What is attribution worth?

Is it worth spending money to implement attribution?

There are several ways in which an attribution capability helps a fund increase profits:

• making higher returns;
• generating new investment inflows, and increasing funds under management;
• showing that the fund has sophisticated analysis capabilities and can handle complex market risks;
• provision of in-depth and personalized client reports.

For instance, consider the following situation:

A medium-sized bank had five billion dollars under management, run by a front office team of 6 managers. These funds were invested in the fixed income markets with a focus on interest rate forecasting and credit.

The fund made consistent returns of 5.5% a year, compared to an industry benchmark return of 5.1%. This 0.4% excess (or 40 basis points) was added by the skills of the investment team.

The introduction of an attribution capability allowed the fund to identify problems in their yield curve positioning strategies. Although their general assessment of the direction of the market was usually correct, they found to their surprise that non-parallel yield curve shifts were often dragging their investment returns down.

 The fund immediately used this information to improve its hedging capabilities so that it was risk-neutral with respect to non-parallel yield curve movements; in other words, to eliminate their exposure to risks that they did not want to take. Instead, the fund decided to concentrate on credit strategies, which it now knew to have consistently generated good returns in the past. 

The result was that managed returns rose from 5.5% to 5.6%, an increase of 10 basis points over the year – and an increase of $50 million a year for the fund’s investors. 

Perhaps more importantly, the market noticed. The managed funds industry is ruthlessly competitive, and any manager who can demonstrate a visible advantage in its investment process will see substantially increased business, in the form of increased funds under management. 

In the above case, funds under management increased by $3 billion dollars in three years. The fund charged 30 basis points management fee a year for funds under management, so every extra billion under management results in additional $3 million annual revenue for the manager. 

An attribution capability can therefore have a substantial impact on the manager’s returns.

Given the advantages delivered in increased profits, transparency, and marketing, we estimate that an attribution capability is worth an extra 5 basis points a year on funds under management, in addition to the returns generated by the manager. For instance, for a boutique fund with $1 billion under management, attribution should increase profits by $500,000 per annum.

So is attribution worth it? The brief answer is, ‘it depends’. Plenty of monolithic risk and performance systems cost several millions of dollars a year to run. But if you don’t have that budget – or need everything those systems provide -Flametree’s tried and tested business model allows us to provide you with the same attribution functionality at a small fraction of the cost. We’ll even show it running on your data to get you started.

Contact us to find out more.