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The complex art of portfolio shaping

Asset managers are dealing with an increasing amount of factors when they construct a portfolio, which raises the chances of error, according to Craig McGee, partner at Sherpa Funds Technology in Singapore.

McGee, who’s firm has developed software that increases the transparency of the portfolio building process, believes there is a need for technical analysis of portfolio construction, which has grown increasingly complex. 

Portfolio construction is a very complicated calculation that must take account all the variables, such as the input of all the stakeholders, investors, the chief investment officer and the sales team, and combine that with the alpha generated by a portfolio manager.

“One thing is for sure, portfolio construction is too complex for a person to do in their head. An average investor with a strong process always beats a brilliant investor with a weak process,” he told FSA during his recent trip to Hong Kong.

Richard Waddington, CEO, explained that his firm’s product is aimed at helping to manage all the variables involved.

In the first phase of portfolio building, alpha is the key consideration.

“A portfolio manager may have a thematic view — Japanese domestic focused car manufacturers can outperform car exporters, for example.

“Then he is going to work out research on all car manufacturers, and he is going to list all the automakers and score them on how much they comply with his thematic view. That’s the output of his work, but the portfolio that he wants to create has a bunch of other peoples’ concerns to input.”

Next, the manager shapes the portfolio to client-specific parameters, such as risk tolerance, portfolio specific parameters, such as number of assets, net and gross amount of investment, and sector or factor exposures, he said.

For example, clients may have their opinions on the amount of investment and the range of net exposure to hedges, and the volatility that could be negatively correlated to the specific index, he added.

Waddington said the key idea is to “provide fund managers a consistently repeatable framework, which takes into account of all the other stakeholders when creating the portfolio, while preserving the alpha in the portfolio manager’s asset selection”.

Part of the Mark Allen Group.