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Manager of Managers: Putting Our Beliefs Into Action
Adding Value Through Research and Selection
There are three ways for an institutional retirement plan to manage their investment programs: do it themselves, which is outside the core competency of many organisations; hire a consultant, who in turn helps them select a line-up of investment managers; or hire a manager-of-managers.
Russell is a global leader in manager-of-manager investing. Rather than build extensive in-house teams, we rely on objective third-party investment managers to manage and advise us on security selection. These are independent, professional fund managers whose core competency is evaluating and identifying quality securities.
Russell's core competencies include researching money managers and identifying those we believe are most likely to outperform; combining those managers into portfolios designed to beat a specific benchmark; and monitoring the managers and portfolios to ensure they stay on track and meet investment objectives.
An overlay of administration and technical services connect all of those competencies into a seamless package.
That summarises what we do, but it doesn't tell you what we believe, or how it adds value.
Russell is committed to active management. We hold fast to the basic tenet that the market rewards quality research, and it is possible to consistently add value over a benchmark.
The source of that value, or potential excess return, may surprise you. As a rule, it does not come from market timing. We firmly believe that, over the long term, market timing will lead to major disappointment. Therefore, we don't take major bets (underweight or overweight) in growth or value. We don't rotate between small cap and large cap. We don't rely on one particular sector. Russell portfolios are relatively style and sector neutral.
"We've been looking for 30 years and we have yet to find anybody who can successfully time the market over the long term. Sooner or later, usually sooner, the market-timer will run out of luck," says Bruce Pflaum, Russell's Managing Director, Asia .
So Where Does the Value Come From?
Security selection. We believe there are managers who can consistently trade securities that will outperform the markets. Moreover, the sources of value vary widely across a group of managers, so differentiating among them is challenging. That brings us to our research.
Manager Research — First, Last and Always
Manager research — done right — is a mammoth undertaking, for the simple fact there are thousands of firms worldwide managing money. We actively monitor about 7,500 manager products, of which less than 6% ever earn our "buy" ranking. Finally, fewer than 2% receive an assignment in a Russell portfolio.
"We define manager research differently than most firms," Pflaum says. "We don't research firms so much as we research people, because at the end of the day, the quality of the people drives the investment returns."
Staying abreast of the best and brightest — and those who have lost their shine — requires considerable resources. Russell employs nearly 370 professionals in nine countries who research and monitor managers, study the capital markets, and construct investment portfolios. Collectively, our researchers conduct more than 2,700 face-to-face meetings with managers each year.
That's one reason why we claim with confidence that no one knows managers like Russell knows managers.
Portfolio Construction — Another Source of Value
The small number of managers recommended by Russell research is subject to further scrutiny during the portfolio construction process. Using sophisticated analytics and extensive first-hand experience, we consider various combinations of buy-ranked managers to create an optimal mix.
Whether we're designing a portfolio for a broad market or specific client, the process is the same. We establish performance goals and objectives, as well as select relevant benchmarks — all in consideration of the client's risk tolerance. The critical piece of the puzzle is assigning managers who best fit a particular structure across the various styles and substyles.
Assembling the puzzle is critical, Pflaum said. "You can take great individual managers and combine them in a way that doesn't meet your objectives, or leads to unacceptable volatility."
"That's not what we're about," Pflaum said. "We're trying to deliver consistent, above-average returns so we minimise the timing risk of hiring Russell."
An additional source of excess return lies in diligent implementation. The unprecedented volatility in equity markets, for example, can quickly create a style bias in a portfolio, leading to possible underperformance. Russell's Dynamic Weighting System routinely adjusts for style shifts, which allows our portfolios to reflect the current market allocation to growth and value. This process, along with our practice of equitising cash daily, can potentially provide small but meaningful sources of added return, especially in positive markets.
Monitoring Managers — Staying True to Our Game
Managers in Russell portfolios are subject to systematic, ongoing scrutiny. Any significant changes to their investment process or variance from guidelines are subject to evaluation.
"If key professionals depart, if we see trades outside guidelines, or if the organisation's rapid growth becomes a cause for concern, we can make a change very quickly," Pflaum said. Conversely many clients operating with a committee, find it difficult to implement manager changes before they become a huge drag on performance.
Note that Russell will change managers in a fund for a number of reasons, but under-performance is the rarest. Russell understands that certain market environments are hostile to some managers and we will ride out downturns caused by market trends.
Further, our forward-looking qualitative research increases the probability that we will identify issues that may lead to future underperformance. In fact, an evaluation of the 52 manager terminations worldwide since Russell launched its multi-manager products in 1980, showed that only four were due to consistent underperformance.
Choose Russell. Achieve More.
Clients choose Russell because we meet their investment needs. But also because we allow them to focus on their core business or organisational mission and oversee their assets at a policy level instead of getting bogged down in the day-to-day implementation. By focusing on our core capabilities, we're helping you to concentrate on yours.
Issued by Russell Investment Management Ltd ABN 53 068 338 974. This document provides general information only. It has not been prepared having regard to your objectives, financial situation or needs. Before making an investment decision, you need to consider whether this information is appropriate to your objectives, financial situation and needs. The information has been compiled from sources considered to be reliable, but is not guaranteed. Past performance is not indicative of future performance. In making a decision about an investment in a Russell fund you should consider the latest Product Disclosure Statement for the fund. Copies can be obtained from Russell or your financial adviser.
Source: In "Adding Value Through Active Manager Selection and Structure," September 1998, Don Ezra, Frank Russell Company's Director of Strategic Advice, compared passive index portfolios with the hypothetical portfolios for the periods Q1 1987-Q4 1996—randomly selected managers receiving Russell's top (Hire) recommendation from Russell/Mellon Analytical Services Fund Universes. A variety of typical asset allocations were studied and yielded consistent results. The results shown are for the updated time period Q1 1992-Q4 2002 and average returns of portfolios compared to a relative composite benchmark (see passive benchmark) with an asset allocation of: 50% US Equities Large Cap Growth 15% (Russell 1000 Growth), Large Cap Value 15% (Russell 1000 Value), Large Cap market-oriented 15% (Russell 1000), Small Cap growth 1.66% (Russell 2000 Growth), Small Cap value 1.66% (Russell 2000 Value), Small Cap market-oriented 1.66% (Russell 2000), 10% Non-US Equities (MSCI EAFE) and 40% Fixed Income (Broad Market 32% (Lehman Brothers Aggregate Bond Index), High yield bonds 4% (CS First Boston High Yield Bond Index), Mortgage-backed securities 4% (Lehman Brothers Mortgage-Backed Securities Index before the first quarter 1999; since the first quarter 1999, Broad Market 36% and High Yield Bonds 4%).
0 represents the return of the combined passive benchmarks noted above. Performance is gross of fees. Past performance is not indicative of future results, and performance does not reflect any actual
product or security.
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