PM For Insitutionals Flashcards
For Banks: Formula for How changes in MARKET VALUE of Assets, Liabilities, and Leverage affect change in Mkt value of Equity
recall that Banks #1 goal is to increase the value of equity, but can’t just do it via MVO; need to look at other levers
LOS = be able to describe factors affecting the BS of banks and insurers –> formula calc helps be more precise w description
For Banks: Formula for How changes in DURATION of Assets, Liabilities, and Leverage affect change in Mkt value of Equity
For Banks: Formula for How changes in VOLATILITY of Assets, Liabilities, and Leverage affect change in VOLATILITY of Equity
just standard 2 asset variance formula
DONT FORGET TO SQUARE ROOT THE ANSWER IF THEY’RE LOOKING FOR STDEV
How Can You lower the volatility of Equity for Banks?
Several options
1) Reduce asset volatility (ie choose assets w lower volatility like ones closer to t-bills)
2) reduce volatility of liabilities
3) lower leverage
4) increase correlation between A &L
5) diversify A+L
6) increase quality of assets (increase liquidity)
7) stable funding sources
Uni Endowment Spending Policy Definition and Formula
photo below
see class slides / maybe mind maps for diff types of spending policy
–> W is important, three diff types of spending policy
use HEPI for inflation not CPI
Five Categories of Sov Wealth Funds (define and understand objectives, etc.)
+ who are stakeholders, Time horizon, nature of liabilities, and liquidty requirements
ALSO LOOK AT PHOTO BELOW
Budget stabilization funds. These are set up when a nation’s revenues are heavily linked to a natural resource or other cyclical industries to insulate government budgets from commodity price volatility or economic cycles.
Development funds. This investment prioritizes national socioeconomic projects, usually infrastructure or supporting key industries.
Savings funds. These funds invest revenues from nonrenewable assets for the benefit of future generations.
Reserve funds. These are designed to earn returns on excess foreign reserves held by central banks. Typically, foreign exchange reserves held by central banks are low-yielding assets relative to the yields offered by bonds issued by central banks that make up their liabilities. Reserve funds aim to reduce this negative cost of carry through boosting returns on reserves.
Pension reserve funds. These are used to save and invest to meet future pension liabilities of governments.
The stakeholders in an SWF are as follows:
Current and future citizens benefit from the fund’s success either directly through receiving payments or indirectly through lower taxation or increased investment in the domestic economy.
Investment offices invest SWF assets either directly in-house or appoint external managers.
The board has a fiduciary duty to the ultimate beneficiaries of the fund.
Governments are stakeholders in that they may rely on SWF returns to balance budget deficits.
Liquidity Needs:
Budget stabilization funds. These must maintain the highest liquidity level and invest in assets with low risk of significant loss in the short term, in order to meet short-term deficits caused by negative economic- or commodity-related events.
Development funds. Because infrastructure and research and innovation investments are long term, funds established to develop such projects generally have low liquidity needs.
Savings funds. The main objective is to accumulate wealth for future generations; hence, liquidity needs are lowest. Liquidity needs increase as the nation’s natural resources become depleted and the government withdraws from the fund to meet budgetary needs.
Reserve funds. Liquidity needs are lower compared to stabilization funds but higher compared to savings funds. Liquid fixed-income securities are usually held that can be readily sold if there is a dramatic change in the reserves of the central bank.
Pension reserve funds. Liquidity needs vary, being lower during the accumulation stage and higher during the decumulation stage.
Maximum Spending Rate that will allow foundation to maintain real value of current portfolio
Spending rate = expected nominal return - inflation - mgmt fee
because:
Expected Nominal Return = spending rate + inflation + management fee
Norway Asset Allocation Model
Asset allocation:
- Passively managed allocation to public equities and bonds (with traditional 60% equity/40% bonds base case allocation)
- Little or no exposure to alternative assets
- Tight tracking error limits
Advantages:
Low costs and fees
Easy for board to comprehend
Disadvantages:
No opportunity for outperformance of markets
Yale Model of Asset Allocation
Asset allocation:
High allocation to alternatives
Significant active management
Externally managed assets
Advantages:
Potential for outperformance of markets
Disadvantages:
Difficult for small institutions without expertise in alternatives
May also be difficult for large managers due to capacity issues of external managers
High fees/costs
Canada Pension Plan Asset Allocation Model
Asset allocation:
High allocation to alternatives
Significant active management
Internally managed assets
Uses a reference portfolio of passive public assets as benchmark that can be easily understood/communicated
Advantages:
Potential for outperformance of markets and development of internal capabilities
Disadvantages:
Potentially expensive and difficult to manage
