Manager Due Diligence

As family advisors, we spend much of our time assessing our clients’ specific goals to ensure that their investment framework provides them with the greatest odds of long term success. At a high level, our approach focuses on addressing multiple risks and objectives to ensure that regardless of market conditions, our families can minimize the need for taking a reactionary approach to managing their portfolios and at the same time, have the capacity to take advantage of investment opportunities as they present themselves. While our process is focused on defining investment objectives and appropriate estate planning first and foremost, sooner or later we need to identify the right strategies and managers that in combination, best suit the needs of the family’s investment framework.

In our view, having a mosaic of investment strategies that simply seek to only diversify returns does not adequately address the complexities of a multi-generational wealth strategy. Families with a focus on multigenerational wealth need to address not only the needs of today’s generation – complex in of themselves – but also keep an eye towards building their longer term legacy wishes as well. So putting together a truly holistic investment framework means understanding the multi-dimensional aspect to the family’s goals and objectives, as well as fully understanding each manager and strategy that plays a part in achieving this plan. It’s no easy task. But having deep confidence in the managers who make their way into their specific roles within our family’s portfolios, helps us neutralize the family’s emotional response to various market conditions. If families can be confident that their core financial needs are secure even in the most challenged market environments, then they have the capacity to take the right risks at the right times – helping them build their legacy into the future.

Fortunately, with the benefit of being an open and independent advisor, we at Richter Family Office have the opportunity to meet and assess the suitability of dozens of different investment strategies each year. Yet simply having an open platform of good managers and strategies does not singlehandedly guarantee success: we take it upon ourselves to fully understand the merits and drawbacks of each strategy, so that we can assess its role within each of our families’ portfolios.  So while half our role is to work with the family and construct an appropriate investment framework, the other half is to continually review and assess the broad spectrum of investment choices that can play a part in the solution.

So how does one effectively research and qualify the merits of such an abundance of different managers and strategies? One of the most commonly used tools, by sophisticated and unsophisticated investors alike, is to rely predominately on quantitative factors – most notably returns. Why? Because this is the simplest way to rank and contrast a wide spectrum of different strategies. While return is the most understandable quantitative factor for screening managers, the investment industry has come up with a whole host of other metrics that attempt to assess the amount, and type, of volatility (or risk) to which investors may be subject. Although great tools, all of these quantitative factors fail to address one simple issue: they are all based on backward-looking data. And as every manager’s disclaimer will tell you: past performance is not indicative of future results.

To truly understand an investment manager’s capacity to generate predictable performance over time and through various investment cycles, one has to dig well beyond the data and assess all the qualitative factors that form the process and culture of the manager. Unfortunately applying this process takes considerable resources on the part of the family advisor – a thorough due diligence means pulling apart the organizational structure and moving beyond the marketing narrative in order to fully understand how decisions are made each and every day. This is especially true as we assess more non-traditional managers where family capital may be tied up for over a decade. Such investment choices require an even more significant level of understanding.

At Richter Family Office, we generally start with trying to answer a simple question: does the manager have the process and structure to provide repeatable, long-term results? By “repeatable” we are trying to assess if under various market conditions, we are confident in our manager’s capacity to perform as expected. While historical data certainly can be a good guide-post for analysis, in the context of multi-generational family wealth planning, even the longest historical performance record falls well short of even a single generation’s time-horizon. But having a clear and deep understanding of how a manager arrives at their day to day investment decisions at least provides a reference point for how we expect they will react as market conditions evolve and change.

A manager’s investment process is the central engine into which various systems and ecosystems feed – interrupt any of these ancillary components and the process, no matter how robust, will be challenged. By taking the time to dig deeper into the organizational structure of a manager we get a better understanding as to how a dynamic system converts information into ideas, and by extension, investment decisions. What people are involved? How is the information generated? Shared? How is the firm aligned with the investors? And what incentives do team members have to ensure mutual success? These are just some of the more basic issues that need to be assessed as part of a thorough due-diligence. Understanding how the system operates under normal conditions is a good base line, but how we can expect it to operate under periods of stress is what’s really important.

Further analysis transcends the investment strategy itself, and into more mundane operational due diligence: compliance, risk controls, trade execution, human resource management are just a few of the internal operational issues to consider when assessing if a manager has suitable processes in place to minimize operational risks. And external considerations include custodial, legal, and accounting relationships, as well as a good understanding of the depth, and breadth, of their investor base.

Each manager in our families’ portfolios plays a specific part within a complex risk allocation framework. Therefore it is critical that we have both the confidence, and ongoing access, to ensure that each allocation continues to act as we expect. If not, we have to understand why, if it’s to remain part of the plan. Confidence is not something that can be garnered through data and metrics.  It is only through on-site due-diligence that we can fully appreciate the nuances and idiosyncrasies that are a critical part of ensuring long term success. There is little doubt that proper manager due-diligence is as much an art as it is a science – it takes commitment to truly understand the “character” of the firm. But having the confidence in a manager’s capacity to deliver repeatable results means having better tools and resources at our disposal to address each of our families’ unique investment needs.

Our Richter Family Office Approach relies on our capacity to effectively source and review a wide range of investment alternatives for our families – it’s an ongoing process that ensures that we are comfortable with the strategies that are part of any current portfolio, as well as assessing the merits of new opportunities that are constantly emerging. Fortunately, having the organizational capacity to access and review strategies from across the globe is of great benefit to the families that we work alongside. But this is only half of the story. A properly engineered investment framework is the other critical element that ensures that the wide spectrum of goals and objectives are being properly addressed. A “portfolio” approach that simply seeks to address risk and return within a one-dimensional framework, while appropriate in an institutional framework, in our opinion is not the right approach for families seeking to build a true legacy with their wealth. This will be the focus on our upcoming series: Risk Allocation within a Multi-Generational Framework. 

Expert Showcase