October 6, 2010

What the HNW Should Ask Their Money Managers

 

Let’s face it, the last few years have been very difficult for investors and portfolio managers alike. One thing that should have become abundantly clear is the inherent conflict of interest between both parties. When times are good and markets are moving up at a steady pace, investors tend to become complacent and ignore potential pitfalls. However, when the markets turn down and the environment gets tough, investors panic and start to ask the questions they should have asked long before making their initial decisions. 

I have the unique benefit of being a portfolio manager while also serving as chairman of the Investment Committee for Rady Children’s Hospital in San Diego. At Rady’s, I help identify investment managers that will complement the hospitals endowment portfolio. Throughout the year managers present to our team and inevitably the first question we ask is, “Do you and your team have a significant investment in the strategy you are managing?”  If the answer is, “No” the manager is likely to be eliminated from consideration. 

I practice what I preach, because the portfolios I manage were established with my capital and I continue to add to them over time as I believe any managers who are worth their salt should have a substantial capital commitment to their strategies. This alignment of interest is often overlooked and should become one of the first questions all high-net-worth  investors should ask any current or potential money manager. 

Having the managers’ capital invested pari-passu with yours may lower the likelihood of the manager taking inappropriate risks when they feel the “pinch” along with their investors when performance is poor. 

The other component that is often overlooked is the net after-tax returns of a portfolio. After all, that’s what investors are left holding after paying Uncle Sam, the investment manager and any other associated fees. I'm always thinking about, and focused on, the potential tax consequences of any investment at year-end. I take portfolio risk management very seriously and believe that a good risk manager takes tax implications into account since it can be a significant permanent impairment of invested capital.  These are just a few of the factors that investors—and the advisors guiding their clients—need to pay closer attention to. After all, it's the client’s money, not the money manager’s.

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