The Accountability Principle | Chief Investment Officer

Investment decisions are made by individuals—and therefore individual decision-makers should be held accountable for investment performance, according to AlphaEngine’s Arun Muralidhar.

“The first step in the performance attribution process should be a clear articulation of who is making the decision and what the decision is.”Because decision-making at institutional funds is distributed across staff, boards, consultants, and external managers, responsibility for a particular decision is often diffused, explained Muralidhar, adjunct professor of finance at George Washington University and founder of Mcube Investment Technologies and AlphaEngine Global Investment Solutions.

Although decision-based performance attribution has been practiced for over a decade now, he argued that the approaches currently in use miss out on a “key facet” of investing: the delegation of duties.

“Performance attribution is important as it helps those in charge of portfolios recognize the sources of added value, both positive and negative, so that they can emphasize the good and correct the bad,” wrote Muralidhar. “The first step in the performance attribution process should be a clear articulation of who is making the decision and what the decision is.”

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Currently, he explained, performance is attributed to strategic asset allocation, tactical asset allocation, manager selection, manager allocation, and security selection decisions—but not to the individuals and institutions who made those decisions.

“While clearly the [decision-based attribution] method accounts for every last basis point, it is silent on who in the organization made the decision, what was the risk-adjusted return (in basis points), and how confident can we be about the skill content in added value,” he wrote.

Muralidhar recommended an updated model that allows staff to report who the decision-makers are, what they did, how much impact they had, how good their decisions were, and whether they were skillful.

By holding individual decision-makers accountable, funds can avoid inefficiencies and improve risk management, he argued.

“Only what is measured gets monitored and managed,” Muralidhar concluded.

The $3 billion Hartford HealthCare fund has seeded a series of niche plays at big-name asset management firms, CIO has learned, often as client #1 for untested teams.

A little over a year ago, Hartford conducted a traditional search—via consultant and requests for proposals—for a liquid natural resources vehicle, and nothing off-the-shelf appealed. The end result? Hartford wrote a $40 million check to a fund that didn’t yet exist: A relatively low-oil commodities blend out of establishment firm Cohen & Steers.

“If the right product doesn’t exist, we’ve got no qualms about backing the teams to actually deliver it.”“Everybody does natural resources by a cap-weighting, which makes most funds about 60% oil-based,” CIO David Holmgren said in an interview. “In my view, don’t take the benchmark as given. It’s a starting point, nothing more and nothing less.”

Cohen & Steers risk-balanced agriculture, metals, oil, and other commodities as its starting point, which “fundamentally aligned” with Hartford’s goals. The hospital endowment has since upped its total seed investment to $70 million, as Cohen & Steers prepares the year-old strategy for fundraising primetime.

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The extra legwork and risk relative to off-the-shelf investing didn’t phase Holmgren.

“We’ve felt it far more prudent, reliable, and successful to spend time making sure we’ve invested in the right people, whose investment beliefs align with how we think,” he explained. “And if the right product doesn’t exist, we’ve got no qualms about backing the teams to actually deliver it.”

A consumer-brand licensing play—“probably the weirdest investment in the portfolio,” according to Holmgren—came next. Once again, this untested strategy and team worked under the banner of a brand-name asset manager: Neuberger Berman.

Hartford committed $18 million last summer to Marquee Brands, then a six-month-old unit seeking to “identify, acquire, and manage high quality brands” across “all consumer segments,” according to Neuberger. Connecticut’s main medical center now owns stakes in clothier Ben Sherman and a luxury Italian stiletto brand, via Marquee acquisitions.

Three more early-stage opportunistic allocations have followed, all benefiting from the institutional-quality infrastructure of name-brand firms.

A litigation-finance vehicle from Halcyon Capital Management (total assets: $10 billion) earned $12 million from Hartford in January.

Holmgren’s office became the first investor in State Street Global Advisors’ global macro hedge fund roughly six months ago.

A Japanese equity startup out of Wellington took Hartford’s largest and latest seed investment at $50 million. While stressing that the initial months’ performance mean nothing in the long term, Holmgren noted that the fund was off to an extremely profitable start.

“So much of the institutional investment industry is designed around pursuing product continuation,” he said. “It’s not set up to seed talent. For us, at our size, this is a whole new strategy to win. It requires due diligence and evaluation based on merits and theses, not buckets and track-record comparables. But that’s what investing actually is, right?”