transaction costs and your funds largest expense

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Transaction Costs and Your Funds Largest Expense

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Page 1: Transaction Costs and Your Funds Largest Expense

Transaction Costs and Your Funds Largest Expense

Page 2: Transaction Costs and Your Funds Largest Expense

Source: Myners Report 2001; QSG 2005. Source: Myners Report, QSG

72% of Portfolio Management Expenses Are Brokerage Related!

Page 3: Transaction Costs and Your Funds Largest Expense

Fiduciaries Required To Monitor Transaction Cost

• Most Plan Investment Policy Statements explicitly state “Best Execution” Requirements

• Most Manager Contracts Also Refer to “Best Execution”

• Managers shall “Effect all transactions for the Portfolio subject to best price and execution.“ (quote from a county pension fund IPS)

Page 4: Transaction Costs and Your Funds Largest Expense

“Best Execution” Has No Standard Meaning

“When it comes to defining best execution, it's often a case of, ‘I know it when I see it.’“

What Is 'Best Execution'? By Daniel Safarik, Advanced Trading, Jan 29, 2007

Page 5: Transaction Costs and Your Funds Largest Expense

Industry and academic research concludes the average performance differential between the top performing broker and the tenth highest ranked broker:

4.35

5.98

16.24

-4.78

-7.05

-15.73

-18.71

-25.2

-71.26

-88.75

Broker A

Broker B

Broker C

Broker D

Broker E

Broker F

Broker G

Broker H

Broker I

Broker J

Investment Style: 178%

Small CapEquities:

220%

Large CapEquities:

130%

*Source: Vodia Group 2007

What is the Primary Determinant of Cost?

Broker Selection Is A Major Factor in Execution Quality

Page 6: Transaction Costs and Your Funds Largest Expense

What Are Pension Funds Doing to Address the Issue?

Investment Review Process:

-Quantitative Manager Selection Process

-Ongoing Manager Research and Oversight by Investment Consultant

-Quarterly Performance Review by Board

Best Execution Review Process:

-No Broker Selection Process

-No Ongoing Research or Oversight of Brokers

-No Board Review of Broker Performance

Page 7: Transaction Costs and Your Funds Largest Expense

Impact Of Research in Broker Selection

Page 8: Transaction Costs and Your Funds Largest Expense

Fiduciary Process is Required to Fulfill The Mandates of Your IPS

Step 1 - Gain Enhanced Transparency

Step 2 – Use that Transparency as Actionable Intelligence

Step 3 – Communicate issues with Managers

Step 4 – Monitor for Improvements

Page 9: Transaction Costs and Your Funds Largest Expense

Can Pension Funds Directly Effect Transaction Costs?

- Default to the Asset Manager

- Existing Relationships With Other Service Providers

- Qualitative RFP/ Bench

- Competitive Bidding Process

Event Based Program/ Portfolio Trading

Page 10: Transaction Costs and Your Funds Largest Expense

The Right Way: Just Like You Select Asset ManagersI. Performance

- Liquidity Charge - VWAP - Execution Differential - Timing Consequence

II. Process

- Evidence of a repeatable approach to trade execution - Systems resources utilized in support of trading process - Trading analytics and measurement systems

III. People

- Personnel committed to program trading - Middle office staff committed to support of program traders - Personnel turnover ratios - Experience executing transition program trades - Structure of compensation programs

75% Quantitative

25% Qualitative

Page 11: Transaction Costs and Your Funds Largest Expense

Same Process Used in Asset Management

Establish A True Fiduciary Process

- Quantitatively Based Broker Selection

- Conflict Free Event Administration

- Real Time Independent Trade Oversight

- Independent Pre and Post Trade Reporting

- End to End Transparency

Page 12: Transaction Costs and Your Funds Largest Expense

Stephen Malinowski Managing DirectorGTS [email protected]

Transaction Costs and Your Funds Largest Expense

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