WO2006086834A1

WO2006086834A1 - A system, a method and a computer program for determining an apportionment of an investor fund

Info

Publication number: WO2006086834A1
Application number: PCT/AU2006/000183
Authority: WO
Inventors: Julian Duncan Plummer
Original assignee: Julian Duncan Plummer
Priority date: 2005-02-15
Filing date: 2006-02-13
Publication date: 2006-08-24

Abstract

The invention relates generally to the field of apportioning an investor fund among one or more potential investments. The invention makes an informed decision about the apportionment in an attempt to satisfy an expectation of a portfolio comprising of at least one asset associated with an investor and another asset available to the investor.

Description

A SYSTEM, A METHOD AND A COMPUTER PROGRAM FOR DETERMINING AN APPORTIONMENT OF AN INVESTOR FOND

FIELD OF THE INVENTION

The present invention relates generally to the field of apportioning an investor fund among one or more potential investments .

BACKGROUND OF THE INVENTION

Apportioning an investor fund basically involves allocating the fond amongst one or more potential assets . For example, investing 20% of the fund in investment A, 30% of the fund in investment 6, and 50% of the fund in investment C. Selecting an inappropriate apportionment of the fund can expose the fund to a higher than acceptable investment risk and/or yield an actual return that is well below an expected return.

SUMMARY OF THE INVENTION

According to a first aspect of the present invention there is provided a system for determining an apportionment of an investor fund, the system comprising a processing means that is operable to perform the steps of: obtaining an investment criterion for an investor; obtaining first investment characteristic information about at least one asset associated with the investor; obtaining second investment characteristic information about at least one potential investment that is available to the investor; and performing a calculation involving the investment criterion, the first investment characteristic information, and the second investment characteristic information in order to determine an amount of the investor fund to be invested in the potential investment, thereby determining the apportionment.

An advantage of the present invention is that it effectively makes an informed decision about the apportionment in an attempt to satisfy an expectation of a portfolio comprising of at least one asset associated with an investor and at least one potential investment that is available to an investor. The informed decision is made by basing the calculation on the investment criterion, the first investment characteristic information, and the second investment' characteristic information — all of which may have an impact on the risk and/or return of the portfolio. The investment fund is not restricted to a type of mutual fund and can in fact be any sum of money under the control of, for example, a listed investment company, share trading club, a private company that pays out returns in the form of dividends, a superannuation fund, or a 4OIK program.

Preferably, the processing means is operable to ' perform the steps of : determining whether the amount of the investor fund satisfies the investment criterion; and performing the step of determining the amount if it is determined that the amount of the investor fund does not satisfy the investment criterion.

An advantage of performing the two steps described in the above paragraph is that it can be used at a later date to re-optimise the portfolio in terms of the risk and/or return.

Preferably, the first investment characteristic information comprises information about an expected return of the asset, whilst the second investment characteristic information comprises information about an expected return of the potential investment.

Preferably, the investment criterion requirement comprises information about an expected investment return. ^• .

Preferably, the investment criterion comprises information about an expected investment risk.

An advantage of using the various information that makes up the investment criterion, first investment characteristic information, and second investment characteristic information is that it enables the calculation to be based on a mean variance analysis technique .

Preferably, the calculation is such that the amount of the investor fund can yield, in combination with the asset: a total expected investment return that is substantially equivalent to the expect investment return; and a minimum expected investment risk.

Preferably, the calculation is such that the amount of the investor fund can yield, in combination with the asset: a total expected investment risk that is substantially equivalent to the expected investment risk; and a maximum expected investment return.

According to a second aspect of the present invention there is provided a method of determining an apportionment of an investor fund, the method comprising the steps of: obtaining an investment criterion for an investor; obtaining first investment characteristic information about at least one asset associated with the investor; obtaining second investment characteristic information about at least one potential investment that is available to the investor; and performing a calculation involving the investment ^• criterion, the first investment characteristic information, and the second investment characteristic information in order to determine an amount of' the investor fund to be invested in the potential investment, thereby determining the apportionment.

Preferably, the method further comprises the steps of: determining whether the amount of the investor fund satisfies the investment criterion; and performing the step of determining the amount if it is determined that the amount of the investor fund does not satisfy the investment criterion.

Preferably, the investment criterion comprises information about an expected investment return.

Preferably, the calculation is such that the amount of the investor fund can yield, in combination with the asset: a total expected investment return that is substantially equivalent to the expect investment return; and a minimum expected investment risk. '

According to a third aspect of the present invention there is provided a computer program comprising at least one instruction for causing a computing device to carry out the method according to the second aspect of the present invention.

According to a fourth aspect of the present invention there is provided a computer readable medium comprising the computer program according to the third aspect of the present invention.

BRIEF DESCRIPTION OF THE DRAWINGS

Notwithstanding any other embodiments that may fall within the scope of the present invention, an embodiment of the present invention will now be described, by way of example only, with reference to the accompanying figures, in which:

figure 1 illustrates a system in accordance with an embodiment of the present invention? and

figure 2 is a flow chart of the various steps performed by the system shown in figure 1.

AN EMBODIMENT OF THE INVENTION

With reference to figure 1, the system 100 comprises a computer 103, a database 105 and a communication network 107.

The computer 103 is in the form of a personal computer and comprises a. *main box' 109 that houses traditional computer hardware (which is not illustrated in the figures) such as a motherboard, random access memory, a power supply, a video card, a network interface card, and a hard disk. The computer 103 also comprises a keyboard 111 and a video monitor 113 that is electrically connected to the video card. The hard disk is loaded with the Microsoft XP operating system, which basically cooperates with the computer hardware to provide an environment in which software applications can be executed. In this regard, the hard disk is also loaded with a software application that is essentially arranged to apportion an investor fund among one or more potential investments. A more detailed description of the software application is provided in subsequent paragraphs of this specification.

The database 105 is in the form of a computer server and comprises a 'main box' 115 that houses traditional computer hardware (which is not illustrated in the figures) such as a motherboard, random access memory, a power supply, a network interface card, and a hard disk. The hard disk is loaded with the Microsoft Server 2003 operating system, which basically cooperates with the computer hardware to provide an environment in which software applications can be executed. In this regard, the hard disk is also loaded with a commercial database application from the Oracle Corporation. The commercial database is used to manage investment characteristic data that the software application loaded on the computer 103 uses to apportion the investor fund among the one or more potential investments. A more detailed description on the data investment performance is provided in the subsequent paragraphs of this specification.

As mentioned previously, the system 100 comprises a communication network 107. The communication network 107 is essentially used to enable the computer 103 and the database 105 to exchange information with each other. In particular, the network 107 enables the computer 103 to retrieve the investment performance data from the database 105. To enable the computer 103 and the database 105 to exchange information with each, other the communication network 107 comprises a plurality of interconnected packet routers/switches (which are not shown in the figures) that support the Internet Protocol suite of routing standards.

To allow the computer 103 and the database 105 to use the communication network 107 the system 100 also comprises data communication links 117. The links 117 are electrically coupled to a network access point of the network 107 and the network interface cards of the computer 103 and the database 105. The links 117 support the xDSL communication standard.

Given that the packet routers/switches in the communication network 107 support the Internet Protocol suite of routing standards, the computer 103 and the database 105 comprises communication software that formats data to be exchanged via the communication network 107 in to IP packets.

As mentioned previously, the computer 103 is loaded with a software application that apportions an investor fund among the one or more potential investments. With reference to figure 2, which shows a flow chart 200 of the various steps performed by the software application, the first step 203 that the software application performs is to retrieve the investment characteristic data from the database 105. This step 203 effectively involves downloading the investment characteristic data from the database 105. It is noted that if the investment characteristic data is not capable of being retrieved from the database 105, then the software application could use proxies or estimates of the characteristics. The investment characteristic data comprises the following information about one or more potential investments:

1. Expected returns for each set of the one or more potential investments n_IP available to investors. It is envisaged that the one or more potential assets can comprise derivatives, securities or managed investment funds. Expected Returns are denoted by E(R_a) , which is the expected return for potential investment a;

2. Expected risk for the one or more potential investments n_1P available to the investors. Any number of different types of risk measurements can be used such as standard deviation, semi standard deviation_/ probability of loss, probability of achieving a specified return, tracking error against peers or benchmarks. Various measures of risk for determining an efficient frontier and the input information necessary to compute the measures of risk are known to persons skilled in the art such as. ^MPost Modern

Portfolio Theory comes of age" B. Rom and K. Ferguson, The Journal of Investing, Fall 1994; and

3. Expected co-movement between each of the potential investments, typically using correlation or covariance. The covariance is denoted by Cov(R_a, R_b), which is the covariance of expected returns between potential investments a and Jb.

It is noted that the investment characteristic data is derived primarily through historical data and analysis, or analysis of the characteristics and expectations of the various potential investments.

The investment characteristic data also comprises current or potential asset holdings for one or more investors. These current or potential holdings are in a group of asset classes/ numbering 1 to nip. The portfolio weights of each asset class for each investor are stored as w*J , which is the weight of asset a in investor j's initial portfolio IP.

The expected return of investor j's IP is

Where: wf^J = weight of asset a in investor j's IP E(Rf) = expected return of asset a and fwi^PJ = 1. α=l The expected risk of investors j's IP is

Where: CoV(Rf,Rf) is the covariance of expected returns between asset a and asset Jb.

The second step 205 that the software application performs is to form a Total Portfolio (TP) for each investor j. The Total Portolio for investor j comprises the current or potential asset holdings of investor j and a contribution (typically in the form of a sum of money) received from investor j . The contribution (or investor fund) is known, as investor j ' s Marginal Contribution (MC) .

Subsequent to performing the previous steps 203 and 205, the software application proceeds to carry out the step 207 of downloading from the database 105 further data that represents the investor's investment criterion for their Total Portfolio. More specifically, the investment criterion comprises an expected return profile and/or expected risk profile for the Total Portfolio. The investment criterion is typically obtained by way of a questionnaire that has been completed by the relevant investor. The Expected Risk Profile for investor j is denoted by °J and the Expected Return Profile for investor j is denoted by °j . The further data that represents the investor's investment criterion can also comprise desired and current investment objectives of the investors, such as return objectives, risk objectives, peer objectives, time horizon and constrains. Various investment objectives and the input information necessary to determine these investment objectives are known to persons skilled in the art; for example, "Managing Individual Investor Portfolios" James W. Bronson, Mathew H. Scanlan and Jan R. Squires, Managing Investment Portfolios: A Dynamic Process, 3^rd Edition, AIMR and "The Portfolio Management Problem of Individual Investors: A Quantitative Perspective", Nicolo G. Torre and Andrew Rudd, Institutional Investor's Guide to Integrated Wealth Management, Summer 2004.

Once the software application has performed the preceding steps 203 to 207, the software application carries out a calculation step 209 to determine the allocation (apportionment) of each investor's Marginal Contribution that makes investor j's total Portfolio optimal. This optimal allocation is known as the Marginally Efficient Portfolio ("MEF") .

The calculation step 209 is performed for each investor in isolation, and is run v times. The aim of the calculation step 209 is to determine investor j's best outcome if they were to invest their Marginal Contribution themselves in an optimal manner (with access to n_B potential investment classes). Investor j's is itself unlikely to be an efficient portfolio. It does, however, move investor j's total portfolio closer towards investor j's efficient frontier. The calculation step 209 is such that it can operate as either "risk reducing" or "return increasing". A risk reducing operation looks to find a Marginally Efficient Portfolio that satisfies investor j's expected return profile, while minimizing investor j's total expected risk. A return increasing operation looks to find a Marginally Efficient Portfolio that satisfies investor j's expected risk profile, while maximizing investor j's total expected return.

More formally, the return increasing operation is:

Maximise P^w_k ^lp'^JE{R_k'^p)+p₂ ^J^_jw^^JE(Rf^{R)

By changing wf^R'^j for all 2

Where: wf^RJ = portfolio weight of potential investment 2 in investor j's Marginally

Efficient Portfolio;

P/ = proportion of investor j's Total

Portfolio invested in investor j'a Initial

Portfolio; and

P/ s proportion of investor j's Total

Portfolio invested in investor j's Marginal

Contribution.

Subject to

W M, RJ _ ₌i

1=1

0 < _w^ ≤ l ^■

Where SJ ~ investor j 's expected risk profile, in this case using std deviations .

returns between investor'j 'a IP and MEF.

More formally, the risk reducing operation isi

Minimise

By changing w?^RJ for all 1

J=I

Where δ_j = investor j's- expected return profile

The end result of the calculation step 209 is a set of potential investment allocations for each investor j's Marginal Contribution, which relates to the Marginally Efficient Portfolio for each investor j. The optimised expected risks of investor j's total portfolios as determined by the calculation step 209 is denoted ψ. (most often in a standard deviation format) . The optimised expected returns of investor j's Total Portfolio as determined by the calculation step 209 are denoted η..

The software application is also operable to perform an optimisation step 211 subsequent to carrying out the previous calculation step 209. The optimisation step 211 is basically arranged to determine whether the potential investment allocations determined by the calculation step 209 still result in an optimal Total Portfolio. The optimisation step 211 is similar to the calculation step 209 in that it can perform a return increasing or risk reducing operation. More formally, the return increasing operation of the optimisation step 211 involves;

Maximise

By changing w ,,"^MKRJ'j for all 1 and all j

Where η. = optimised return for investor j determined by the calculation step 209.

Subject to for all j

w MR,/ i=l M O ≤ W^ ≤ ∞ for all j for all 2

The risk reducing operation of the optimisation step 211 involves :

Maximise

By changing wf*^RiJ f or all 1/ and all j

subject to

for all 1 The group of weights wf^RJ are the final natural investment allocations for investor j's Marginally Efficient Portfolio/ and are denoted as the Promiscuous Portfolio Asset Allocation (PPAA) .

Once the group of weights have been finalized the computer 103 can perform the step 213 of executing trades to buy and sell the potential investments as necessary to achieve a portfolio of assets corresponding to the w^^R'^J as determined by the optimisation step 211.

The software application loaded on the computer 103 is operable to compute, on a periodic basis, the actual return on the Promiscuous Portfolio Asset

Allocation based on current asset price data, which can be downloaded from the database 105.

_wmj

The return on the assets *~_* ' is distributed to every investor j. It will be understood that actual and expected returns referred to herein for each asset may be returns are deductions for expenses and costs have been deducted. The actual and expected returns may be positive or negative. It is also understood that -°°≤ /_,w^^R'^J ≤∞ for each investor j .

As investments change in value over time, the proportion of value of each asset in the Initial Portfolio, Total Portfolio Asset Allocation, and the Total Portfolio will change. Therefore, the actual weights will deviate from the optimal values wf^RJ as determined by the optimisation step 211 corresponding to the new values of the assets. Therefore it may be desirable to repeat the calculation step 209 and the optimisation step 211 with the new asset values. It may be necessary to execute trades to buy and sell assets as necessary to achieve a portfolio of assets corresponding to the results of the repeated optimisation.

It is noted that the software applications loaded on the computer 103 is capable of performing the previously described steps 203 to 213 on a periodic basis; for instance, every second or minute.

Those skilled in the. art will appreciate that the invention described herein is susceptible to variations and modifications other than those specifically described. It should be understood that the invention includes all such variations and modifications which fall within the spirit and scope of the invention.

Claims

THE CLAIMS DEFINING THE INVENTION ARE AS FOLLOWS:

1. A system for determining an apportionment of an investor fund, the system comprising a processing means that is operable to perform the steps of: obtaining an investment criterion for an investor; obtaining first investment characteristic information about at least one asset associated with the investor; obtaining second investment characteristic information about at least one potential investment that is available to the investor; and performing a calculation involving the investment criterion, the first investment characteristic information, and the second investment characteristic information in order to determine an amount of the investor fund to be invested in the potential investment, thereby determining the apportionment.

2. The system as claimed in claim 1, wherein the processing means is operable to perform the steps of: determining whether the amount of the investor fund satisfies the investment criterion; and performing the step of determining the amount if it is determined that the amount of the investor fund does not satisfy the investment criterion.

3. The system as claimed in claim 1 or claim 2, wherein the first investment characteristic information comprises information about an expected return of the asset, whilst the second investment characteristic information comprises information about an expected return of the potential investment.

4. The . system as claimed in any one of claims 1 to 3, wherein the investment criterion comprises information, about an expected investment return.

5. The system as claimed in any one of claims 1 to 3, wherein the investment criterion comprises

5 information about an expected investment risk.

6. The system as claimed in claim 4, wherein the calculation is such that the amount of the investor fund can yield, in combination with the asset: a total

1_.0 expected investment return that is substantially equivalent to the expect investment return; and a minimum expected investment risk.

7. The system as claimed in claim 5, wherein 15 the calculation is such that the amount of the investor fund can yield, in combination with the asset: a total expected investment risk that is substantially equivalent to the expected investment risk; and a maximum expected investment return. 20

8. A method of determining an apportionment of an investor fund, the method comprising the steps of: obtaining an investment criterion for an investor; 25 obtaining first investment characteristic

Information about at least one asset associated with the investor; obtaining second investment characteristic information about at least one potential investment that is 30 available to the investor; and performing a calculation involving the investment criterion, the first investment characteristic information, and the second investment characteristic information in order to determine an amount of the investor fund to be 35 invested in the potential investment, thereby determining the apportionment. 9. The method as claimed in claim 8, comprising the steps of: determining whether the amount of the investor fund satisfies the investment criterion; and performing the step of determining the amount if it is determined that the amount of the investor fund does not satisfy the investment criterion.

IQ. The method as claimed in claim 8 or claim 9, wherein the first investment characteristic information comprises information about an. expected return of the asset, whilst the second investment characteristic information comprises information about an expected return of the potential investment.

11. The method as claimed in any one of claims 8 to 10, wherein the investment criterion comprises information about an expected investment return.

12. The method as claimed in any one of claims 8 to 10, wherein the investment criterion comprises information about an expected investment risk.

13. The method as claimed in claim 11, wherein the calculation is such that the amount of the investor fund can yield, in combination with the asset: a total expected investment return that is substantially equivalent to the expect investment return; and a minimum expected investment risk.

14. The method as claimed in claim 12, wherein the calculation is such that the amount of the investor fund can yield, in combination with the asset: a total expected investment risk that is substantially equivalent to the expected investment risk; and a maximum expected investment return. .

15. A computer program comprising at least one instruction for causing a computing device to carry out the method as defined in any one of claims 8 to 14.

16. A computer readable medium comprising the computer program as claimed in' claim 15.

Dated this 15th day of February 2005 JULIAN DUNCAN PLUMMER

By their Patent Attorneys GRIFFITH HACK