Below are several important remarks that apply to all of the model portfolios shown here.
These portfolios exist and their statistics are public for one purpose: to illustrate the practical application of Agathos’ Vector Analysis within a highly conceivable and most certainly tangible framework of highly specific mandate parameters. Such parameters in turn are necessary for the execution of any professionally run mandate, because without them, it would be impossible to translate any given investment policy into actual investments and thus achieve a suitable degree of genuine value-added with a corresponding investment efficiency. As with any methodical discipline the quality of the output depend not merely on the tools applied, but at least as much on the skills of the professional working with that tool. Not all tools will suit all users and some tools demand more craftsmanship than others. The sharper the blade, the higher the risk of injury. With the above in mind, certain simplifications become legitimate that would not be acceptable in a different context.
The model portfolios are run free of cost and also free of dividend income. On balance, neither any hypothetical cost, nor any income stream will meaningfully change the return of these model portfolios, if only because these model portfolios are managed actively, meaning they buy, hold and sell investments only with the intent to add value, regardless of how the mandate parameters demand and allow this. The management of these portfolios always seeks to add meaningful value, regardless of an absolute, or a relative focus. Whenever an observer wishes to assesses the success of a model portfolio, it will still be possible to make corresponding adjustments to the normalised return achieved.
Model portfolios with a multinational investment brief effect all transactions only through a single cash account in the base currency. This simplification precludes the splitting of market exposure and currency exposure that would otherwise be possible (and advisable) within an actual mandate. But the effects of unprotected currency exposure are taken into account when monies are allocated among countries. However, the effects of this simplification will not easily be adjusted for in a retrospective assessment.
It is simply not possible to adequately define an investment mandate without agreeing on the permitted level of risk. That said, it is extremely improbable that the truly precise definition of risk tolerance would become popular across the industry. It is far too inconvenient for the average investment manager to operate with this extreme transparency and moral accountability. The quality of returns can only be assessed with such a clear definition. In addition to that aspect, a definition of risk tolerance is also required before a corresponding return target can be articulated. The general rule here must be that a higher level of risk needs to be legitimised by higher normalised returns. That said, with rising risk, risk efficiency will inevitably drop. Put differently. It is easy to increase risk, but very much harder to generate a return. A higher return cannot be enforced by increasing risk. Risk rapidly turns counterproductive.
As the forward looking assessment of risk is only possible as ‘best guess’, this limitation should be reflected when picking a number to make specific. Increments that distinguish between risk levels or risk types must be coarse. That suggests three or four categories at most. Risk should also be defined in reference to a predetermined time frame, rather than any form of drawdown from peak. Return targets best refer to the normalised rate of return, annualised across anywhere between 24 and 60 months. Shorter periods are too changeable, longer periods invite a sucessful manager to rest on former laurels while mediocre ones are given too long an opportunity.
The preferences indicated are not meant to be the only workable parameters. On the contrary, there are many alternative options, these are merely examples. By and large, and as a general guide, the pragmatic choices centre around risk & return pairings as follows
requires a minimal risk tolerance of -5% and should facilitate a target return of +7.5% (1:1.5)
requires a minimal risk tolerance of -7.5% and should facilitate a target return of +10% (1:1.33)
requires a minimal risk tolerance of -10% (or more) and facilitates a target return of +12.5% (1:1.25).
In any event, neither risk tolerance nor target return are meant to be guaranteed, because they can’t be. Rather their importance is unquestionable, mutually transparent understanding of the paramount considerations guiding the choice of investments in all conceivable circumstances. The are the basis for the delineation not only of mandate as being different from another. Without these parameters it is not possible to qualify the performance achieved.
Obviously, there is a difference between setting parameters for an absolute return portfolio and a relative return portfolio. While parameters for any mandate may theoretically combine absolute with relative elements, relative elements must take precedence as a function of the restriction of managerial freedom. An institutional mandate to be run only for the purpose of beating an always fully invested index should define salient parameters as factors, not absolute values. For example, a low risk relative mandate might be expected to operate with a maximum of 0.85x the index risk, while having to generate 0.95x, or even 1.0x the index return.
No matter the desired focus, all parameters must be mutually agreed upon and be transparent for all parties involved.