Investment Oversight

 

The pressure on board members following the passage of Sarbanes-Oxley in 2002 has become intense. Board members today are exposed to significant risks if problems arise on their watch, up to and including the prospect of personal liability.

For those committee members charged with oversight of the critically important investment function, the typical perfunctory review of results relative to a few standard market indexes is woefully inadequate. Board members are not provided sufficient comparative data to make informed, prudent oversight decisions.


Limitations of Current Approach

1. Insufficient context

Because indexes provide only a single comparative data point for each time period, it takes decades (yes decades, ask for details) to determine with any statistical confidence whether or not an investment manager has skill -- or a lack of skill. That is, by the time you have enough data to draw a conclusion as to your manager’s skill, it’s far too late.

Put another way, when your manager underperforms his benchmark index, you can’t know whether or not the underperformance is indicative of a problem. Knowing that your manager underperformed the index by three percent is like knowing you got a seven out of ten on a test -- without knowing the grading curve. Not enough context.

Comparing investment performance solely to market indexes is a futile exercise!

 

2. Superficial

Simple comparisons of investment return to a benchmark do not address the reason behind the incremental performance. Is incremental return due to the skillful selection of securities, or to a particular style bias that was in favor? If due to style, was the manager hired for that style or has the manager’s style changed over time? How is the manager’s style quantified? The answers to questions such as these are often more significant than the straightforward question of incremental performance itself.

 

3. Lack of objectivity

When investment results are calculated, evaluated and presented to board members by internal staff there is sometimes the perception of a bias in what information is provided. Staff may be perceived to have an interest in the status quo. Whether this is true or not, board members are often less engaged when performance is reviewed by staff than when presented by an outside specialist.

 

PeerTrac Solution

Peer Analytics provides a comprehensive investment performance evaluation incorporating proprietary peer universes of property-casualty returns and portfolio structure data. Our peer company performance review provides the context necessary to determine the significance of results, performance attribution to explain how and why those results were achieved and the objective expertise to facilitate meaningful communication among board members, staff and investment managers.

Effective benchmarking provides sufficient information to determine when corrective action is necessary.

Indexes are valuable components of the benchmarking process, but by themselves are not sufficient. Simple index comparisons lack the context required to draw meaningful conclusions.

Because indexes provide only a single comparative data point for each time period, it takes decades* to determine with any statistical meaning whether or not an investment manager has positive or negative skill. So by the time you have enough data to reach a conclusion, it's far too late.