regarding the investment objective of a fund manager
- In which markets and assets does the fund manager invest?
- What is the fund manager’s general investment strategy?
- What is the fund manager’s benchmark?
Four detailed questions regarding the investment process
- Who makes investment decisions
- Who are the key people in committees
- How are decisions actually made
- How are portfolios and positions monitored
Investment process risk
potential loss from failure to properly execute the stated investment strategy
Two detailed questions regarding the value added by fund managers
- What enables a manager to identify alpha
2. What reasons are there to believe the alpha will persist?
Two primary information-based explanations for superior investment performance
Information-gathering: (create access to superior information)
Information-filtering: (use data available more efficiently than others)
Two critical decisions regarding a performance review
When should a performance review be executed and how much weight should be given to past performance
Bias blind spot
Tendency to underestimate to which biases you possess
Five classic issues with statistical return data
- Accuracy
- Gaming
- Representativeness
- Appropriateness
- Stationarity
Five statisticians are laying in A GRAS field
Classifications of management teams
- Blue Chip (top performance all funds over 2 cycles)
- Established (top performance most funds 2 cycles)
- Emerging (limited history)
- Reemerging (Previously established/Bluechip that has been through a restructuring process)