Portfolio Management Process

Once the type of investment client has been determined along with their financial
goals, a series of steps needs to be followed to ensure those goals and needs are met.

1. The Planning Step

Once the client’s objectives and constraints have been established, an investment
policy statement (IPS) must be developed. This is a written document describing all
the investment objectives and constraints that apply to a client’s portfolio and may
also contain a reference to a benchmark. A benchmark can be used to assess
investment performance and evaluate whether the objectives have been achieved.

2. The Execution Step

The execution step has three stages – asset allocation, security analysis, and portfolio
construction.

Asset Allocation

The analyst or portfolio manager will form a view on the economic and capital market
expectations for various available asset classes. This analysis may be top-down which
starts with a consideration of the macroeconomic or industry environment and an
evaluation of those asset classes expected to perform well given the environment. Or,
the analysis may be bottom-up, which rather than looking at macroeconomic or
industry data, focuses on company-specific factors. A decision will then be taken on
the allocation of assets to the available asset classes. Assets classes can include
equities, bonds, and cash as well as real estate, commodities, hedge funds, and private
equity.

Security Analysis

Top-down and bottom-up views can be combined in selecting individual securities to

assess the level of returns and risk and therefore assign a valuation to securities being
considered for portfolio inclusion.

Portfolio Construction

Using the investment policy statement (IPS), the desired asset allocation, and security
analysis, a diversified portfolio can be constructed. Along with the goal of achieving
investment performance, risk management is an important focus of the portfolio
construction process. The IPS will outline the client’s risk tolerance and the portfolio
manager must ensure the portfolio is aligned to this risk profile. Once the portfolio
manager has decided exactly which securities to buy and in which amounts, the trades
will be implemented. Often, this trading is carried out by a specialized trade execution
team or external stockbroker.

3. The Feedback Step

After the portfolio has been constructed, it needs to be reviewed and monitored at an
appropriate interval.

Portfolio Monitoring and Rebalancing

Portfolio rebalancing is carried out when the portfolio has drifted from the targeted
asset allocation due to market movements. If the top-down or bottom-up views
change, an individual security or asset class may need to be changed. If the client’s
circumstances change, then a revision of the IPS and the portfolio may be required.

Portfolio Measurement and Reporting

The portfolio performance must be evaluated to establish whether the client’s

objectives have been met. The portfolio performance may be assessed relative to the
benchmark set out in the IPS. Following analysis of the performance, it may be
determined that the client’s objectives have changed and this will feedback into the
planning and execution steps.