Managing the Managers:

Performing an Investment Review

STEP Bahamas Luncheon Seminar

30 April 2013

www.cfal.com ▪ Page 2

1 ABOUT CFAL

2 BEFORE YOU INVEST – MANAGER SELECTION

3 INVESTMENT & OPERATIONAL DUE DILIGENCE

4 AFTER THE INVESTMENT IS MADE

OUR DISCUSSIONS TODAY

www.cfal.com

5 REVIEW CHECKLIST

6 RED FLAGS & BERNIE MADOFF

About CFAL

Trust Independent advisory firm

Expertise “Pension Administration Company of the Year 2012”

Experience More than $1.3b in AUM

Assurance SSAE 16 completed (formerly SAS 70)

Compliance Segregated assets

Innovation Family of domestic & international funds

Regulator Bahamas Securities Commission

Securities Exchange Commission (U.S.)

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1. Analyze Objectives & Constraints

2. Formalize Investment

Policy

3. Develop Asset

Allocation

4. Design Optimal Portfolio

5. Implement Strategy

6. Monitor & Rebalance

Portfolio

The Portfolio Management

Process

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Principles:

Good managers exist but are rare

Beating the market is difficult, especially over short term; therefore judge

managers over a full market cycle

Investment philosophy and process of manager must be understood and

believed in

Stability and strength of fund manager/team is important

Access to fund manager/team is crucial – No hidden ‘Bernie Madoff’s

Alignment of interests / stewards of capital

Separate operational due diligence process

Manager Selection

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“An in-favour style, slick marketing presentation and an

articulate fund manager can easily create the illusion of

true skill.”

Manager Selection

Manager Selection

The Tangible Four Ps

A

B

C

D

People

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Process/Philosophy

Portfolio

Performance

Manager Selection

The Intangible Four Ps

A

B

C

D

Passion

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Perspective

Purpose

Progress

Manager Selection

Operational Due Diligence

A

B

C

D

Compliance

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Operations, Trading & Technology

Organisational Structure

Service Providers including Bankers, Custodian & Auditors

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Lucky

Unlucky

Skilled Unskilled

Insufferable

managers

Doomed

managers

Blessed

managers

Forlorn

managers

Short Term – 4 types of Managers

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Unskilled Skilled

Unskilled

managers Skilled

managers

Long Term – 2 types of Managers

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Performance evaluation at a minimum consists of examining

the following areas:

Measurement: What was the manager’s performance?

Attribution: Why did the manager produce the observed results?

Appraisal: Is the manager’s performance attributable to skill or

luck?

Decision: Should we retain or replace the manager?

Performance Review

Due Diligence & Review Checklist

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Manager & Organization

What relevant investment experience does the investment

manager or fund-of-funds manager have?

What other experience, qualifications and registration does the

investment manager have?

What is the depth and quality of the investment manager’s

corporate business infrastructure, including staffing, and what is the

investment firm’s capital structure?

Due Diligence & Review Checklist

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Strategies & Risks

Do you understand the fund’s investment objective, how the

strategy works and how the manager generates returns?

Do you clearly understand the key risks associated with the

investment? Specifically: What is the fund’s volatility of returns,

leverage risk, concentration risk, market risk, and liquidity risk?

What has been the fund’s maximum drawdown (loss) and in what

circumstances did this occur?

Due Diligence & Review Checklist

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Performance

Are the investment returns stated gross or net of all fees?

How do the risks and returns of the investment product compare to

other similar investment products?

Liquidity

How often can you redeem the investment? Does the investment

product have any redemption restrictions (i.e., lock-up periods,

notice period, redemption fees)?

Due Diligence & Review Checklist

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Fees & Commissions

Is the investment’s fee structure clearly disclosed? Do you

understand the mechanics of the fee structure?

What compensation will your financial advisor receive for selling

the investment product? Is this compensation consistent with

similar products?

Do you understand who is being compensated, when and how

much?

Due Diligence & Review Checklist

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Documentation

Has your financial advisor read the key reference document for the

investment product, whether a prospectus, offering memorandum or

information statement as well as annual and interim financial

statements?

Have you received and read the key reference document for the

investment product?

Can your financial advisor provide you with reasonable

explanations for any items that are unclear or you are concerned

about?

Due Diligence & Review Checklist

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For Principal Protected Notes:

Can you redeem the Note prior to maturity? Is there a secondary

market for the Note? Who will make the secondary market for the

Note?

Do you understand who is being compensated, when and how

much?

Has your financial advisor read the key reference document for the

investment product, whether a prospectus, offering memorandum or

information statement?

Red Flags

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Strange financials.

Large subscriptions or redemptions.

Unexplained lags to process routine requests.

Apparent conflicts of interest.

Change of auditor.

Madoff - $60 Billion Ponzi Scheme

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Did not engage in third-party audits. Auditor was Friehling &

Horowitz, a 3-person team with just 1 CPA.

No independent custodian – Madoff was both broker-dealer and

investment advisor.

Madoff Investment Securities was a family business, with his

brother, sons, daughter and niece all working at the firm.

Madoff - $60 Billion Ponzi Scheme

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No on-site visits allowed.

Previous SEC censure and fine.

Performance that was a straight 45-degree-line with no losses.

Charged no management fees – just trading commission.

Thank You!

Kevin Burrows, CFA CAIA Senior Vice President