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Goals-Based Investing

Beginning with the end in mind – Q&A with Sean Henaghan

As Australia’s (and the world’s) population rapidly matures, we anticipate an increased need for goals-based funds that deliver a sustainable and ideally, growing, stream of income: we seek to place the goals of the end investor at the heart of our investment processes.

Here, Chief Investment Officer and Director for AMP Capital Multi-Asset Group, Sean Henaghan, answers our questions about taking a goals-based approach to meet investor expectations.

1. What is driving investor demand for a goals-based approach to investing?

Investor expectations in general are shifting as a result of increased availability of information and capacity to respond to information – timeframes for decision-making have become shorter. End investors are thus less prepared to tolerate outcomes that are not aligned with their needs and goals, especially those who have multiple goals and objectives and judge success and failure in terms of goal achievement, rather than capital markets metrics.

2. What are some of the problems you see with the traditional Strategic Asset Allocation approach?

While many diversified funds will seek to deliver a similar return of CPI + 5%, many managers will employ the traditional approach of setting a long-term strategic asset allocation (SAA) and tactically moving their exposure around the SAA. However, a typical balanced fund for instance, is required to have 60%- 80% in ‘growth’ assets, even if those assets are believed to be expensive. This is to ensure that the balanced fund remains true to label and for the fund to be categorised in the correct peer group survey.

A major problem with this is that the fund becomes increasingly focussed on benchmark and peer-relative risk. Both of these measures are more about organisational and business risk rather than what really matters to the end-investor. To shift this focus, start by asking relevant questions. Ask the end-investor if they prefer a 5% return on their fund or to be first quartile when all funds are down 10%. Does the end-investor appreciate their fund beating the ASX 200 by 3% when it’s down 10%? While the question may be extreme, we make the point that peer relativity and benchmark relativity are metrics developed by the industry for our own ends; not that of the end-investor.

3. How do we ensure the investor is at the forefront of our investment considerations?

Investment short-termism can result from investment managers seeking to outperform a benchmark rather than seeking to achieve a certain level of real growth. In the past, this short-term thinking has permeated from investment managers through to brokers.

An alternative approach is to give investment managers a mandate to grow the assets they invest in, in real terms (for instance CPI +5%), thereby enabling longer term investing while creating better alignment with the needs of the investors.

4. How do we mitigate risks to ensure maximum investor returns?

Many balanced funds do not have a single accountable portfolio manager. Generally, while the Chief Investment Officer of a balanced fund is ultimately accountable for its performance, rarely does the role require day-to-day active management of the fund. We feel it is crucial for a single person to be responsible for owning the overall portfolio; making sure they are comfortable with the risk taken and removing those risks the fund is not being rewarded for. The absence of a single accountable portfolio manager can be likened to an explorer looking for, and finding, diamonds on the beach but failing to notice that a tsunami is about to engulf them.

Our multi-manager portfolios are invested with external managers who have a single accountable portfolio manager. Allocations to risky assets are based on the insights and judgements of the portfolio managers, who are supported by a substantial amount of organisational research when assessing whether the risks in the portfolio will be rewarded through investment return. Portfolio managers are accountable for ensuring they are comfortable with all the risks in the portfolio and will take specific action to remove unwanted risk.

5. How do we measure success that isn’t peer relative?

A challenge of moving to a more end-investor-orientated investment process is the challenge of monitoring the effectiveness of the fund or investment manager. If success is not defined as outperforming an index or a peer group, how do you measure success over short to medium time periods? It requires a more enlightened monitoring process that is multi-dimensional and not just performance based.

We feel this industry has been reliant on simplistic performance metrics and we have developed a more balanced, quarterly scorecard approach to monitoring our goals-based funds. This scorecard approach describes not just a performance outcome but also risk and business-related factors.

We emphatically believe the industry needs to put the member back at the centre of the investment process. This is the key and fundamental principle of goals-based investing.

  • Goals-Based Investing
  • Multi-Asset
  • Retirement
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Important notes

While every care has been taken in the preparation of this article, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455)  (AMP Capital) makes no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This article has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this article, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This article is solely for the use of the party to whom it is provided and must not be provided to any other person or entity without the express written consent of AMP Capital.

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