Regulated investment advisors have a fiduciary duty as custodians of their client’s risk. In order to ensure that a proposed solution fits a client’s risk profile, it is necessary to explicitly measure and control its risk level and composition through active risk budgeting. The A-Dex Prism gives the advisor a powerful tool to do this and much more.
Prism is a cloud-based application that excels in assisting the design and management of a fund of funds investment portfolio. It offers a powerful interactive 3-D graphical interface, which is a new and unique approach to the visualisation of risk, tracking error and money weighted contributions to the portfolio blend. ‘Top down’ and ‘bottom up’ analysis are seamlessly and aesthetically integrated.
Our clients use elegant and powerful technology to design, defend and manage their investment strategy so as to attract and retain clients. Prism aims to provide a framework in which the User has flexibility and space to exercise his own creativity.
Risk Budgeting in A-Dex Prism
Our proprietary models facilitate the re-blending of portfolios, at the fund-level, according to their total risk contribution. Prism calculates a vast array of feasible blends and offers complete drill-down and look-through to the detailed blend analysis.
The feasible set of all possible portfolios is initially constructed using the investable building blocks, which are typically funds, ETFs or in-house portfolios. Each building block is presented in expected return, total risk, tracking error. It is possible to pre-set maximum and minimum weights for each of the components and to re-calculate the feasible set.
The overall expected return, total risk and tracking error of the solutions considered can also be constrained to converge on a portfolio suitable to a client’s risk profile and expectations.
The feasible set is depicted in both 3-D rotatable graphics and three 2-D faces of the feasible set. There are 3 possible Views that are be applied across all graphs: Weights, Total Risk and Tracking Error Views. In each case, all charts are coloured by the contribution of each building block to the measure selected. The equal contribution to total risk, ECR (TotalRisk) and equal contribution to tracking error, ECR (TrackingError) points are also shown across all charts.
From the feasible set, the process of portfolio construction is essentially to narrow down the selection of candidate blends based on desirable criteria such as their target return, level of risk as well as the efficient allocation of this risk. Within these constraints, a candidate selected point is chosen on any of the three 2-D graphs. The selected point from the feasible set then is expanded to Look Thru, Style Analysis or Attribution analysis.
The choice of Active Funds to include in the Fund of Fund portfolio may be based on a preliminary Performance Ranking, X-Ray or Look-Thru screening. Independent manager research on Active Managers or other criteria can also be used in the manager screening process. The Expected returns of each Building Block are editable to reflect investment views and views on manager returns are best expressed relative to a benchmark.
Correlation Matrices supplement the risk budgeting process. Clearly combining funds with low correlations is desirable from a diversification persective. The main diagonal of these matrices show histograms of each fund’s return distribution. These histograms share a common scale, allowing a visual comparison of relative risk.
Portfolio Monitoring and Rebalancing in Prism
Rebalances and weight changes can be simulated on the Feasible Set by inputting a new set of weights for proposed change. In-house funds based on a blend of Passive and Active Indices can be pooled together as a Look-Thru Core®. Here, a weighted average of the holdings within in each sub-fund are tracked directly as if a single fund.
Advantages of this are:
Trades between sub-funds can be netted off within a single portfolio.
There are no disinvestment/capital gains events as allocations to sub-funds change or rebalances to strategic allocations occur.
One (rather than multiple) fund administration expense.
Greater transparency and control of the Fund of Fund’s overall exposure profile. The risk and tracking error levels and composition of the overall fund can be holistically monitored and maintained.
The Look-Thru is a holdings-based analysis that can be applied to both individual funds or to Fund-of-Fund blends. It can also cater for single or composite benchmarks.
The settings can be imported from the selected point that has been chosen in the feasible set or manually inputted on the page or retrieved as a saved blend. The holdings of a Look-Thru blend can be downloaded and serve as a target portfolio for an asset manager to track.
Prism holdings based style analysis reports the exposure of the fund and benchmark to the composite growth, liquidity, momentum, quality and value styles. These composite exposures are simply equally weighted averages of their subcomponents.
The liquidity factor is represented by market cap. and the median value traded over the last 5 months (mvalue). All style exposures have been standardised to have a median of zero and standard deviation of one within each month, thereby making degrees of exposure comparable across styles.
Prism utilises the Brinson approach to its holdings based attribution analysis. Composite fund of funds and benchmarks can be analysed.
The top contributors and detractors from total and benchmark relative performance are clearly displayed. Brinson decomposition into stock selection, sector, asset class and interaction effects is conducted. Typically equity fund holdings data would be used to do an attribution. If this is not available, the attribution is done at the lowest level of data available. For example, for a fund of funds without holdings this is done at an individual fund level.
X-Rays are a returns based analysis following the Sharpe (1988, 1992) method. Typically, an Active Fund would be the object analysed and low-cost Passive and Active Indices would be the building blocks selected. The user chooses a rolling period (usually 26 or 24 months). The X-Ray then finds the best fitting weights in the building blocks that has the lowest tracking error to the fund’s returns at each point in time over the selected rolling period. This best fitting blend is termed the “Shadow Portfolio”. It provides an indication of the style and asset class exposure to the fund over time.
The cumulative difference between the fund’s returns and that of the Shadow is termed “Manager Selection Returns”. It provides a measure of the ‘unique alpha’ that a manager adds beyond that of the Shadow and is a useful indication as to whether the manager is adding value beyond its replicable style and asset class exposure and, therefore, should be included in a Fund of Fund blend.
Prism Data Requirements
Prism utilises monthly data
Risk Budgeting and X-Rays require returns data
Attribution, Style Analysis and Look-Thru require holdings data
Data upload is via .CSV file