Developing on the themes of early blogs, Industrial Revolution in Money Management and Liability Driven Investing for Beginners.

This article builds on both of these themes. Particularly the article observes:

“Hence recent focus on liability-driven investment (LDI) strategies, otherwise known as asset-liability management (ALM). More complete and holistic than MPT, LDI explicitly includes an investor’s current and future liabilities.”

MPT = Modern Portfolio Theory, which is the traditional way of building portfolios, focussed more on risk tolerance and return expectations, than investment goals.

The inference is that investors should be focusing more on goals e.g. retirement spending, children’s education, and inheritance, which can be seen as future liabilities that need to be met.

The article notes:

“Nevertheless, there is a growing consensus in the wholesale capital markets that LDI creates better portfolios, particularly when it comes to retirement needs.”

This will likely be in the form of more advanced Goal Orientated Investment solutions for investors. A more robust portfolio will be obtained, one that focuses on the key risks of meeting Investment Objectives.

Obviously most financial planning processes take into consideration investment goals. Nevertheless, LDI makes investment goals the central piece. With LDI portfolio allocation and management of risks is relative to meeting goals and a more customised investment solution is developed.

Under the LDI model there are two portfolios: the liability portfolio and a return seeking portfolio. Most investment products offered today are return seeking portfolios with some dampening down of risk (measured by volatility i.e. how frequently and the degree to which the portfolio goes up and down) so as to fit ones level of risk tolerance.

 

Lastly, they note:

“The popular MPT framework of expected value optimization given a risk constraint is ripe for disruption. Digital asset management or robo-advice can help distribute LDI technology to the mass market, and we can expect the industry to move in this direction.”

This is consistent with the EDHEC Insights article in the JOIM (EDHEC-Whitepaper-JOIM)– Mass Customization versus Mass Production – How an industrial revolution is about to take place in Money Management and why it involves a shift from Investment Produces to Investment Solutions (Lionel Martellini)

 

The digital element is likely to be the revolution, LDI type strategies the evolution. Perhaps this is the Uber moment, or AirBnB moment, for the Funds Management Industry. Certainly not the Uber moment of the Funds Management is the offering of cheaper multi-asset class investment products that cannot be differentiated from any other like for like investment products in the market.

 

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