Glossary of Terms

Glossary of key terms used in Fiduciary Management / Outsourced Investment by pension funds

Outsourced Investment – Fiduciary Management – Implemented Consulting

Fiduciary Management The general term covering all arrangements in which trustees of a defined benefit or defined contribution pension scheme give the day-to-day management of the investment portfolio to a single provider, to include the re-allocation of funds among other investment managers. This embraces the services known as pure fiduciary management, where the trustees’ entire investment responsibility from setting strategy through to day-to-day fund management is taken on by a single entity and implemented consulting, and can include traditional, single-manager, balanced management where the manager is used as the single authority on investment strategy.

Outsourced Investment Another general term for the broadest range of types of Fiduciary Management.

Implemented Consulting A term used by consultants to describe Fiduciary Management where strategy is still set by the trustees perhaps in consultation with their advisers. The implemented consulting provider then delivers the investment management. In Ireland this has been sold in the last few years arm-in-arm with de-risking strategies.

Other terms

Active Manager An investment manager who seeks to add value (outperform) over benchmark or index returns.

Active Risk The incremental risk an active manager will accept in the effort to add value.

Alternative Investments Non- “mainstream” assets i.e., anything other than equities, bonds or cash, e.g., property, hedge funds, private equity, commodities.

Asset Allocation The division of a fund’s net assets over the various asset types (classes) – bonds, equities, property, cash, alternatives and borrowing, if any. Asset allocation can be:

1. Strategic: the choice of an ideal long-term asset allocation, designed to deliver the required combination of return and risk over time. This will usually be reflected in the design of the portfolio benchmark. It may be dynamic, allowing for adjustments and re-balancing over time.
2. Tactical: the choice of an asset allocation different from the benchmark, in an attempt to generate additional return.

Asset Liability Modelling Applying mathematical models to projected pension fund liabilities and assets, as well as to some of the relationships between them, to provide a framework for managing the risk of shortfall (underfunding)

Balanced Management The management by a single manager of the entirety or most of the asset classes in a fund’s portfolio.

Benchmark An investment benchmark is a standard against which the investment performance of the portfolio is measured. It is based on an ‘ideal’ asset allocation, which, if maintained over the life of the fund, is expected to deliver the required risk and return characteristics.

Benchmark Risk The risk or volatility inherent in the benchmark, i.e. the extent that benchmark returns will vary around the expected returns.

Critical Investment Manager Review This is a requirement, arising from the IORP II directive, for trustees to undertake an in-depth review of their investment manager(s) conducted against the criteria that were applied when appointing the investment manager(s). These reviews must be conducted at least once every three years.

De-risking The adjustment of the asset allocation to one which matches the liabilities more closely. This has been done widely in recent years as part of deficit reduction and funding strategies for defined benefit schemes in deficit. The strategies seek to immunise the plan against the risks arising from movements in interest rates. Interest rate movements  is only one type of risk, however, and supposedly de-risked strategies have found themselves exposed to other risks, particularly credit risk.

Dynamic De-risking A pre-planned, conditional asset allocation that shifts towards an ultimate target mix of assets that matches the liabilities more closely than the initial mix. The time at which the changes occur depends on the attainment of pre-set deficit reduction targets. This service has often been provided alongside investment outsourcing. They are distinct, however. Either may be used without the other.

Investment Mandate The working brief given by the client to an investment manager setting out investment discretion, constraints, expected added value and expected risk.

Investment Philosophy The core beliefs which underlie an institution’s approach to investment – where value lies in markets and how this translates into an ability to generate optimal returns.

Investment Process The consistent operating methodology that enables an investment manager to carry out investment in a repeatable fashion.

IORPII This is an EU Directive on the activities and supervision of institutions for occupational retirement provision. It was transposed into Irish legislation on 22 April 2021. Its objective is to raise the governance bar for occupational pension schemes, with the aim of providing better outcomes for members.

Liability Driven Investment Investing in which the main goal is to gain sufficient
Investment assets to meet all liabilities, both current and future.

Master Trust A master trust pension is a trust-based defined contribution scheme that a number of unassociated employers can join, sharing resources and potentially reducing costs, in particular in the areas of trusteeship, investment management and administration. They are supervised in Ireland by the Pensions Authority.

Passive Manager An investment manager who seeks to match an index or benchmark return as closely as possible.

Performance Monitoring When trustees appoint an investment manager, they will agree a benchmark and then monitor performance of the manager against this benchmark. Performance analysis (attribution analysis) identifies aspects of the management that are satisfactory or not, in risk and return terms. Similarly, a provider of Fiduciary Management selects managers as a manager selects stocks, and trustees can monitor the performance of the Fiduciary Manager with similar analysis.

Re-balancing Systematically and at regular intervals bringing the asset allocation of a portfolio or a benchmark back to the strategic asset allocation

Risk Often taken to mean variability of returns as measured by standard deviation, but also consists of any source of variability of returns, especially downside, or of security, and any failure to meet a return or security target or expectation.

Risk Budgeting The allocation of risk or tracking error across asset classes or across managers of different portions of a portfolio, where a total amount of risk at the portfolio level has been selected.

Specialist Manager An investment manager restricted by his mandate to a specific asset class, style, market, sector or region

Strategic Asset Allocation See Asset Allocation

Tactical Asset Allocation See Asset Allocation

Tracking Error The incremental risk of a portfolio arising from the differences between the portfolio and the benchmark. It is incurred by an active manager in the expectation of generating added value against the benchmark. In a passive portfolio it represents the de facto differences between the portfolio and the benchmark which it is designed to track.

Transition Manager When large volumes of assets are being transferred between managers, a specialist firm may be employed to manage the transition to ensure that the cost of the change, including the market impact, spreads and risk of un-invested funds, is minimised. Where a specialist transition manager is not used, the process of transition needs to be carefully monitored and managed on behalf of the trustees.

Volatility A measure of risk – the annualised standard deviation of return.