1. Asset Management Lecture One

2. Introduction Book: Book: Investments 8th edition by Bodie, Kane and Marcus Investments 8th edition by Bodie, Kane and Marcus Evaluation: Evaluation: Homework Homework Three cases Three cases Quizzes Quizzes Final exam 50% Final exam 50% Office hour: Wednesday 14:00 to 15:00 Office hour: Wednesday 14:00 to 15:00

3. Introduction Theories Theories Practices Practices Institutional knowledge Institutional knowledge Cases Cases

4. Outline for today What is asset management? What is asset management? Asset classes Asset classes Asset management process Asset management process

5. Asset Management Asset management: to meet specified investment goals for the benefit of the investors. Asset management: to meet specified investment goals for the benefit of the investors. financial assets financial assets real assets (real estate, commodities) real assets (real estate, commodities) Investors Investors institutions (insurance companies, pension funds, corporations etc.) institutions (insurance companies, pension funds, corporations etc.) private investors private investors direct via investment contracts direct via investment contracts collective investment schemes (e.g. mutual funds). collective investment schemes (e.g. mutual funds).

6. Global fund management industry, 2007 (values in US$ trillion)

7. Global (conventional) fund management industry by country

9. 15 Largest Asset Management Firms by assets under management as of 31 December 2006.

10. Asset classes The money market The money market T bills T bills Certificates of deposit Certificates of deposit Eurodollars Eurodollars Federal funds Federal funds

11. borrowing by U.S. banks from the Federal Reserve through Dec. 2007:

12. borrowing by U.S. banks from the Federal Reserve through Dec. 2008:

13. Asset Classes Money market Money market Bond market Bond market T notes and T bonds T notes and T bonds International bonds International bonds Municipal bonds Municipal bonds Corporate bonds Corporate bonds Mortgage-backed pass-through securities Mortgage-backed pass-through securities Mortgage related agencies Mortgage related agencies Federal National Mortgage Association, Fannie Mae Federal National Mortgage Association, Fannie Mae Government National Mortgage Association, Ginnie Mae Government National Mortgage Association, Ginnie Mae

14. S&P 500 Stock Price 1985-2009

16. Global indices 2008

17. Best vs. worst performing stock markets 2008

18. Asset management process Planning with the client Planning with the client Investor objectives, constraints and preferences Investor objectives, constraints and preferences Execution by the asset manager: Execution by the asset manager: Asset allocation Asset allocation Risk and return, effects of diversification (views on inflation, growth, etc.) Risk and return, effects of diversification (views on inflation, growth, etc.) Security selection Security selection Market efficiency: can we beat the market? (private info) Market efficiency: can we beat the market? (private info) Execution Execution How and when do you trade? (trading speed, trading costs) How and when do you trade? (trading speed, trading costs) Evaluation: Evaluation: What are the risk and the return of the portfolio? What are the risk and the return of the portfolio? Does the manager underperform or outperform? Does the manager underperform or outperform?

19. Planning objectivesConstraintspolicies Return requirements liquidity Asset allocation Risk tolerance Horizondiversification Regulations Risk positioning Taxes Tax positioning Unique needs Income generation

20. Objectives Type of investor Return requirement Risk tolerance Individual and personal trusts Life cycle Mutual funds VariableVariable Pension funds Assumed rate of return Depends on proximity of payouts Endowment funds Determined by current income needs and needs for asset growth Generally conservative Life insurance companies Exceed new money rate by sufficient margin Conservative Non-life insurance companies No minimum conservative Banks Interest spread variable

21. Constraints Type of investor LiquidityHorizonRegulationstaxes Individual and personal trusts Variable Life cycle NoneVariable Mutual funds HighVariableFewNone Pension funds Young: low; Old: high LongERISANone Endowment funds LowLongFewNone Life insurance companies LowLongFewYes Non-life insurance companies HighShortFewYes BanksHighShortChangingYes

22. Asset allocation Specify asset classes to be included in the portfolio Specify asset classes to be included in the portfolio Specify capital market expectations Specify capital market expectations Derive the efficient market frontier Derive the efficient market frontier Find the optimal asset mix Find the optimal asset mix

23. Retirement planning models Retirements consumption depends on life expectancy. Retirements consumption depends on life expectancy. Life cycle of risk tolerance Life cycle of risk tolerance Ballpark Estimate Model http://www.choosetosave.org/ballpark/ Ballpark Estimate Model http://www.choosetosave.org/ballpark/

24. Ballpark Estimate Model Assuming a constant real interest rate of 3%. Assuming a constant real interest rate of 3%. For example, let’s say Jane is a 35-year-old woman with two children, earning $30,000 per year. For example, let’s say Jane is a 35-year-old woman with two children, earning $30,000 per year. Jane has determined that she will need 70% of her current annual income, i.e. $21,000, to maintain her standard of living in retirement. Jane has determined that she will need 70% of her current annual income, i.e. $21,000, to maintain her standard of living in retirement. Jane would then subtract the income she expects to receive from Social Security ($12,000 in her case) from $21,000, equaling $9,000. This is how much Jane needs to make up for each retirement year. Jane would then subtract the income she expects to receive from Social Security ($12,000 in her case) from $21,000, equaling $9,000. This is how much Jane needs to make up for each retirement year. Jane expects to retire at age 65 and if she is willing to assume that her life expectancy will be equal to the average female at that age (86), she would multiply $9,000 by 16.4 for a result of $147,600 Jane expects to retire at age 65 and if she is willing to assume that her life expectancy will be equal to the average female at that age (86), she would multiply $9,000 by 16.4 for a result of $147,600 Jane has already saved $2,000 in her 401(k) plan. She plans to retire in 30 years so she multiplies $2,000 x 2.4 equaling $4,800. She subtracts that from her total, making her projected total savings needed at retirement $142,800. Jane has already saved $2,000 in her 401(k) plan. She plans to retire in 30 years so she multiplies $2,000 x 2.4 equaling $4,800. She subtracts that from her total, making her projected total savings needed at retirement $142,800. Jane then multiplies $142,800 x.020 = $2,856. This is the amount Jane will need to save in the current year for her retirement (it is assumed the annual contribution will increase with inflation in future years). Jane then multiplies $142,800 x.020 = $2,856. This is the amount Jane will need to save in the current year for her retirement (it is assumed the annual contribution will increase with inflation in future years).