The past decade has been remarkable for record low-interest rates and loose monetary policy. This cocktail can create material differences between realized past and future expected returns across various asset classes including bonds and equities. Several sophisticated investment managers have adjusted their models and believe that future returns will be lower than the returns we have witnessed over the past few decades.
This has motivated us to update and upgrade the methodology powering the portfolio risk scores on Totum by TIFIN. Using historical U.S. returns is reasonable but, in current conditions, it may create a false sense of safety, leading to less prudent decisions and greater fiduciary risk.
The update utilizes forward-looking returns for all securities based on:
1) The expected return and volatility of various asset classes. We average capital market assumptions reported across several asset managers that among others include JP Morgan and BlackRock to get a “wisdom of the experts” estimate. Each one of these managers have significant teams working on these capital market assumptions that underlie several important decisions for them and their investors alike. These will be updated every year going forward.
2) Each security’s exposure to its asset class. We estimate the exposure through a rolling 5- year regression between the security and its primary asset class.
Both these inputs are now dynamic and will reflect changing market conditions through changing capital market assumptions and changing exposures. The definition of the risk score within Totum by TIFIN remains the same. The potential “extreme” loss for each security is its risk score and is estimated as the “annualized expected return – a return shock that is expected to happen with a probability of 1%”. In other words, 99% of all realized returns will be higher than the portfolio’s risk score.
Schedule a demo to learn more about this change in our methodology and why more advisory firms across the country are moving their risk profiling needs to Totum by TIFIN.
Learn more about our revised scoring approach
