There are a lot of definitions of risk. For an entertaining indepth discussion of risk, read Peter Bernstein’s Against the Gods: The Remarkable Story of Risk. The definition I like best is that risk is the possibility of failing to achieve objectives. This definition causes us to reflect upon objectives, and the policies we’ve set for achieving them. What do we really want to achieve and how do we plan to do so? Most target date funds (TDFs) take too much risk because they have set unachievable objectives. It’s similar to wanting to look like Brad Pitt and hiring Michael Jackson’s plastic surgeon.

The objectives of managing longevity risk or replacing pay should not be taken seriously in a one-size-fits-all TDF because TDFs have no influence on, or relationship to, mortality or savings. At best these TDFs can target the “average” participant, whatever that means. Fund companies conjured up these objectives and imposed Jedi mind control over fiduciaries: “You don’t need to see justification … These aren’t the problems you’re looking for … Move along.” Obi-Wan (paraphrased). These are objectives that can only be realistically achieved with managed accounts, another choice of Qualified Default Investment Alternative (QDIA).  Read More

Dear Consulting Colleagues,

I’m reaching out to you because I’m concerned that you may have misplaced your faith in those who are performing investment manager due diligence for you. As many of you know, I’ve worked on consulting analytics for more than 30 years, and have seen significant advances in the tools that could and should be used in separating the winners from the losers, also known as investment manager screening. The problem is that the finest tools are not being used by many investment manager researchers. The active/passive luck/skill debate rages on largely because the old tools cannot accomplish the very basic task of accurately identifying winners. The crying need for real due diligence was dramatically demonstrated by the Madoff Mess1, which revealed problems that extend well beyond hedge funds to plain old vanilla long-only managers. For the most part, client facing advisors trust others to screen investment managers, and this trust is being placed more and more in outsourced due diligence. I’ve been to these service providers, and gotten almost nowhere, although some have updated their tools.  Read More

Professionals in the financial services industry have been introduced to new investment opportunities for years, from the creation of the first mutual fund to the ability to trade just about anything we can imagine around the world.  We have a tremendous amount of investment solutions at our fingertips today.  How do we determine what is best for our clients, our practice and our future?  If we don’t, someone else will!

One of the more recent additions to our list of opportunities includes alternative investments.  They can be referenced as “unconventional investments” in some circles.  Do a search on alternative investments today and you’ll see why this is such an interesting topic.  The one thing that we can all agree on is that they are different from the conventional investments that we’ve used over the past decades.  Read More

Overview. We believe the economy is continuing to deleverage (especially the consumer) and that that we are unlikely to experience a double dip recession. The recovery will continue to gain ground but at a relatively slow speed. The news is mixed but slightly biased to the upside.There has been more encouraging news lately. Personal income and consumption expanded in July. The Conference Board’s consumer confidence index exceeded market expectations on the upside and the ISM manufacturing index also fared better than expected underpinned by a surprisingly strong reading in its employment sub-component, and to a lesser extent in prices paid. The latter should help to temper some of the recent talk on the possibility of the U.S. economy slipping into deflation. The Augustnon-farm payroll report also showed some gain in private sector employment. Additionally, signs have been emerging that lending standards are easing somewhat and small bank lending has been increasing – a necessary ingredient for a broadening recovery.There are also signs of continuing trouble in this fragile recovery. Firstly, the lack of business, consumer and investor confidence are troubling and will prevent the kind of rebound we have experienced in past recoveries. Secondly, retail sales figures also have been somewhat disappointing, but they are understandable given consumer deleveraging. Lastly, there is a high degree of uncertainty around such issues as the future direction of tax policy and high deficits. Read More

Objectives for target date funds (TDFs) have been promulgated by the investment firms that provide them, and they are twofold: manage longevity risk and replace pay. But neither of these objectives can be taken seriously in a set-it-and-forget-it-one-size-fits-all investment product. Both pay replacement and longevity risk are mostly reliant upon savings, which cannot be affected by a TDF. Every participant comes into a TDF with their own unique savings and mortality. One-size-fits-all cannot react to this uniqueness. At best it can only deal with averages. Who is average?

So what can TDFs really do? They can bring participants safely to the target date with accumulated contributions intact, and they can also grow assets to at least keep pace with inflation. Attempts to do more come at a risk that fiduciaries should not take, which brings us to the 3rd question.
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Twenty years later consulting still embraces MPT, peer groups and indexes, which would be fine if these actually worked.

Successful investment consulting encompasses two distinct crafts: the ability to develop quality advice and the skill to deliver that advice – the solution craft and the relationship craft. This article focuses on the pressing need for modernization and improvements in the solution craft. Clients deserve to benefit from what we have learned about investing over the past two decades. We’ve learned a lot, but not much of it is reaching our clients.

Before we go any further, I should point out that the relationship craft has been evolving quite nicely and, in fact, has never been in better shape than it is today. The deliverer of advice has risen up from report schlepper/salesman to trusted adviser. The consulting industry has compensated for its lack of advancement in the quality of advice by significantly enhancing the delivery of that advice. Now it’s time for clients to get the quality goods.

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“It depends on what the meaning of the word ‘is’ is.” Former President Bill Clinton

The words “To” and “Through” were coined at the June, 2009 joint SEC & DOL hearings on target date funds, which examined the devastating losses of 2010 funds in 2008. The testifying fund companies explained that they take substantial risk at the target date because their glide paths serve “Through” the target date to death. This is in contrast to funds called “To” funds that end at the target date. The clear implication is that “To” funds are far less risky at the target date than “Through” funds, but this is not true because the industry has elected to define “To” in a bizarre way, much like President Clinton defined “Is.” “To” is being defined as a flat equity allocation beyond the target date. This is unfortunate because the very essence of “To” is the non-existence of “beyond.”

The words “To and “Through” were used at the target date fund hearings to mean:

Through: Target date is a speed bump in the highway of life

To: Target date is the end of the investment mission. Accumulation only.

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Investors have a renewed interest in portfolio construction, due in large part to the current crisis, so core-satellite investing is regaining popularity. Both Vanguard and Putnam recently announced the addition of “core” products to their suite of funds. So why the interest in core? It could be for either of two reasons.Ballast or Completeness?Some view core investing as a hedge against making active manager mistakes; core is ballast to keep the investment ship steady. The best core for this purpose is the entire market, like the Wilshire 5000, although the most popular choice is the S&P500. The intention is to dilute the active managers because the investor lacks confidence in them. In this context core is a compromise for those who are on the fence about the active-passive decision. Add some cheap passive core to the expensive active manager mix to simultaneously lower costs and guard against the risks of surprises by reducing the tracking error relative to the broad market. The amount in core is a reflection of the lack of confidence in the active manager roster and structure. The more in core, the more market-like the performance. Allocation to ballast core is a confidence barometer.Read More

The media has reported that $Trillions are sitting idle on the sidelines, presumably waiting for some sort of buy signal in this economic mess. Even worse, much of that cash is paying a premium to use the government’s mattress, since real (after inflation) returns on Treasury bills are negative. So how can advisors help their clients put that pile of dough to better use? Here are a few thoughts.

1. The ultra wealthy may want to use this opportunity to “lock in” certain purchases that are planned for the future, like college funding or that next yacht. This “pockets of money” approach has been described and advocated by academics for a long time now. In its simplest form, the client purchases Treasury Inflation Protected Securities (TIPS) with a face amount equal to the future expenditure, maturing on the date that the expenditure is anticipated. Variants on this theme employ call options to sweeten the pie with some participation in the stock markets if they go up.Read More

My advice for # of target date providers is one provider as long as it’s the best and I think the best target date fund design emphasizes preservation near the target date, so the list is extremely short, like one or two. The risk to the fiduciary lies mostly in the accounts that are defaulted into target date funds. I think fiduciaries should be held accountable for defaulting employees into anything that can lose money near the target date, when account balances are at their highest and the ability to continue working is limited. Where’s the “landing” in the target date “glide path.” Prior to the establishment of target date funds as Qualified Default Investment Alternatives the common default was Stable Value.The risks of providing more than one target date fund are akin to  the risks of giving your child more than one toy, which is not much if they’re all safe toys but it only takes one choking toy to ruin the day. Fiduciaries can and should strive for the best. Since TDFs are QDIAs plan sponsors think any QDIA is a safe harbor, so they’re all good – regulatory prudence. Or if they are concerned about picking a particular TDF, how can they go wrong with the name brands everyone else uses, like Fidelity, T. Rowe & Vanguard– procedural prudence. Also, Plan Sponsor magazine has determined that most plan sponsors base their TDF selection on their advisor’s recommendation – delegated prudence.Read More