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10/09/2009
Investment Discipline
By
Marshall E. Blume
In the turbulent market of the last couple years, PMA portfolios handily outperformed common industry benchmarks. How? PMA employs rigorous investment discipline rooted in two primary steps: 1) Determine a risk budget; and 2) Construct a well-diversified portfolio using meticulously selected fund managers with an ultimate goal of maximizing expected returns while staying true to the risk budget. Particularly in down cycles, the value of PMA’s investment discipline is evident and worthy of a closer look.
Though many investors cannot precisely define risk, they know it when they see it. Broadly speaking, risk is the inability to achieve one’s objectives. These objectives might include retirement with no monetary worries, providing for a college education, the purchase of a second home, or perhaps leaving a charitable bequest.
These are worthy objectives, but they do not provide us enough quantitative guidance to construct a portfolio. To that end, PMA ultimately translates each client’s objectives into a risk budget, as measured by short-term volatility of return, or risk. With an understanding of their unique long-term objectives, each of our clients has selected a risk budget. Some have selected a high-risk strategy invested all in equities, while most of our clients have selected a more moderate risk strategy with the recognition that such a strategy will provide more certainly but with somewhat lesser potential returns.
Once a client has selected an acceptable level of risk, PMA constructs a portfolio in line with that risk. Most often, PMA portfolios consist of both bonds and stocks diversified over a broad spectrum of carefully selected investment managers. To select investment managers, we first utilize a proprietary statistical model to identify managers with excellent historical performance. We then interview managers that have passed our rigorous quantitative analysis to gauge whether they have the skills necessary to provide excellent performance in the future.
The PMA selection process has shown its value to our clients this year as it has in the past. For the first eight months of this year, the equity managers that PMA has selected and in which PMA has invested over one million dollars each beat the broad-based S&P 500 Composite Index. Even though the S&P 500 was down over the last 20 months, PMA equities did better than the Index. Those with bonds in their portfolios did even better.
In this turbulent market, PMAs strategy in selecting mangers and of constructing portfolios in tight keeping with risk budgets has proven most effective. This is done by both diversifying equity risk across equity investment managers and for most of our clients by tempering the risk of equity portfolios with investments in lower risk bonds.
We are proud of our investment discipline and the demonstrated value it delivers to PMA clients.
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