More On Legal & Compliancefrom The Advisor's Professional Library
- Risk-Based Oversight of Investment Advisors Even if the SEC had a larger budget and more resources, it is doubtful that the Commission would have the resources to regularly examine all RIAs. Therefore, the SEC is likely to continue relying on risk-based oversight to fulfill its mission of protecting investors.
- Client Commission Practices and Soft Dollars RIAs should always evaluate whether the products and services they receive from broker-dealers are appropriate. The SEC suggested that an RIAs failure to stay within the scope of the Section 28(e) safe harbor may violate the advisors fiduciary duty to clients, so RIAs must evaluate their soft dollar relationships on a regular basis to ensure they are disclosed properly and that they do not negatively impact the best execution of clients transactions.
Looking for ways to stabilize returns and manage downside risk, plan sponsor and investment advisor interest in tactical asset allocation strategies has increased, according to the Center for Due Diligence. This presents unique challenges for plan fiduciaries when evaluating the actual benefits of TAAs, mainly centered on the complexity and diversity of TAA strategies that are available to plan investors.
A white paper produced by the center and written by Marcia Wagner and John Sohn of The Wagner Law Group runs through a number of best practices to consider when implementing the strategies.
In contrast to the passive approach adopted in strategic asset allocation strategies, the authors note, TAA uses an actively managed approach to a portfolio’s allocations based on current market conditions. 401(k) plans and other similar plans with participant-directed investments often include target-date or target-risk investment options utilizing a TAA strategy of some kind.
The best practices and key considerations Wagner and Sohn cite are:
1). Generally accepted investment theories. Plan fiduciaries should gather information concerning the TAA strategy to assess whether the TAA advisor’s investment theories are generally accepted.
2). Tactical constraints. Plan fiduciaries should ensure that the asset allocation investment has a strategic asset allocation (SAA) with a tactical overlay subject to reasonable constraints, ensuring that tactical changes comply with the regulatory mandate to achieve long-term appreciation and preserve capital.
3). TAA’s impact on diversification. Plan fiduciaries should gather information concerning the extent to which tactical changes may cause the investment’s portfolio to become less diversified.
4). Frequency of changes. Plan fiduciaries should perform enhanced due diligence on a TAA advisor that utilizes frequent tactical allocation changes (e.g., multiple changes per quarter), and confirm that each tactical change is being made in a disciplined manner in accordance with its investment theories.
5). Factors given appropriate consideration. Plan fiduciaries should gather information concerning the objective measures (e.g., capital market data, governmental policies) that are being given appropriate consideration by the TAA advisor for purposes of its tactical changes.
6). Retired participants. Plan fiduciaries should gather information on the extent to which the TAA advisor gives appropriate consideration when making tactical changes to the fact that retired participants, as applicable, are taking current distributions from the asset allocation investment.
7). Expertise and experience. Plan fiduciaries should consider the professional qualifications of the TAA advisor (and outsourced service providers, such as technical overlay professionals, if any) as well as its specific TAA-related expertise and experience.
8). Identifying investment goals. Given the broad diversity of TAA strategies, plan fiduciaries should gather and consider information concerning a TAA strategy’s particular investment goals (e.g., downside risk management, fine-tuning portfolio allocations or contrarian-like tactics).
10). Plan-level disclosures. Plan fiduciaries should review the disclosures provided by the plan recordkeeper under the 408(b)(2) regulations for designated investment alternatives (DIAs), as well as the TAA advisor’s ADV brochure (assuming the TAA Advisor is a registered investment adviser) to gather relevant information concerning the TAA advisor and its TAA strategy.
11). TAA performance monitoring. To determine whether the TAA advisor’s tactical allocation changes have added value, plan fiduciaries should consider engaging a financial advisor or consultant who can help them evaluate the TAA strategy (e.g., tactical transparency, accountability, attribution analysis, returns-based performance analysis, etc.).
12). Average participant standard. Plan fiduciaries should consider including a brief description of the TAA strategy and its associated risks in the required DIA and QDIA disclosures for participants to help ensure that such disclosures can be understood by the plan’s “average” participant as required under DOL rules.
Check out What’s a Fixed Income Investor to Do? Try Alt Asset Classes by Gib Watson on ThinkAdvisor.