DEC 2020 LIII

Presentation and Reporting - Requirements

1) At least five years of performance i. the firm must present an additional year of performance each year, building up to a minimum of 10 years of GIPS compliant performance. 2) Composite returns for each annual period. 3) For composites with a composite inception date of 1 January 2011 or later, when the initial period is less than a full year, returns from the composite inception date through the initial annual period end. 4) For composites with a composite termination date of 1 January 2011 or later, returns from the last annual period end through the composite termination date. 5) The total return for the benchmark for each annual period. 6) The number of portfolios in the composite as of each annual period end (if the composite contains more than five portfolios at period end). 7) Composite assets as of each annual period end. 8) Either total firm assets or composite assets as a percentage of total firm assets, as of each annual period end. 9) A measure of internal dispersion of individual portfolio returns for each annual period (if the composite contains more than five portfolios for the full year).

AA - Criteria for Asset Class Specification

1. Assets within an asset class should be relatively homogeneous. 2. Asset classes should be mutually exclusive. 3. Asset classes should be diversifying. 4. The asset classes as a group should make up a preponderance of world investable wealth. 5. Asset classes selected for investment should have the capacity to absorb a meaningful proportion of an investor's portfolio. Categories of Assets 1. Capital assets (equities, bonds) 2. Consumable / Transformable (Commodities) 3. Store of Value assets (currency, artwork)

AA- Elements of effective governance and investment governance considerations in asset allocation.

1. Long- and short-term objectives of the investment program. 2. Allocate decision rights and responsibilities among the functional units in the governance hierarchy effectively, taking account of their knowledge, capacity, time, and position in the governance hierarchy. 3. Specify processes for the investment policy statement that will govern the day-to-day operations of the investment program. 4. Specify processes for developing and approving SAA 5. Establish Reporting framework to Monitor the program's progress 6. Periodically Governance Audit.

Valuation Hierarchy

1. Objective, observable quoted market prices for similar investments in active markets. 2. Quoted prices for identical or similar investments in markets that are not active. 3. Market-based inputs, other than quoted prices, that are observable for the investment. 4. Estimates based on quantitative models and assumptions.

CME Framework

1. Set of expectations and time horizon 2. Research the historical record. 3. Method(s) and/or model(s) 4. Sources for information needs. 5. Interpret the current investment environment 6. Provide the set of expectations and document the conclusions. Monitor outcomes, compare to forecasts, and provide feedback.

CME - Approaches to Economic Forecasting - Economic indicators

1. They provide information about an economy's activity and help identify its position in the business cycle. Types include lagging, coincident and leading indicators. Individual leading indicators can be combined into a 'diffusion index'. This approach is the simplest. However, it can generate false signals and is vulnerable to revisions that may overfit past data.

CME - Approaches to Economic Forecasting - Checklist approach

1. This method is subjective and involves putting together information that is considered relevant by the analyst. This approach is the most flexible but also the most subjective

Verification

1. Verification must be performed by a qualified independent third party. 2. Verification assesses whether: 1. The firm has complied with all the composite construction requirements of the GIPS standards on a firm-wide basis, and 2. The firm's policies and procedures are designed to calculate and present performance in compliance with the GIPS standards. 3. A single verification report is issued with respect to the whole firm. Verification cannot be carried out on a composite. 4. The initial minimum period for which verification can be performed is one year (or from firm inception date through period end if less than one year) of a firm's presented performance. The recommended period over which verification is performed is that part of the firm's performance for which compliance with the GIPS standards is claimed. 5. A verification report must opine that: 1. The firm has complied with all the composite construction requirements of the GIPS standards on a firm-wide basis, and 2. The firm's policies and procedures are designed to calculate and present performance in compliance with the GIPS standards. 6. The firm must not state that it has been verified unless a verification report has been issued. 7. A principal verifier may accept the work of another verifier as part of the basis for the principal verifier's opinion. 8. Sample portfolio selection: verifiers must subject the entire firm to testing when performing verification procedures unless reliance is placed on work performed by a qualified and reputable independent third party or appropriate alternative control procedures have been performed by the verifier. Verifiers may use a sampling methodology when performing such procedures.

AA - critique heuristic and other approaches to asset allocation

1/N rule - Asset classes treated as indistinguishable in terms of returns, volatility and correlations Risk parity - Ignores expected returns;contribution to risk is highly dependent on the formation of the investment opportunity set Endowment model - Complex and high cost 60/40 stock/bond heuristic - Does not consider investor circumstances "120 minus your age" rule - Lacks nuances of target date funds' glide paths

CME - Business Cycle

A business cycle may be defined as the period between two consecutive peaks. In economics, a trough is a low turning point or a local minimum of a business cycle. The time evolution of many variables of economics exhibit a wave like behavior with local maxima (peaks) followed by local minima (troughs).

CME - Cross-sectional consistency

A feature of expectations setting which means that estimates for all classes reflect the same underlying assumptions and are generated with methodologies that reflect or preserve important relationships among the asset classes, such as strong correlation. It is the internal consistency across asset classes.

CME - Intertemporal consistency

A feature of expectations setting which means that estimates for an asset class over different horizons reflect the same assumptions with respect to the potential paths of returns over time. It is the internal consistency over various time horizons

Advertisement Guidelines - Requirements

All advertisements that include a claim of compliance with the GIPS standards by following the GIPS Advertising Guidelines must disclose the following: 1. The definition of the firm. 2. How a prospective client can obtain a compliant presentation and/or the firm's list of composite descriptions. 3. The GIPS compliance statement for advertisements: "[Insert name of FIRM] claims compliance with the Global Investment Performance Standards (GIPS®). The number of accounts in the composite need not be disclosed in advertisements, and only advertisements that include performance information must disclose the composite and benchmark descriptions

CME - Forcasting Volatility Variance Covariance - Multi Factor Method

Another method of estimating VCV matrices is to use multi-factor models. Linear factor models impose a structure on the VCV matrix which makes it possible to handle a very large number of asset classes. Therefore, this method helps overcome the drawback of the sample statistic method. The covariances are fully determined by exposures to a smaller number of common factors. Each variance includes an asset-specific component. To determine no of samples = n2 - n 2 Adv - It can handle a large number of asset classes - A well-specified factor model can also improve cross-sectional consistency Dis Adv - The VCV matrix is biased; the expected value is not equal to the true VCV matrix - The VCV matrix is also inconsistent; it does not converge to the true matrix as the sample size gets arbitrarily large. (In contrast, the sample VCV matrix was both unbiased and consistent.)

AA - Real World Constraints (Asset Size) II

Asset Size (Pros & Cons) Pros 1. Diversification benefits 2. More Complex Assets (greater gov and staffing) 3. Better negotiation terms 4. Increased allocation to PE & RE Cons 1. Difficult to capture returns on assets with low markt cap 2. Large trades have Price Impact 3. Tendenciy to invest outside area of expertise 4. Possible Concentration in External Mgrs 5. Slower decision making Time Horizon · Notion of Random Walk (return in period X is independent of return in period (X-1) BB example 1 Takeaway · Change in CF has impact on liquidity & Size constraint · Relationship btw Equity & HY bonds in Taxable Account - High correlation o Port can increase invest in equities (more tax efficient) due to the high corr and reduce invest in HY bonds o Equity (after tax) less volatility than HYbonds in taxable account

Composite Returns - Requirements

Asset-weighting individual portfolio returns using beginning-of-period values or a method that reflects both beginning-of-period values and external cash flows. ▪ At least quarterly (beginning January 1, 2006) ▪ At least monthly (on or after January 1, 2010)

CME Forcasting Equity - SINGER-TERHAAR MODEL (Equilibrium Approach)

Bi,m = Cov(Ri,Rm) Var (Rm) Integrated Market= CorrGM, σi (RPGM) σGm Segmented Market = σi (RPi) σi Note: illiquidity premium is added to real estate computation

AA - Standard constraints used in mean-variance optimization

Budget (unity) constraint: sum of asset class weights = 1 § Non-negativity constraint Other possible constraints that can be added are: 1. Specify a set (Fixed) allocation to a specific asset. For example, 20% to real estate or 30% to human capital. 2. Specify an asset allocation range for an asset. For example, 5% to 20% allocation to the emerging market. 3. Specify an upper limit, due to liquidity considerations. For example, we can set an upper limit to an alternative asset class to address liquidity considerations. 4. Specify the relative allocation of two or more assets. For example, allocation to emerging equities must be less than the allocation to developing equities. 5. Hold one or more assets representing the systematic characteristics of the liability short.

CME- Macroeconomic Linkages 2

Capital and Current Account have Opposite effect (surplus and Deficit) Ø Capital Account - FDI & FPI S - Private Savings I - Domestic Investment T - Govt Tax G - Govt Expenditure Ø Current Account - Trade (Import/Export) and Investment Income · Net Exports = Net Private Savings (S - I) + Govt Surplus (T - G) (X - IM) = (S - I) + (T - G)

Curve Out Segment

Carve-out must not be included in a composite unless the carve-out is managed separately with its own cash balance (on or after 1 January 2010). Examples: ▪ Can't carve out the equity portion of a portfolio because it does not have a cash balance. ▪ If a carve-out holds 'tactical' or 'frictional' cash, that is okay; but, can't simply have a cash allocation policy.

AA - characteristics of liabilities that are relevant to asset allocation.

Characteristics of Liabilities that can affect asset allocation include the following: 1. Fixed versus contingent cash flows 2. Legal versus quasi-liabilities 3. Duration and convexity of liability cash flows 4. Value of liabilities as compared with the size of the sponsoring organization 5. Factors driving future liability cash flows 6. Timing considerations, such as longevity risk 7. Regulations affecting liability cash flow calculations such as discount rate · A decline in short-term interest rates is least likely to affect funded status, because liabilities are discounted using 10-year rates. · a higher salary growth rate increases the projected liabilities and thus negatively affects the funded status of the SPP average participant age affects the date and timing of future benefit payments. If the average participant age increases, withdrawals from the plan will occur sooner, causing the present value of future withdrawals from the SPP to increase, resulting in a negative impact on its funded status

CME Forcasting - Fixed Income (DCF)

(Macaulay duration = Modified duration x (1+r)) • Horizons shorter than the Macaulay duration, capital gain/loss impact will dominate • Horizons longer than the Macaulay duration, reinvestment impact will dominate.

CME - Business Cycle- Slowdown

- Economy approaches peak level in response to rising interest rates, - fewer investment opportunities and accumulated debt. - Business confidence wavers. Inflation continues to rise CM Effects - Short-term interest rates are at or nearing a peak. - Government bond yields peak but may then decline sharply. - The yield curve may invert. - Credit spreads widen, especially for weaker credits. Stocks may fall. Interest-sensitive stocks and "quality" stocks with stable earnings perform best.

CME - Business Cycle- Early Expansion

- Economy gaining momentum, - unemployment starts to fall, - output gap remains negative. Consumer demand rises. Business production and investment rises. Demand for housing and consumer durables is strong CM Effects - Short rates are moving up. - Longer-maturity bond yields are stable or rising slightly. - Yield curve starts to flatten. - Stocks trend up.

CME - Business Cycle- Contraction

- Firms cut production sharply. - Central banks ease monetary policy. - Profits drop. Tightening credit magnifies downward pressure on economy. Unemployment rises CM Effects - Interest rates and bond yields drop. - The yield curve steepens. - Credit spreads widen and remain elevated until clear signs of a cycle trough emerge. The stock market drops initially but usually starts to rise well before the recovery emerges.

CME - Business Cycle- Initial Recovery (short phase)

- Output Gap - Large - Inflation - Decelerating - Business confidence rises, simulative policies in place. Recovery supported by upturn in spending on housing and consumer durables. CM Effects - Short-term interest rates and bond yields are low (bottoming). - Stock markets may rise strongly. Cyclical (car manuf, Hotels & resorts, airlines)/riskier assets perform well.

CME - Business Cycle- Late Expansion

- Output gap closed. - Boom mentality. - Low unemployment. - Rising wages and inflation. Capacity pressures boost investment spending. Debt ratios may deteriorate. CM Effects - Interest rates rise, - yield curve continues to flatten. - Stock markets often rise but may be volatile. - Cyclical assets may underperform. - Inflation hedges outperform

GIPS Key Characteristics

- To claim compliance, define firm - "distinct" business entity - GIPS - ethical standards for performance presentation - ensure fair representation - Include all actual fee-paying, discretionary portfolios in composites for 5-year minimum, or since inception (add performance results each year - 10 years) - Certain calculation/presentation standards are required, along with disclosures - Input data must be accurate - GIPS-required and recommended provisions (encouraged) - No partial compliance allowed - If GIPS conflicts with local law, follow local law but disclose conflict

CME- Real Estate Forcasting

E(r ) = cap rate + NOI Growth - long term if period not specified or up to 10years *Note: GDP growth is used for NOI growth in long term growth estimate Cap rates are higher for riskier property types, lower-quality properties, and less attractive locations. · NOI is close to GDP growth rate in the long run · NOI growth is Real growth +Inflation · Cap rate positively related to Interest rates & Vacancy Rates · Cap rates Inversely (negatively) related Availability of Credit and Debt Financing · Retail rent has highest Return and Low volatility · Industrial Rent has lowest Return and Highest Volatility

CME- Macroeconomic Linkages 3

Example: What is effect of Increase in Tax, Govt Deficit & Current Account Deficit Ans: Current Account deficit will likely Decrease due to · Increase in T= Decrease in Govt Deficit (T-G) · Decrease in I= Increase in Net Private Saving = Reduce Current Account Deficit · Private Saving will reduce dampening effect on Current Account but not by much What is the effect on Capital Account Ans: Capital Account Surplus will Decrease due to inverse relationship with Current Account: · Increase Tax = Reduced borrowing from Abroad & Reduced FDI (buying assets from abroad) = Reduce Capital Account Surplus · Increase in Net Private Savings due to Decrease in I may attract domestic Savers to invest abroad (buy foreign asset) = Reduce Capital Account Surplus Effect of Devaluation on Holdings of Long term Bonds in another country · Ans: Value of Investment will go dowm due to devaluation · However in Long term: o Spreads will widen (esp in short end) in foreign country due to threat of devaluation o Yield curve will likely invert thereby increasing prices (capital gain) of long tenured bonds o Net effect on the portfolio devaluation wil be tampered by the gains on bonds

▪Benefits to GIPS to prospective clients and investment managers

Existing and prospective clients: ▪ credible and standard data ▪ confidence in reported performance and makes ▪ comparisons among firms easy. Investment management firms: ▪ helps with marketing activities. It can also ▪ strengthen the firm's internal controls.

AA - use of investment factors in constructing and analyzing an asset allocation II

Factor Xtics § The factors commonly used in the factor-based approach generally have low correlations with the market and with each other. Why - Constructing factors based on zero dollar (offsetting short and long positions) removes most market exposure from the factors; as a result, the factors generally have low correlations with the market and with one another § Can be viewed as a zero (dollar) investment, or self-financing investment The factors commonly used in the factor-based approach are typically similar to the fundamental or structural factors used in multifactor models

AA - Use of the global market portfolio as a baseline portfolio in asset allocation.

Global market-value weighted portfolio should be the baseline asset allocation • Represents all investable assets → minimizes non-diversifiable risk • Investing in the global market portfolio helps mitigate investment biases such as home country bias Investing in the global market portfolio is done in two phases: • Allocate assets in proportion to the global portfolio of stocks, bonds, and real assets. • Disaggregate each broad asset class into regional, country, and security weights using capitalization weights. Implementation hurdles: • Size of each asset class on a global basis can't be precisely determined • Not practical to invest proportionately in residential real estate • Private commercial real estate and global private equity assets are not easily carved into pieces of a size that is accessible to most investors Proxies for the global market portfolio are often based only on traded assets, such as portfolios of exchange-traded funds (ETFs).

AA - Recommend and justify an asset allocation using a goals-based approach

In a goals-based asset allocation, an overall portfolio is sub-divided into a number of sub-portfolios, each of which is designed to fund an individual goal with its own time horizon and required probability of success. ▪Therearetwofundamentalpartstotheassetallocationprocessingoals-basedinvesting.Thefirstpartinvolvescreationofportfoliomodules,whilethesecondpartinvolvesidentificationofclientgoalsandthematchingofthesegoalstotheappropriatesub-portfoliostowhichsuitablelevelsofcapitalareallocated.

CME - Forcasting Volatility Variance Covariance - Shrinkage Estimation Method

In this method the information in the sample data (sample VCV matrix) is combined with an alternative estimate. Typically, the alternative estimate is the target VCV matrix, which assumes 'prior' knowledge of the structure of the true VCV matrix. Adv - The major advantage of the shrinkage estimation method is that it helps reduce the impact of estimation error on the final matrix. Dis Adv - the disadvantage of this method is that the shrinkage estimator is biased Time-Varying Volatility: ARCH Models Financial asset returns exhibit volatility clustering. Autoregressive conditional heteroskedasticity (ARCH) models help address these time-varying volatilities. One of the simplest and most used ARCH models specifies 'time t' variance as a linear combination of time (t - 1) variance and a new 'shock' to volatility.

AA - use of investment factors in constructing and analyzing an asset allocation I

Investment opportunity set can consist of investment factors. ▪ Factors are based on observed market premiums and anomalies. ▪ Factors used in asset allocation include: market exposure, size, valuation, momentum, liquidity, duration (term), credit, and volatility. ▪ Asset allocation should be performed in a space (risk factors or asset classes) where one is best positioned to make capital market assumptions. ▪ Expanding opportunity set to include new, weakly correlated risk factors or asset classes will improve risk-return trade-off. § when the opportunity sets have similar exposures, then the asset allocation based on risk factors would be similar to asset allocation based on asset classes

AA - Asset class liquidity considerations in asset allocation

Less liquid asset classes include direct real estate, infrastructure and private equity; offer illiquidity return premium. ▪ Two major problems associated with less liquid asset classes: 1) Lack of accurate indexes → challenging to make capital market assumptions 2) Difficult to diversity and no low-cost passive investment vehicles ▪ Practical options of investing in less liquid assets: o Exclude less liquid asset classes from MVO; then consider real estate funds, infrastructure funds, and private equity funds as part of SAA. o Include less liquid asset classes in the asset allocation decision and model the specific risk characteristics associated with the implementation vehicles. o Include less liquid asset classes in the asset allocation decision and model the inputs to represent the highly diversified characteristics associated with the true asset classes.

AA - MVO Vs Reverse Optimization

MVO Input § Expected Returns (based on Historical Returns) § Covariance § Risk Aversion coefficient Output - Optimized Assset Allocation Reverse Optimization Inputs § Asset Allocation (based on Global market capitalization) § Covariance § Risk Aversion coefficient Output - Optimized Returns Rev Op - The equilibrium returns are essentially long-run capital market returns provided by each asset class and are strongly linked to CAPM. The reverse-optimized returns are calculated using a CAPM approach MVO - In contrast, the expected returns in the MVO approach are generally forecasted based on historical data and are used as inputs along with covariances and the risk aversion coefficient in the optimization Rev Op (Black-Litterman Asset Only Approach) - The global market equilibrium portfolio is the default strategic asset allocation for the Black-Litterman Asset-only approach a model for deriving a set of expected returns that can be used in an unconstrained or constrained optimization setting

AA - Use of Monte Carlo simulation and scenario analysis to evaluate the robustness of an asset allocation

Monte Carlo simulation complements MVO. o It handles multiple periods. o It presents a realistic picture of potential future outcomes. o It takes into account the impact of trading, rebalancing, and tax costs. ▪ Monte Carlo simulation is particularly important when there are cash inflows/outflows and returns vary over time ▪ Monte Carlo simulation allows us to evaluate the robustness of an asset allocation · Monte Carlo simulation can accommodate many future possible scenarios, such as portfolio rebalancing costs and non-normal distributions (i.e., distributions that require more than expected return and volatility as parameters)

Linking Past Firm/Affiliation

Performance of a past firm or affiliation must be linked to or used to represent the historical performance of a new or acquiring firm if, on a composite-specific basis: i. Substantially all of the investment decision makers are employed by the new or acquiring firm; ii. The decision-making process remains substantially intact and independent within the new or acquiring firm; and iii. The new or acquiring firm has records that document and support the performance.

AA - Strategic considerations in rebalancing asset allocations

Strategic considerations in rebalancing include the following: 1) Transaction costs: Higher transaction costs for an asset class imply wider rebalancing ranges. 2) Risk aversion: More risk-averse investors will have tighter rebalancing ranges 3) Correlations among asset classes: Less correlated assets have tighter rebalancing ranges 4) Beliefs concerning momentum: Beliefs in momentum favor wider rebalancing ranges, whereas mean reversion (contrarian) encourages tighter ranges 5) Asset class liquidity: Illiquid investments complicate rebalancing; 6) Volatility: The higher an asset class' volatility, the narrower should be the corridors; 7) Derivatives create the possibility of synthetic rebalancing 8) Taxation: Taxes discourage rebalancing and encourage asymmetric and wider rebalancing ranges. · An asset class that exhibits low volatility relative to the rest of the portfolio (3.5%, Exhibit 1). The lower the volatility of an asset class relative to the rest of the portfolio, the wider the optimal rebalancing corridor. · an asset class exhibits a lower correlation with the rest of the portfolio, the rebalancing range should be narrower—not wider—to preserve its contribution to risk reduction · low transactions costs associated with the global fixed-income asset class means that rebalancing will be less costly, justifying a narrower rebalancing corridor

AA - Absolute and Relative risk budgets and their use in determining and implementing an asset allocation

The goal of risk budgeting is to maximize return per unit of risk ▪ Three aspects of risk budgeting: 1) The risk budget identifies the total amount of risk and allocates the risk to a portfolio's constituent parts. 2) An optimal risk budget allocates risk efficiently. 3) The process of finding the optimal risk budget is risk budgeting. ▪ Marginal Contribution to Total Risk (MCTR) = rate at which risk changes with a small change in the current weights = (Beta of asset class i with respect to portfolio) x (Portfolio return volatility) ▪ Absolute Contribution to Total Risk (ACTR) = amount asset class contributes to portfolio return volatility = (Weighti)(MCTRi) ▪ Asset allocation is optimal from a risk-budgeting perspective when the ratio of excess return (over the risk-free rate) to MCTR is the same for all assets and matches the Sharpe ratio of the tangency portfolio.

CME - (Forcasting Volatility) Variance Covariance - Sample Statistics Method

The most basic method of estimating variances and covariances is to use corresponding sample statistics computed from historical return data. These elements are then assembled into a variance-covariance (VCV)matrix. However, it is subject to large sampling errors unless the number of observations is large relative to the number of assets Adv - conceptually simple - sample VCV matrix is an unbiased estimate of the true VCV structure Dis Adv - It cannot be used for a large number of asset classes - some portfolios would appear riskless - subject to substantial sampling error does not impose cross-sectional consistency since each element is estimated without considering other elements

CME - Currency Exchange I

The overshooting mechanism implies that there are likely to be three phases in response to relative movements in investment opportunities. • In the first phase, the short-term, the domestic currency will appreciate as capital flows into the country. (Hot money) • In the second phase, the intermediate term, there will be consolidation as investor begin to question the level of exchange rate. • In the third phase, the long-term the domestic currency will depreciate to the level predicted by the above equation.

AA - Real World Constraints (Asset Size)

The primary constraints on an asset allocation decision are asset size, liquidity, time horizon, and other external considerations, such as taxes and regulation. • Asset size: a portfolio could be: ➢ too large for some asset classes and certain active strategies ➢ too small for complex asset classes like hedge funds and private equity where there is a minimum investment requirement • Liquidity constraint has two dimensions: ➢ Liquidity characteristics of asset class ➢ Liquidity needs of asset owner o Time horizon o Liquidity needs under high market stress o Governance capacity - Complex asset classes and investment vehicles require sufficient governance capacity. • Time horizon. Two major aspects: ➢ Changes in human capital ➢ Changing character of liabilities • Regulatory and Other External Constraints ➢ Allocations to certain asset classes might be constrained by regulator ➢ Tax incentives ➢ Need to maintain certain financial ratios

CME - Forcasting Exchange rates

There are three ways in which trade in goods and services can influence the exchange rate. • Trade Flows: Provided they can be financed by foreign inflow; trade flows do not usually exert a significant impact on exchange rates. • Purchasing Power Parity: PPP is based on the law of one price, which states that identical goods should trade at the same price across countries when valued in terms of a common currency. The relative version of PPP states that: Expected percentage change in exchange rate = difference in expected inflation rates · PPP is often violated in the short-term, but it is a reasonable guide to currency movements over multi-year horizons. • Competitiveness and Sustainability of the Current Account: The extent to which the current account balance influences the exchange rate depends primarily on whether it is likely to be persistent and whether it can be sustained.

AA - approaches to liability-relative asset allocation

Three approaches to liability-relative include: 1) Surplus optimization involves MVO applied to surplus returns. It uses the following utility function. - MVO of both asset & liabilities - liabilities modeleed as negative asset (will offset positive assets and result in surplus assets) - Difference in asset allocation btw surplus optimization and asset only most significant in Conservative portfolios 2) Hedging/return-seeking portfolios approach has two portfolios; one focuses on hedging the investor's liability stream while the other focuses on maximizing portfolio return. 3)An integrated asset- liabilityapproachmakesdecisionsregardingthecompositionofliabilitiesinconjunctionwithassetallocation.Usefulforbanks,long-shorthedgefunds,insuranceandre-insurancecompanies.

CME - Evaluating Emerging Market Risk

To evaluate emerging market economies an investor can look at the following indicators: ü Fiscal deficit to GDP > 4%, ü Debt to GDP > 70%, ü Annual real growth rate < 4%, ü Foreign debt > 50% of GDP Or > 200% of Foreign Receipts ü Current Account Deficit > 4% of GDP ü Foreign Exchange Reserves < 100% of Short-Term debt

CME - Change in Global Weights due to change in Macroeconomic Factors

Trend growth: When we have a higher trend growth, we should increase our allocation to equities and reduce our allocation to bonds. Global Integration: An investor should invest in markets which are likely to become more integrated. Phases of the Business Cycle: As an economy approaches the trough of the business cycle, equity allocation should be increased and bond allocation should be reduced. As an economy approaches the peak of the business cycle, bond allocation should be increased and equity allocation should be reduced Monetary and Fiscal Policies: Opportunities to add value by reallocating the portfolio are likely to arise when: • There are structural policy changes. • The response to policy measures is not as expected. Current account balances: An investor should reallocate portfolio assets from countries with secularly rising current account deficits to those with secularly rising current account surpluses (or narrowing deficits). Capital Accounts and Currencies: If assets in a particular currency offer a relatively high riskadjusted expected return, an analyst should asses the stage in the overshoot cycle, to determine if there is meaningful appreciation yet to come or if the currency has already overshot and will decline. Analysts can increase or decrease allocation to that country accordingly.

CME - Currency Exchange II

Uncovered interest rate parity predicts that Expected percentage change in exchange rate = nominal interest rate differential. %Δ𝑠𝑓/𝑑𝑒= 𝑖𝑓− 𝑖𝑑 · So, if the risk-free nominal in the domestic currency are higher than the rates in the foreign currency, the domestic currency will depreciate, and the foreign currency will appreciate. · uncovered interest rate parity will hold in the long-term, whereas carry trades exploit short-term opportunities.

AA - Recommend and justify a liability-relative asset allocation

When the objective is to minimize the volatility of the surplus, it is appropriate to choose an asset allocation toward the left-hand side of the surplus efficient frontier. ▪ The most conservative mix for the surplus efficient frontier consists mostly of the hedging asset because it results in the lowest volatility of surplus. ▪ The most conservative mix for the asset-only efficient frontier consists mainly of cash.

AA - A liability glide path

a technique in which the plan sponsor specifies in advance the desired proportion of liability-hedging assets and return-seeking assets and the duration of the liability hedge as funded status changes and contributions are made

AA - Strategic implementation choices in asset allocation, including passive/active choices and vehicles for implementing passive and active mandates

dynamic asset allocation (DAA) - A strategy incorporating deviations from the strategic asset allocation that are motivated by longer-term valuation signals or economic views Factors impacting active vs passive investment decision: ▪ Available investments ▪ Scalability of active strategies being considered ▪ Feasibility of investing passively given constraints (eg ESG) ▪ Beliefs concerning market informational efficiency ▪ Cost-benefit trade-off ▪ Tax status Risk budgeting refers to which risks to take and to what extent; • Can be stated in absolute or relative terms • Active risk budgeting: how much benchmark-relative risk an investor is willing to take in seeking to outperform a benchmark; two levels of active risk budgeting o Overall asset allocation level o Individual asset class level

CME The Taylor Rule

i∗ = rneutral + πe + 0.5(̂Ye − Ŷtrend) + 0.5(πe − πtarget)

AA - use of risk factors in asset allocation

o Inflation. Going long nominal Treasuries and short inflation-linked bonds isolates the inflation component. o Real interest rates. Inflation-linked bonds provide a proxy for real interest rates. o Credit spread. Going long high-quality credit and short Treasuries/government bonds isolates credit exposure.

GIPS Recommended disclosures

o Material changes to valuation policies and/or methodologies. o Material changes to calculation policies and/or methodologies. o Material differences between the benchmark and the composite's investment mandate, objective, or strategy. o key assumptions used to value portfolio investments. o If a parent company contains multiple defined firms, each firm within the parent company should disclose a list of the other firms contained within the parent company. o Prior to January 1, 2011- Disclose the use of subjective unobservable inputs for valuing portfolio investments if the portfolio investments valued using subjective unobservable inputs are material to the composite. o Prior to January 1, 2006, firms should disclose the use of a sub-adviser and the periods a sub-adviser was used. Firms should disclose if a composite contains proprietary assets.

CME - Approaches to Economic Forecasting - Econometric models

o Structural models that specify functional relationships among variables based on economic theory. o Reduced form models are more compact versions of the underlying structural models loosely tied to economic theory. These models impose a discipline on forecasts, are robust enough to approximate reality, and can readily forecast the impact of exogenous variables. However, they tend to be complex, time-consuming to formulate, and they rarely forecast turning points well.

CME Biases in analysts' methods

o data mining bias (Lack of an explicit economic rationale for a variable's usefulness is a warning sign of a data-mining problem), A further practical check is to examine the forecasting relationship out of sample o time period bias

Wrap Fees and Separate Managed Accounts

v These specific WFSMA provisions apply where the underlying investment management firm has discretion to manage the client portfolio and a bundled fee is charged by the sponsor. (1) the performance results of the end user client must be computed, documented, and verified. (2) Returns must be calculated after actual trading expenses. If the trading expenses cannot be identified and separated from the bundled wrap fee, the entire bundled fee including the trading expenses must be deducted from the return. (3) Disclose all of the other items included in the bundled fee. (4) Composite results must disclose the percentage of composite assets made up of portfolios with bundled fees.

AA - Recommend and justify an asset allocation using mean-variance optimization

§ First identify the portfolio with the highest Sharpe ratio § Combine that portfolio with a risk-free asset. § This combination will have the required expected return with the minimum level of risk. Stated another way, this combination defines the efficient portfolio at a required level of expected return based on the linear efficient frontier created by the introduction of a risk-free asset.

AA - Mean-variance optimization (MVO) I

§ Mean-variance optimization (MVO) provides a framework for determining how much to allocate to each asset in order to maximize the portfolio's expected return at a given level of risk. § MVO is a risk budgeting tool which helps investors spend their risk budget wisely. § Expected Returns are based on Historical Data ▪ Criticisms of MVO include the following: 1. The outputs (asset allocations) are highly sensitive to small changes in the inputs. 2. The asset allocations tend to be highly concentrated in a subset of the available asset classes.(black litterman and reverse mvo produce more diversified portfolios closer to historical figures) 3. Many investors are concerned about more than the mean and variance of returns, the focus of MVO. 4. Although the asset allocations may appear diversified across assets, the sources of risk may not be diversified. 5. Most portfolios exist to pay for a liability or consumption series, and MVO allocations are not directly connected to what influences the value of the liability or the consumption series. 6. MVO is a single-period framework that does not take account of trading/rebalancing costs and taxes. ▪ Some techniques for addressing the limitations of MVO: o Reverse optimization o Reverse optimization tilted toward an investor's views on asset returns (Black- Litterman) o Constraints on asset class weights to prevent extremely concentrated portfolios o Resampled efficient frontier Utility = E(R) - 0.005 x lamda x variance (or S.d^2) x Return Low λ (1-4)= Very Aggressive Portfolio High λ (5 -10)= Conservative portfolio · If the E(r) =10% and Um=6%. This means that the investor values a risky return of 10% and a riskfree return of 6% equally - Um can be interpreted as a Certainty Equivalent Return. It is the utility value of the risky return offered by the asset mix stated in terms of the Riskfree return that the investor would value equally

Composite Construction

· A composite is an aggregation of one or more portfolios managed according to a similar investment mandate, objective, or strategy. · The composite return is the asset-weighted average of the performance of all portfolios in the composite.

Composite Construction - Recommendation

· As an alternative to temporarily removing the account from the composite, the firm can direct the significant cash flow into a temporary new account until the funds are invested. · To remove the effect of a significant cash flow, the firm should use a temporary new account.

Effects of Inflation on Asset Classes -Bonds

· Bond values are calculated as the present value of future cash flows. If inflation rises, the discount rate rises which reduces the PV of future cash flows. Therefore, rising inflation leads to capital losses. · If inflation remains within an expected range, short-term yields rise/fall more than longer-term yields it has less price impact because of shorter duration. · If inflation moves out of expected range, longer-term yields rise/fall more sharply as investor reassess the long-run average level of inflation. Persistent deflation benefits highest-quality bonds because it increases the purchasing power of the cash flows.

Effects of Inflation on Asset Classes - Cash: Short-term interest bearing instruments

· Cash earns a floating real rate if short-term interest rates adjust with expected inflation. · Therefore, essentially a zero-duration, inflation-protected asset. Cash is attractive in a rising rate environment.

Construction of Composites - Requirements

· Composites must be defined according to investment mandate, objective, or strategy. · Composites must include all portfolios that meet the composite definition. · Any change to a composite definition must not be applied retroactively. · The composite definition must be made available upon request. · The suggested hierarchy that may be used to define composites is: Investment Mandate > Asset Classes >Style or Strategy >Benchmarks Risk/Return Characteristics

Composite Construction - Requirements

· Composites must include only assets under management within the defined firm. · Firms are not permitted to link simulated or model portfolios with actual performance · Composites must include new portfolios on a timely and consistent basis after the portfolio comes under management. · Terminated portfolios must be included in the historical returns of the appropriate composites up to the last full measurement period that the portfolio was under management. · Portfolios must not be switched from one composite to another unless documented changes in client guidelines or the redefinition of the composite make it appropriate. The historical record of the portfolio must remain with the appropriate composite. · If a firm sets a minimum asset level for portfolios to be included in a composite, no portfolios below that asset level can be included in that composite. Any changes to a composite-specific minimum asset level are not permitted to be applied retroactively. · Firms that wish to remove portfolios from composites in cases of significant cash flows must define significant on an ex-ante composite-specific basis and must consistently follow the composite-specific significant cash flow policy.

Disclosure Requirements

· Definition of "firm" used to determine the total firm assets and firm-wide compliance. · Composite description. · Benchmark description. · Gross-of-fees returns, firms must disclose if any other fees are deducted in addition to the direct trading expenses. · When presenting net-of-fees returns, firms must disclose: o a) if any other fees are deducted in addition to the investment management fee and direct trading expenses; o b) if model or actual investment management fees are used; and o c) if returns are net of performance-based fees. · Currency used to express performance. · Measure of Internal Dispersion is used · Fee schedule appropriate to the compliant presentation. · The composite creation date · Composite descriptions is available upon request. · Policies for valuing portfolios, calculating performance, and preparing compliant presentations are available upon request. · Presence, use, and extent of leverage, derivatives, and short positions, if material, including a description of the frequency of use and characteristics of the instruments sufficient to identify risks. · All significant events that would help a prospective client interpret the compliant presentation. · periods of noncompliance prior to January 1, 2000 · If the firm is redefined, the firm must disclose the date of, description of, and reason for the redefinition. · If a composite is redefined, the firm must disclose the date of, description of, and reason for the redefinition. · changes to the name of a composite.

Treatment of Bundled Fees

· Gross-of-fees returns, returns must be reduced by the entire bundled fee or the portion of the bundled fee that includes the direct trading expenses. · Net-of-fees returns, returns must be reduced by the entire bundled fee or the portion of the bundled fee that includes the direct trading expenses and the investment management fee.

Fundamental valuation (Adjusting P/E under Grinold Kroner)

· However, a challenge with using fundamental valuation metrics is that they tend to fluctuate with the business cycle. To deal with this issue, analysts 'cyclically adjust' the valuation measures. A popular metric is CAPE - cyclically adjusted P/E (CAPE). For this measure, the current price level is divided by the average level of earnings for the last 10 years (adjusted for inflation), rather than by the most current earnings.

Effects of Inflation on Asset Classes - Real Estate

· If inflation stays within an expected cyclical range, renewal of leases will increase rental income and property values will rise with inflation. · Higher than expected inflation will lead to high demand for real estate. Lower than expected inflation (or deflation) will put downward pressure on expected rental income and property values.

Effects of Inflation on Asset Classes - Stocks

· If inflation stays within expected cyclical range, there is little effect on stocks, because inflation expectations are already built into stock prices. · However, unexpectedly high inflation may cause central bank to slow the economy and will impact stocks. · Also, low/falling inflation might imply a recession and a decline in stock prices. High inflation benefits companies that can pass on inflation. Whereas, deflation is detrimental for asset-intensive, commodity-producing and/or highly leveraged firms.

CME - Grinold Kroner Real Estate

· The Ratio of household debt to GDP (65%) is used as a measure for estimating Liquidity Premium: Household debt as a share of GDP is typically used as a proxy for the availability of credit. Because real estate transactions tend to be highly leveraged, more freely availability credit increases the number of potential real estate buyers and reduces the liquidity premium that investors demand as compensation for holding this relatively illiquid asset class.

Grinold Kroner Real Estate

· The Ratio of household debt to GDP (65%) is used as a measure for estimating Liquidity Premium: Household debt as a share of GDP is typically used as a proxy for the availability of credit. Because real estate transactions tend to be highly leveraged, more freely availability credit increases the number of potential real estate buyers and reduces the liquidity premium that investors demand as compensation for holding this relatively illiquid asset class.

CME - shape of the yield curve as an economic predictor

· The slope of the yield curve is useful as a predictor of economic growth and as an indicator of where the economy is in the business cycle. For example, at the bottom of the business cycle the short-term rates are likely to be the lowest and the yield curve will be the steepest. · Changes in the slope of the yield curve are largely driven by the evolution of short rate expectations, which are driven mainly by the business cycle and policies.

Calculation Methodology - Requirements

· Total returns must be used. · Time-weighted rates of return that adjust for external cash flows must be used. · Periodic returns must be geometrically linked. · External cash flows must be treated in a consistent manner with the firm's documented, composite-specific policy · Value portfolios on the date of all large external cash flows (periods beginning January 1, 2010). · Returns from cash and cash equivalents must be included in total return calculations. Fees and expenses - All returns must be calculated after the deduction of actual trading expenses. Estimated trading expenses are not permitted

Disclosure Requirements II

· minimum asset level, if any, below which portfolios are not included in a composite. Firms must also disclose any changes to the minimum asset level. · Treatment of withholding tax on dividends, interest income, and capital gains, if material. · Firms must also disclose if benchmark returns are net of withholding taxes if this information is available. · known material differences in the exchange rates or valuation sources used among the portfolios within a composite and between the composite and benchmark on or after January 1, 2011. · For periods prior to January 1, 2011, firms must disclose and describe any known inconsistencies in the exchange rates used among the portfolios within a composite and between the composite and the benchmark. · conforms with laws and/or regulations that conflict with the requirement of the GIPS standards, firms must disclose this fact and disclose the manner in which the local laws and regulations conflict with the GIPS standards. · Policy used to allocate cash to the carve-outs (prior to January 1, 2010) · Bundled fees, firms must disclose the types of fees that are included in the bundled fee. · Use of a subadviser (after January 1, 2006) · Firms must disclose if any portfolios were not valued at calendar month end or on the last business day of the month (prior to January 1, 2010) · Use of subjective unobservable inputs for valuing portfolio investments if the portfolio investments valued using subjective unobservable inputs are material to the composite (beginning January 1, 2011). · Disclose if the composite's valuation hierarchy materially differs from the recommended hierarchy in the GIPS Valuation Principles. (beginning on January 1, 2011) · If the firm determines no appropriate benchmark for the composite exists, the firm must disclose why no benchmark is presented. · If the firm changes the benchmark, the firm must disclose the date of, description of, and reason for the change. · If a custom benchmark or combination of multiple benchmarks is used, the firm must disclose the benchmark components, weights, and rebalancing process. · If the firm has adopted a significant cash flow policy for a specific composite, the firm must disclose how the firm defines a significant cash flow for that composite and for which periods. · Firms must disclose if the 3-year annualized ex post standard deviation of the composite and/or benchmark is not presented because 36 monthly returns are not available. · If the firm determines that the 3-year annualized ex post standard deviation is not relevant or appropriate, the firm must: o a) describe why ex post standard deviation is not relevant or appropriate; and o b) describe the additional risk measure presented and why it was selected. · Firms must disclose if the performance from a past firm or affiliation is linked to the performance of the firm.

▪Fundamentals of Compliance - Recommendations

• Be verified by third party • Adopt broadest, most meaningful definition of the firm • Annually provide each existing client a GIPS-compliant presentation for any composite in which client's portfolio is included

AA - economic balance sheet

• Individual Investors (extended portfolio assets/liabilities include) ▪ Assets: o human capital, o PV of pension income, o PV of expected inheritances ▪ Liabilities: PV of future consumption • Institutional Investors ▪ Assets: underground mineral resources, PV of future intellectual property royalties ▪ Liabilities: PV of prospective payouts for foundations

Challenges in developing capital market forecasts

• Limitations of economic data - lack of timeliness, revisions, changing definitions and calculations • Data measurement errors and biases - transcription (gathering and recording data) errors, survivorship bias, appraisal data • Limitations of historical estimates - regime changes, asynchronous observations, distributional considerations such as fat tails and skewness o Regime changes - Although higher-frequency data improve the precision of sample variances, covariances, and correlations, they do not improve the precision of the sample mean o Asynchronous Data across variables - i.e., not simultaneous or concurrent in time For example, daily data from different countries are typically asynchronous because of time zone differences. • Ex post risk can be a biased measure of ex ante risk- such as when historical returns reflect expectations of a low-probability event that did not occur or capture a low probability event that did happen to occur • Failure to account for conditioning information • Misinterpretation of correlations • Psychological biases - anchoring bias, status quo bias, confirmation bias, overconfidence bias, prudence bias, availability bias • Model uncertainty, parameter uncertainty, input uncertainty

CME- Macroeconomic Linkages 1

• Macroeconomic linkages between countries are expressed through their respective current and capital accounts. • There are four primary mechanisms by which the current and capital accounts are kept in balance: o changes in income (GDP), o relative prices, o interest rates and asset prices, and o exchange rates. • In the short run, interest rates, exchange rates, and financial asset prices must adjust to keep the capital account in balance with the more slowly evolving current account. The current account, in combination with real output and the relative prices of goods and services, reflects secular trends and the pace of the business cycle.

CME Sources of exogenous shocks

• Policy changes • New products and technologies • Geopolitics • Natural disasters • Natural resources/critical inputs • Financial crises

▪Fundamentals of Compliance - Requirements

• Properly define the 'firm' - held out to clients or potential clients as a distinct business entity. • Document policies and procedures used in establishing and maintaining compliance with the GIPS standards. • Define criteria for including portfolios in specific composites. • "Make every reasonable effort" to provide all prospective clients with compliant presentation. • Meet all requirements.

CME Forcasting - Fixed Income (Building Block)

• Short-term default-free rate: o Rate on the highest-quality, most liquid instrument with a maturity that matches the forecast horizon. o Linked to Central bank Policy Rate o Use path of short term rates for longer maturities (futures rates) • Term premium: Additional expected return based on the term of the bond. o Proportional to Duration o Major Drivers ▪ Uncertainty about Inflation ▪ Ability to Hedge Inflation Risk=Low term premium ▪ Business cycle effects ▪ Demand /Supply of long term relative to short term bonds ▪ Related to slope of yield curve- steeper, the more premium • Credit premium: (model parameters - default-free rates, default probabilities, and recovery rate) o Expected losses o Credit risk (AAA/AA-downgrade risk, Below IG more credit risk) o Option Adjusted Spreads high credit premium o Steeper Treasury curve=declining default rates o Steeper Yield Curve = higher credit/term premium • Liquidity premium: Additional expected return for holding less liquid bonds. o Baseline estimate of liquidity - spread btw Govt rates vs Agency bonds rates Due to event and illiquidity risk at the short end of the curve, many portfolio managers use a strategy known as a "credit barbell" in which they concentrate credit exposure at short maturities and take interest rate/duration risk via long-maturity government bonds.

▪ Modified Dietz Method (on or after 1 January 2005)

• Time weighted total return calculations that adjust for daily weighted cash flow; or • Modified Dietz method and Modified IRR. • 𝑉1 − 𝑉0 − 𝐶F 𝑉0 + ∑𝑛𝑖=1(𝐶𝐹𝑖 × 𝑤𝑖) 𝐶𝐷 − 𝐷 𝑤𝑖 = CD=total days 𝐷= External CF day 𝐶𝐷

Original Dietz Method: (prior to 1 January 2005)

• cash flows can be assumed to occur at the midpoint of the measurement period. • 𝑉1 − 𝑉0 − 𝐶𝐹 𝑉0 + (𝐶𝐹 × 0.5)

Meaning of Discretionary

▪ A portfolio is deemed discretionary if it is sufficiently free of client-mandated objectives such that the manager is able to pursue its stated strategy, objective or mandate. ▪ All actual, fee-paying, discretionary portfolios must be included in at least one composite. Although non-fee-paying discretionary portfolios may be included in a composite (with appropriate disclosure), non-discretionary portfolios must not be included in a firm's composites.

Private Equity - Requirements

▪ Ending on or after 1 January 2011 - valued in accordance with the definition of fair value and the GIPS valuation principles. ▪ Private equity investments must be valued at least annually. ▪ Firms must disclose the vintage year of each composite, how the vintage year is determined, and, where applicable, the final liquidation date. Composites defined in terms of strategy and vintage year. ▪ Firms must calculate annualized since inception internal rates of return (SI_IRR). ▪ Ending on or after 1 January 2011, the SI-IRR must be calculated using daily cash flows. Stock distributions must be included as cash flows and must be valued at the time of distribution. ▪ All returns must be calculated after the deduction of actual transaction expenses incurred during the period. ▪ Firms must present, as of each annual period end, a. cumulative committed capital, b. since-inception paid-in capital, and c. since-inception distributions. ▪ In addition, firms must present the following ratios: · total value to paid-in capital (TVPI); · distributions to paid-in capital (DPI); · paid-in capital to cumulative committed capital (PIC); and · residual value to since-inception paid-in capital (RVPI)

Fee Calculation Methodology

▪ For periods beginning on or after 1 January 2010, the GIPS standards require firms to calculate returns by geometrically linking period returns before and after large cash flows 1. Compute portfolio value when external cash flows occur 2. Compute sub-period returns eg day 1 to 7 return / day 8 to 20 / day 21 to 30 3. Geometrically link sub-period returns using the formula rtwr = (1 + rt,1) × (1 + rt,2) × ... × (1 + rt,n) − 1

Input Data - Requirements

▪ Maintain all data and information necessary to support all items presented in a compliant presentation ▪ Value portfolios in accordance with definition of fair value (not cost or book value) ▪ Use trade-day accounting (not when the exchange of cash and securities is complete or settled) ▪ Use accrual accounting for fixed-income securities; include interest income earned but not received Valuation Prior to 1 January 2001 - At least quarterly Beginning on or after 1 January 2001- At least monthly Beginning on or after 1 January 2010 · as of each calendar month-end or the last business day of each month · On the date of all large cash flows as defined by the firm for each composite

Real Estate - Requirements

▪ On or after 1 January 2011, real estate investments must be valued in accordance with the definition of fair value and the GIPS valuation principles. ▪ Real estate investments must have an external valuation: a. Prior to 1 January 2012, at least once every 36 months. b. On or after 1 January 2012, at least once every 12 months unless client agreements stipulate otherwise, in which case valuation at least once every 36 months or per the client agreement if the client agreement requires external valuations more frequently than every 36 months. ▪ Firms must calculate portfolio returns at least quarterly. ▪ All returns must be calculated after the deduction of actual transaction expenses incurred during the period. ▪ On or after 1 January 2011, income returns and capital returns (component returns) must be calculated separately using geometrically linked rates of return. ▪ Composite time-weighted rates of return, including component returns, must be calculated by asset-weighting the individual portfolio returns at least quarterly. ▪ Firms must present component returns in addition to total returns. Composite component returns must be clearly identified as gross-of-fees or net-of-fees.

Not considered under the real estate provisions

▪ Publicly traded real estate securities ▪ Commercial mortgage backed securities ▪ Private debt investments which are not influenced by economic performance of underlying real estate

GIPS calculation methodology recommendations

▪ Returns Calculated net of non-reclaimable withholding taxes on dividends, interest, and capital gains. Reclaimable withholding taxes should be accrued. ▪ Firms must not link performance of simulated or model portfolios with actual performance.

Input Data - Recommendations

▪ Value portfolio not merely when large cash flows occur, but on the date of all external cash flows ▪ Accrue dividends as of ex-dividend date ▪ Obtain valuation from qualified independent third party ▪ Accrue management fee when presenting net-of-fee returns

GIPS Objectives

▪ ▪ Best practices for calculating and presenting investment performance that promote investor interests and instill investor confidence ▪ worldwide acceptance of a single standard for the calculation and presentation of investment performance based on the principles of fair representation and full disclosure ▪ To promote the use of accurate and consistent investment performance data ▪ To encourage fair, global competition among investment firms without creating barriers to entry ▪ To foster the notion of industry "self-regulation" on a global basis

CME Forcasting - Equity (Grinold Kroner Model)

D/P - %△S + %△E + %△P/E · In the very long term, the Grinold-Kroner model simplifies to the Gordon growth model because the %ΔP/E (mean reverting over time) and %ΔS (cannot continue to buy back shares indefinitely) terms tend to zero in the long term. = D/P + g o %ΔP/E : The assumption of the P/E ratio (or price relative to other metrics including cash flow or sales) is that it has an observable long-term mean and the ratio will revert to this mean. Empirical evidence suggests that this is true in the long term, but not in the short term.

AA - factors affecting rebalancing policy

Disciplined rebalancing reduces risk and adds to return. - Rebalancing earns a diversification return, - return from being short volatility (selling calls & puts), and - return earned by supplying liquidity to the market. ▪ Two major strategies: calendar rebalancing and percent-range rebalancing i. ii. Calendar rebalancing has a lower cost Percent-range is a more disciplined risk control policy Anassetclass'sownvolatilityinvolvesatrade-offbetweentransactioncostsandriskcontrol.Thewidthoftheoptimaltolerancebandincreaseswithtransactioncostsforvolatility-basedrebalancing. Transaction costs · The higher the transaction costs, the wider the optimal corridor. · High transaction costs set a high hurdle for rebalancing benefits to overcome. Risk tolerance · The higher the risk tolerance, the wider the optimal corridor. Higherrisktolerancemeanslesssensitivitytodivergencesfromthetargetallocation. Correlation with the rest of the portfolio · The higher the correlation, the wider the optimal corridor. Whenassetclassesmovein-sync,furtherdivergencefromtargetweightsislesslikely Volatility of an illiquid asset class · The higher the volatility, the higher the optimal corridor. Containing transaction costs is more important than expected utility losses Volatility of the rest of the portfolio · The higher the volatility, the narrower the optimal corridor. Higher volatility makes large divergences from the strategic asset allocation more likely.