In a constantly evolving environment, it comes as no surprise that the financial and investment landscape is continuing to shift on multiple fronts, including the mundane world of performance attribution. Having been the realm of the middle office for decades, we are noticing a rise in performance attribution usage by CIOs and the front office.
Here we explore how performance attribution is moving from the bane of portfolio managers vying for first quartile success to the CIO’s strategic confidant in search of a better, more resilient portfolio.
The state of the market
Large asset owners are enhancing their focus on portfolio resilience with increased emphasis on deliberate performance sourcing
Following the 2008 financial crisis and the decade that followed, the asset owner investment world was dominated by a key theme: portfolio resilience. This drove some large asset owners to undertake many strategic initiatives, including total portfolio management.
Effectively, this was an explicit recognition that total fund performance was in large part dictated by the portfolio’s beta, i.e. market exposures. This recognition was in stark contrast to the previous era, when the pursuit of alpha — outperformance relative to a benchmark — was deemed to be the primary endeavour and the ultimate measure of success.
This new focus forced CIOs to address a series of questions such as:
- Is my current set of exposures allowing me to capture a diversified set of returns?
- Do I have a sufficient understanding and fit-for-purpose taxonomy of the total fund exposures?
- Am I rightsizing and optimizing liquidity?
- How can we deploy to our targets faster?
As this model matured differently across asset owners given the reality of their different operational considerations, a new predominant theme began to unfold against an emerging consensus over a more complex and uncertain market environment: deliberate performance sourcing.
This new theme forced CIOs to grapple with a fresh set of questions, including:
- Am I optimizing my return sourcing in a cost-effective way?
- Where do I expect to deliver alpha with sufficient confidence?
- What should my target exposure be across multiple dimensions — such as industry, geographies and sectors — including within my various asset classes?
- Have we overdiversified at the cost of achieving our total return target?
This demands a comprehensive and nuanced understanding of the various sources of return. To that effect, EY-Parthenon has been supporting asset owners in developing and implementing robust and fit-for-purpose performance attribution frameworks. As such, we have developed a thorough understanding of the key factors to ensure the successful development and implementation of such performance attribution frameworks, from defining a clear ambition and strategic intent, to developing the necessary toolkit.
Let’s take a look at some key insights, and common pitfalls to avoid.