Dissecting the Dashboard: Part 2- Risk/Volatility

Monday, June 21st, 2010 by Charles Mayfield, CFP®



Evaluating a portfolio’s holdings is tricky business.  In our previous discussion, we focused our attention on performance versus benchmarks and peers.  Knowing that a manager performed better than their benchmark and/or peers is an indicator of a good investment, but should never be used as a sole deciding factor.  Another common way for investors to determine an investments’ attractiveness is to look at its risk, or volatility, levels.  One method that is used in evaluating the volatility of an investment is to measure upside/downside capture versus the benchmark.

Upside/downside capture ratios measure the difference in the return of an investment against the performance of the underlying benchmark—that is to say, “how much did the investment participate in a bull market vs. its benchmark and how much did the investment participate in a bear market period vs. its benchmark.”  Numbers higher than 100 indicate higher volatility.  Ideally, investors should look for higher numbers for UP capture and lower numbers for DOWN, indicating that the manager outperforms the benchmark in bull markets, but performs “less poorly” than the benchmark in bear markets.

The two columns right of the gray area on the Dashboard below show each investment’s upside/downside capture ratio for each investment.

  • First Column: In the last 12 quarters, when the benchmark has gone UP, to what extent has this investment participated in the UP market?
  • Second Column: In the last 12 quarters, when the benchmark has gone DOWN, to what extent has this investment participated in the DOWN market?

The last two columns of the Dashboard give our current opinion on the outlook for each investment, including the previous quarter’s recommendation.  This summarizes our conclusion, based on the quantitative factors highlighted in the CMA Investment Dashboard (performance and volatility) as well as some qualitative factors that must also be taken into consideration when making investment recommendations (manager tenure, macro-economic trends, industry/sector news, etc.)  As always, they are color-coded for easy reading.

Green: we recommend keeping this investment. Yellow: this investment is now on our “watch list”—we will monitor closely, but too early to recommend a change.  Red: this is the “sell” signal.  When clients see red in this column, they know we are recommending a change and expect dialogue to support the move. They can also expect us to be ready with a replacement that we feel will work better for them, based on their situation.

Put simply, these two columns reflect the immense amount of thought, analysis and time that goes into each of our investment decisions, and are one way for our clients to hold us accountable for the recommendations that we make.

Send this to a friend

Comments are closed.