We are long term investors
We are independent and often contrarian thinkers
We have a disciplined and consistent investment process
We create diverse portfolios to reflect our clients’ needs
We manage portfolios actively
We identify talented fund managers and trust in their skills
We inform and report to our clients in a way that they can understand
“The first rule of investing is don’t lose money; the second rule is not to forget the first rule.” Warren Buffett
We are firm believers in the lessons of Behavioural Finance. This relatively new field of study is a tool to achieve a better understanding of financial market behaviour and provides scope for investors to make better investment decisions based on an understanding of behavioural bias.
An understanding of Behavioural Finance has not only helped us to understand our own biases but also to help our clients be aware of how natural human emotions and reactions can be at odds with behaviours that are essential for successful long term investment.
Key amongst these natural biases is that the overwhelming majority of investors have a hyper-negative response to potential loss, or “loss aversion.” The pain of losses looms far larger than the satisfaction of equal-sized gains. If this pain is too great, investors are driven to sell their investments, usually at a time when they are in a loss making position. This has an adverse effect on their financial wellbeing and their ability to meet their financial goals.
Although we cannot control market volatility, our portfolios are constructed with the aim of reducing the potential for downside risk whilst still providing the opportunity for long term capital growth. Our aim is to insulate our clients from the worst of market volatility and by doing so, help them make good decisions at difficult times.
The key themes of our investment philosophy are shown below.
We often introduce our clients to the concept of the “Investment Journey”. This reflects the fact that all clients have goals and the completion of that journey is essential to the success of any financial or investment plan.
Our experience and the lessons of behavioural finance has stressed the importance of matching each client’s capacity for risk to ensure that they stay on track in terms of their long term investment goals and complete their investment journey.
The implications of a mismatch between capacity for risk and the characteristics of portfolio returns are significant in that it can cause a disruption in the investment strategy through the sale of assets during difficult periods. This could have serious implications in terms of long term investment returns, the completion of their investment journey and ultimately the ability to achieve long term goals.
Our focus on risk profiling and matching portfolio characteristics with risk tolerance and expectations is aimed at enhancing each client’s ability to complete their investment journey and the likelihood that they will meet their individual goals.
Whilst we aim to mitigate investment risk, we cannot eliminate it and would not aim to do so, as risk is related to expected return. It is important to recognise and appropriately manage the types and amount of risks being taken in a portfolio and that each client fully understands the implications of the investments they are making, including the potential for loss.
Psychometric Risk Profiling
We use a psychometric investment risk questionnaire as a starting point for our discussions with clients about their personal circumstances, financial goals and views about investment risk. The resulting risk profile provides the basis for an informed discussion about the nature of risk and the investment return which might be achieved by taking risk. This provides a defined pathway to an appropriate asset allocation framework in line with the client’s agreed attitude to risk.
We categorise Risk Profiles on a scale of 1-5; Risk Profile 1 being ‘Cautious’ and 5 being ‘Adventurous’
Once we have agreed an investment risk profile we use one of our of 5 risk profiled asset allocation benchmarks as the framework for the construction of the portfolio.
Constructing portfolios unique to client’s circumstances
Since the 1950s economists have used mathematical models to represent the risk and return of individual asset classes and the way they behave in relation to each other. Markowitz’s Modern Portfolio Theory (MPT) gave intellectual force to the intuition that spreading exposure across different asset classes reduces the overall volatility. We agree that appropriate blending of investments into a portfolio can have the effect of reducing portfolio volatility, but established finance theory assumes that investors are well-informed, careful and consistent, are not confused by how information is presented to them and not swayed by their emotions.
Our belief is that reality does not match these assumptions and that a slavish devotion to MPT misses some of the key elements that drive markets and especially so in times of economic or financial market stress; such as overconfidence, loss-aversion, behavioural bias, the herd mentality, or simply fear and greed. We feel that this belief should be reflected in our process through the creation of portfolios that take into account the lessons of behavioural finance. We cannot control investor bias, but we can seek to reduce the potential adverse effects of poor decision making by trying to control volatility and through a focus on risk profiling and matching portfolio characteristics with risk tolerance and client expectations.
We recognise the importance for total portfolio returns of the underlying asset allocation of that investment portfolio. Therefore, asset allocation provides the core of our approach to portfolio construction. However, we also believe in the value that can be added by well-considered tactical allocation changes and manager skill and these elements are important within our process.
We acknowledge that at certain points in the market cycle there may be opportunities to significantly affect returns through making big tactical decisions (often known as market timing), but we also recognise that over the very long term, time in the market is a greater determinant of returns than timing the market.
An ideal asset allocation differs from investor to investor and is driven by the level of risk each investor is prepared to accept. This has led us to develop a series of risk profiled asset allocation benchmarks.
Risk Profiled Asset Allocations
The risk profiled asset allocation benchmarks are designed to satisfy the requirements of a broad range of client risk profiles and are the starting point for the construction of an individual investment portfolio.
We have identified 11 investable asset baskets and mix them in appropriate proportions as dictated by our risk rated strategic asset allocation frameworks.
The construction of these strategic portfolios is done to reflect client risk profiles predominantly through modelling the volatility of returns and also a metric used within the investment industry known as Value at Risk (VaR). This provides a framework to guide investors in terms of the likely characteristics of their investment portfolio.
If we are successful in matching risk tolerance with portfolio characteristics, we hope to reduce the risk that clients will make poor decisions that might have severe adverse effects on their long term wealth.
The Selection of Investment Funds
The final part of our process is to populate the asset allocation template with carefully selected investment funds. Because of our belief in the power of active management, we use a mix of “best of breed” funds to further enhance the work we have done in constructing our strategic asset allocation framework. (For more detail see FundSight and fund selection)
We identify managers whose skills have provided returns that have exhibited enhanced risk return characteristics when compared to their benchmarks. When managers with these characteristics are put together in our asset allocation frameworks, we aim to create portfolios that have the risk return profile that our clients seek.
FP Wealth Management’s Investment Strategy Committee (ISC) is the investment group responsible for providing asset allocation guidance across all of the asset baskets that are the component parts of our Risk Profiled Portfolio Benchmarks – the foundations of all of our multi-asset client portfolios.
The ISC meets every quarter and imparts a shorter term, more tactical view for each of the asset baskets. The ISC looks at what is happening now and what may happen in the next 3 to 12 months and then decides how to reflect its views across client portfolios. The meeting includes contributions from our independent economist and results in prolonged and intensive discussions between the ISC members.
The outcome of the discussions results in a recommended Tactical Allocation to each of the asset baskets that are the constituents of the benchmark portfolios. This Tactical Allocation is an active approach that tries to slant the benchmark portfolios into those asset baskets that show the most potential for gains or to reduce exposure in an attempt to mitigate risk.
The decisions are expressed in terms of a relative weighting of the asset basket when compared to FPWM’s long term Strategic Asset Allocation for each of our risk profiled portfolio benchmarks. The ISC’s decisions and guidance is based upon analysis and consideration of many factors and the use of independent research. Some of the factors which are regularly considered are shown below:
The macro-economic picture – we examine leading indicators for insight into the business cycle; consider inflation expectations, interest rate and bond yield forecasts and the outlook for both developed and emerging economies. – This gives us the forum to consider the future direction of the world’s economies and attempt to maximise opportunity as a result of our views.
Valuation – looking at both historical and forward looking valuations of the assets that form our asset baskets using a variety of metrics to inform the ISC’s view. – In simple terms; we like to buy assets when they are cheap and take some profits when they are expensive.
Sentiment and Momentum – consider how much market sentiment and the herd mentality are affecting the direction and likely volatility of asset classes. – We take fundamental views but need to understand and take account of times when the wider market can work against these views.
Political Considerations – consider how government policy and the actions of politicians might alter the fundamental environment for investment and the different asset classes; either positively or negatively.
We recognise that each individual has a finite capacity for risk which can be expressed in terms of a “risk budget”. Therefore, our aim is to identify those managers that are able to provide consistent risk-adjusted returns, in order to maximise the return potential for each unit of risk, thereby maximising the effect of employing each client’s risk budget.
Our fund selection process can be divided into two different types of analysis: Quantitative and Qualitative.
Quantitative analysis focuses on the mathematical and statistical elements of fund returns and is performed by our institutional class proprietary fund selection engine – FundSight
We constructed FundSight because we needed a robust and repeatable process to select funds which closely reflected our investment philosophy and the needs and desires of our clients.
We believe that identifying managers that are able to consistently outperform sector peers and the benchmark provides a greater potential for investors than investing purely in the benchmark. Further, as a reflection of our philosophy and belief in behavioural finance we value the characteristics of investment returns as well as the absolute level of those returns.
We apply the process to each of the IMA fund sectors and the initial stage is to analyse the returns of the funds over a number of periods, both discrete and cumulative. We place great value on consistency of performance so there is greater emphasis on discrete returns than cumulative in order to reduce the impact of short term performance masking previous poor past performance. As we are aiming to identify consistent performance, we believe that utilising a variety of discrete rolling periods is a more important measure.
An important differentiator of FundSight is a positive bias towards shorter term performance. Although we appreciate those managers that have a long track record and understand the value of experience, we are also wary of placing too much faith in past performance of managers that may not be relevant to current market conditions, or with managers whose best days may be behind them.
We strive to identify talented managers and FundSight has highlighted a number of star funds before they were known to the wider adviser market; creating additional portfolio Alpha.
We analyse the return characteristics of funds using a number of investment ratios, including:
For explanations of these metrics please see our Investment Glossary.
FundSight creates a fund score for each fund in every IMA sector and then sorts the results by order, the highest score representing the funds that most closely fit our criteria.
We take the results, identify a list of suitable funds and apply our Qualitative analysis.
When we have identified a short list of suitable funds we then apply a final overlay of qualitative analysis whereby we use our experience and knowledge to gain in depth insight into the managers, their investment processes, fund and company structure.
When a fund has been highlighted by FundSight, we send a due diligence document to the fund provider to obtain the finer details of how the fund is run and administered. If this is satisfactory, we are able to purchase the fund for our clients.
We need to have comfort that the manager has a structured, repeatable and demonstrable process and that their company will take care of our clients assets, thereby protecting their interests.
The end result is a list of more than 80 funds which we use within our individual client portfolios.
This process is performed on a quarterly basis to ensure that the funds on our buy list remain appropriate and maintain the characteristics that we seek.
characterised by the belief that the parts of something are intimately interconnected and explicable only by reference to the whole.
partnership (pärt n r-sh p)
relationship between individuals, that is characterized by mutual cooperation and responsibility for the achievement of a specified goal
1. the state of being secure
2. assured freedom from poverty or want
peace of mind
the absence of mental stress or anxiety