How has Morgan viewed alternatives over the years?
Given that most of our clients assets are held by households in the high- and ultrahigh-net-worth category, alternatives have always been an important part of the mix. Through its merchant banking arm, Morgan Stanley Investment Management was a pioneer in real estate investing and has had strong offerings over the years in infrastructure and private equity.
How important are they for your business model?
Alternatives will always represent a much smaller portion of our clients assets relative to traditional equity and fixed-income instruments, but in a world where the process of investing will be more volatile and complex, they will become increasingly important to clients, particularly those who have significant assets to manage and protect.
How do alts fit within your long-term plans?
We want our clients to benefit from the most sophisticated thinking in portfolio management, and alternatives will play an important role. We are pursuing an outcomes-based approach to using alternatives. This means we think of them less as a separate asset class than as a means to an end. Is your goal to enhance yield, reduce volatility, protect against inflation or amplify growth? In each case, a different alternatives strategy may help you achieve that outcome.
How do you research alternative managers?
Our due diligence process has several dimensions: qualitative, quantitative, business operations and client/business suitability, which is where we begin and end. In the initial stage, we assess the objectives of a given strategy, its complexity, and try to understand what types of client portfolios would benefit. Once we ascertain basic viability, two teams of analysts take over. One looks in-depth at the manager and the strategy, conducting on-site interviews and assessing what we call the 4 Ps: philosophy, people, process and performance. We then bring to bear our quantitative analytics, which leverage our extensive resources and tools shared with AIP, to understand the drivers of performance. A key question we must answer is: Under what circumstances does the strategy have the best odds of success or the highest odds of facing headwinds? A second team works in parallel on business operations, assessing counterparty risks and the fidelity of all operational linkages that impact client accounts and performance reporting. Ultimately, our Product Approval Committee makes the final determination of client/business suitability.
Why did you create a dedicated team to evaluate liquid alts in ETFs and mutual funds?
Historically, mutual fund and ETF due diligence required in-depth knowledge of mostly long only investment strategies with exposures to traditional stocks and bonds. The emergence of more complex alternative strategies in the 40 Act structure required more and different expertise. We wanted to insure that the same level of deep product knowledge of those alternative strategies that we had in the private partnership world was shared and leveraged for these new products. Not only did we need to bring skills in analyzing short books, derivatives, futures, options and new asset classes (global macro), but we needed to make sure that we knew what we gained and lost when strategies were put into a daily liquid format.
Whats the next big alternative investment product?
Im not sure how to respond to that question as the answer depends on client needs and what they are using the product to achieve. Well continue to focus on alternatives as a means to achieving specific outcomes as well as on the manager selection process, as there is significant performance dispersion between leading managers and average ones.