Best Execution for Managed Portfolios

Aleksander Weiler, Senior Portfolio Manager, Public Markets Investments, Canada Pension Plan Investment Board (CPPIB) talks to FIXGlobal about evaluating asset managers, best execution within FX and managing risk across portfolios.

Evaluating Asset Managers
We are looking for people and groups who have a sustainable edge and we use all the tools available to ascertain their suitability. That involves an understanding of the investment process and the investment team. This is supplemented by quite a detailed analysis of the track record as well as its veracity.

We spend a fair bit of time looking at risk in all its various dimensions. Typically, that devolves into examining the risk process, people and structure as well as the management of the balance sheet and the debt capital of the fund and how the equity capital is structured in terms of the investor base. Most asset managers are medium-sized enterprises, so an understanding of business structure and sustainability are required.

It is necessary to be able to evaluate expected return and expected risk and it is important for us to ensure that a manager’s definition of profit is as close as possible to ours. While you want someone with a good and sustainable expected return and reasonable and bounded amount of risk, there also needs to be a value proposition that sees a fair split in the profit between us, the capital provider and the manager, the risk taker.

For trading-oriented strategies, we use a number of analytical tools, specifically Excel and Matlab. In addition, a wide range of supporting data is used. We also use risk engines internally such as RiskMetrics and Barra.

Best Execution
We invest in a wide range of managers from those doing systematic, long-term investments to those doing systematic short-term high frequency trading as well as discretionary traders. Regarding best execution within FX, we are looking for people who are aware of both their footprint and the transaction costs that they are incurring; specifically, people with electronic execution and the capacity to execute in all time-zones.

Additional venues offer potentially greater liquidity to managers, which is important especially where managers are running multi-billion dollar portfolios. Not all currencies are equally liquid, bringing additional sources of liquidity that can be accessed in a less obvious fashion. This allows managers to not only get the trade done, but also execute in a quiet fashion that doesn’t disturb the market. We also like the fact that these venues are often technology based, allowing managers to perform finer and better transaction cost analysis, which is important because one of the great things about FX is its deep liquidity and 24-hour trading. However, not all currencies are traded equally at all times during the day. Getting a euro-dollar trade done during European business hours is relatively easy and low cost, but trading something like a minor emerging market currency outside its liquid hours can be quite expensive.

This in turn leads to heavier investment in technology. Managers need to upgrade their infrastructure to accommodate multiple feeds as they need smart routers, improved data storage capability and intercom connectivity with the various brokers or groups. All this means that the old days of picking up the phone to get an order done by your FX broker has been mostly replaced by a heavy rack of servers and top-notch IT people, though phones and people still matter for market colour and depth.

Best execution requires maintenance of a transparent chain of tracking orders from signal generation to execution. FX is not regulated in the same way as a stock exchange but you need to be aware of what is happening just because restrictions on various markets are changing every day. From that point of view, managers need an increased awareness of what is happening in the marketplace and an ability to alter their trading behavior if necessary. This in turn has emphasized the role of technology in best execution.