(December 6, 2013) — If institutional investors could give their funds a makeover, what should be at the top of the list? Hewitt EnnisKnupp’s (HEK) experts said they have three ideas in mind to successfully revamp and improve investment programs.
Brady O’Connell, partner in HEK’s client advisory group, said investors should take a closer look at their decision making process: “Knowing what you are good at, and—perhaps more importantly—not good at, may result in better investment decisions over the long term.”
More specifically, reviewing the investment manager hiring and firing process, and understanding behavioral biases could help reduce costs that may be difficult to measure, according to O’Connell. He said this could reveal more accurate and appropriate investment strategies for individual funds.
Another beneficial change would be to “eliminate the noise” to avoid making significant short-term changes, said John Flagel, another partner in HEK’s client advisory group.
Institutional investors need to focus on reaching long-term goals and be able to “differentiate ‘noise’ from opportunity,” Flagel said. “We believe that medium-term asset allocation can take advantage of the observed inefficiency of markets.”
While the implementation is customized per client, Flagel said using a benchmark over a medium-term time horizon of one to three years would allow investors a clearer view of their goals.
O’Connell and Flagel’s colleague Staya Kumar, on the other hand, suggested looking at risk allocation rather than capital allocation when selecting active management.
“When deciding on the size of mandates for investment managers, focus on their contribution to risk and your conviction in the position,” Kumar said.
To ensure that risks being taken are steady and “commensurate with the expectations for value-add,” Kumar said, investors should formulate an active risk budgeting framework to construct and operate their portfolios.
Related content: How to Get the Most from Active Management (And Lower the Active Risks)