Schroder Strategic Beta
Strategy Overview
Summary
Schroder Strategic Beta is invested across a broad range of risk premia using an actively
managed, risk-based asset allocation process that aims to deliver stable performance over
the medium term in a variety of market environments. The strategy is actively managed and
focuses on making asset allocation decisions in risk rather than capital space, using longterm risk relationships to diversify its risk across a wide range of different risk premia. The
strategy is invested in global fixed income, global equity, currency, commodities, volatility and
alternative related instruments and assets.
Strategic Beta is implemented predominantly using the most liquid types of derivative
contracts to ensure low transaction costs and a high level of liquidity. It can use financial
derivative instruments such as interest rate swaps, credit default swaps, total return swaps,
futures, options, warrants, forwards and contracts for difference.
Investment objective
The portfolio targets a return of 8-10% p.a. consistent with an average volatility target of
12% p.a.*
* There is no guarantee that any investor objective or outcome can be achieved.
Team highlights
— The Multi-Asset team consists of over 100 investment professionals managing $115
billion for clients globally
— Research is organized around a risk premia based approach utilising both quantitative
and qualitative analysis
— The team’s approach is solutions oriented with products based around five key desired
investor outcomes: Wealth Preservation, Risk-Controlled Growth, Income, Inflation
Protection, and Risk Mitigation
Key features
Stable performance
Strategic Beta is invested in a broad range of risk premia with the objective of delivering
stable performance in a variety of market environments.
Risk based asset allocation approach
All asset allocation and portfolio construction decisions are implemented in risk space.
This means that there is a strong focus on monitoring and managing the portfolio’s risks
and on ensuring that risk is broadly distributed across the portfolio’s investments.
Focus on risk premia not asset classes
— We focus on investing in risk premia rather than asset classes. This is a more granular
approach to investing and can help to improve the portfolio’s diversification compared
to approaches based on investing in asset classes.
— We group risk premia into one of four categories – three are driven by a single systematic
risk factor, while the fourth covers behavioural anomalies. We then construct an initial
portfolio where the risk is equally distributed across the four categories.
Improved diversification through research and active management
— Strategic Beta seeks to benefit from both being diversified within each risk premia
category and from being actively managed. Tilts can be applied to each risk premia so
that the fund can benefit from valuation differences across different risk premia.
All data and statistics as of December 31, 2015
Schroder Investment Management North America Inc.
875 Third Avenue, 22nd floor, New York, NY 10022-6225
(212) 641-3800 www.schroders.com/us
Schroder Strategic Beta
Key features
(cont’d...)
— A tracking error budget for the tilts ensures that they have a meaningful impact on the
portfolio’s performance but, given the strategic nature of the portfolio, it has been set at a
level that ensures there is always some minimum exposure to each risk premia.
Downside protection
Downside protection is a key element in our approach and is based on a two tier approach
of (i) efficient portfolio construction and (ii) downside risk management. Our downside risk
overlay seeks to protect against tail risk events, both in individual risk premia groups and
systemic events that can affect all risk premia.
High level of liquidity
The portfolio is predominantly invested in the most liquid types of derivative contracts to
ensure low transaction costs and a high level of liquidity.
Investment
philosophy
Our wealth preservation investment philosophy, which Strategic Beta follows, is based on three
beliefs. First, we think that we can build better portfolios by decomposing asset classes into
risk premia – the “building blocks” of asset classes. A risk premium is the return that an investor
receives for assuming the systematic source of risk associated with an investment. In some
cases, an asset class may best be represented by a single, dominant risk premium, while in
others an asset class may best be described by a combination of risk premia.
A second belief is that strategic asset allocation is a key determinant of longer term portfolio
returns and hence that portfolios with a diversified and balanced allocation to different risk
premia are more likely to generate consistent long-term real returns. We use fundamental
economic theory to help us to understand which risk premia are driven by the same
systematic risk factor. We believe there are three systematic types of risks:
— Risks to economic growth (Growth)
— Risks to interest rate changes (Slowdown) and
— Risks of changes in the purchasing power of money (Inflation).
A fourth category (Alternatives) captures behavioural and other anomalies. These risk premia
groups are therefore based on our fundamental beliefs and hence may provide economic
diversification as we move through the different investment environments of a business cycle.
By grouping risk premia in this way we aim to achieve more stable portfolio returns over time.
Our third key belief focuses on portfolio construction. We implement asset allocation and
portfolio construction decisions in risk space, rather than in capital space, to help ensure that
risk is broadly distributed across a portfolio’s investments. This may require leverage so that
we can diversify effectively across different risk premia and still achieve a targeted level
of risk and return.
Diversification is at the core of Risk Parity but smart diversification is at the heart of Strategic
Beta. We recognize that diversification is blind to asset valuations and powerless against
systemic shocks. Consequently we tilt exposures to reflect active views and use downside
risk management techniques to try to reduce the risk from market shocks.
Investment process —
Research
Each of our eight dedicated research groups is charged with examining and monitoring a
set of risk premia to ensure that our research structure is consistent with our investment
philosophy. More than 40 investment professionals are involved in this cross-functional
research process, representing portfolio management, quantitative research, and economics
and strategy. The teams combine qualitative and quantitative approaches within a common
framework that incorporates measures of valuation, momentum and the economic cycle.
Their objective is to assess continually the attractiveness of each risk premium. Each month
these eight teams gather for strategic and tactical asset allocation discussions, which form
the foundation of our portfolios.
Schroder Strategic Beta
Investment process —
Portfolio construction
One of the objectives when we analyse potential risk premia to be included in each of
the three systematic risk premia categories (i.e. Growth, Slowdown and Inflation) is to
maximize the diversification characteristics of each group by including a range of regional
risk premia that are driven by the same primary risk factor but also reflect the different local
market environments. For example, our Slowdown team believes that it can improve the
diversification characteristics of the Slowdown risk premia group by including exposure to the
sovereign bonds of individual emerging countries rather than generically through an index.
When developing their active views, the teams utilize both qualitative and quantitative approaches
and have developed a variety of metrics, grouped under three broad headings – valuation, market
dynamics and cyclical factors – to assess the attractiveness of each risk premium over the next
12-18 months. The eight risk premia teams are shown in the figure below.
Slowdown
Growth
Inflation
Alternative
Credit
Equity
Commodities
Inflation
Strategies
Currency
Volatility
Team of 13
Team of 8
Team of 13
Team of 7
Team of 4
Team of 11
Team of 12
Team of 12
Developed
markets
Investment
Grade
Developed
markets
Agriculture
Commodities
Size
Global FX Carry
Volatility
Emerging
markets
High Yield
Emerging
markets
Energy
Breakeven
inflation
Value
EM FX Carry
Equity value
Ind. Metals
Trend
FX Value
Equity size
Gold
Volatility
FX Growth
Term
TIPS
Carry
Eight risk premia groups each headed by a senior multi-asset investment professional
More than 40 investment professionals committed to quantitative and qualitative risk premia research
Source: Schroders, as of December 31, 2015. For illustration only.
Once a month, a meeting of SIGMA (Strategic Investment Group – Multi-Asset) is convened, at
which all of the risk premia teams meet formally to present their research and debate their risk
premia views. While this meeting is scheduled to occur monthly, teams may change their view on
any of their risk premia intramonth if a major event occurs that would have a significant impact on
them. The output of SIGMA is that each team provides an update on the latest risk premium
research and additionally assigns a score to each of their risk premia to reflect their current view.
The figure below shows the stages of the investment process.
Starting point
Short-term protection
Active views
Slowdown
Growth
Slowdown
Growth
Growth
Alternative
Inflation
Slowdown
Alternative
Market
stress
Alternative
Inflation
Inflation
Initial risk-balanced
portfolio
• Based on balancing risk
Active SIGMA tilts
• Reflects medium-term
cyclical outlook
Downside risk overlay
• Mitigate short-term market
shocks
budgets across portfolio
• Tilts within a defined
• Volatility set at target level
active risk budget
• Built using proprietary risk
model (SMART)
• Hedge specific risks and/or
de-risk the overall portfolio
• Hedges within a defined
active risk budget
Source: Schroders, as of December 31, 2015. Charts are for illustrative purposes only.
When building portfolios, our focus is on making allocations to the different risk premia in terms
of their contribution to risk and to let capital allocations fall naturally out of these risk allocations.
The passive approach to constructing risk parity portfolios would be simply to allocate an equal
amount of risk to each individual risk premium in the portfolio. However, this introduces the risk
that a large number of similar risk premia could dominate the portfolio’s risk. We therefore start
by constructing an initial portfolio where each of the four categories is assigned an equal amount
of risk, as shown above.
Schroder Strategic Beta
Investment process —
Portfolio construction
(cont’d...)
In the second stage, we tilt each risk premium position in the portfolio using the views
developed by the risk premia teams as part of the SIGMA process. These tilts are all expressed
in terms of risk. Given the strategic nature of the portfolio, it is important to maintain a minimum
level of exposure to each of the four groups of risk premia at all times, while still allowing our
active views to have a meaningful impact on portfolio positions and hence performance. The
SIGMA tilts therefore have an active risk budget of 2% p.a. The amount of risk budget used
to tilt each individual premium will depend on the strength and confidence that the relevant risk
premia team has in its view on that premium. In summary, the amount of the active risk budget
used will also reflect the strength of our views in aggregate.
Risk management
The third stage of the process allows us to apply a downside risk overlay in periods of market
stress or high uncertainty. This overlay also has an active risk budget of 2% p.a. and can only
be used to reduce risk. The downside risk overlay is managed by the portfolio managers in
close cooperation with the Volatility risk premium team. Part or the entire risk budget can be
used by the fund managers. They review the overall portfolio and may chose to hedge out
specific risks (i.e. risks relating to a single risk premia group) or to reduce the overall portfolio
volatility level (i.e. reduce all positions proportionately). The size of the risk reduction positions
and the amount of the risk budget used will reflect their view on the severity of the risks
present and the costs of any protection strategies being considered. On the previous page,
we show an example of how our forward-looking views can tilt the portfolio away from the
initial equal risk allocations of 25% for each of the four categories.
Example of Final Risk Allocations
Growth
25.4%
Inflation
21.7%
Slowdown
28.1%
Alternatives
24.8%
Source: Schroders, December 31, 2015.
For illustration only.
Risk
The final portfolio allocations, in risk terms, are then converted into capital allocations for
implementation purposes. In general, risk premia that have higher volatilities require smaller
capital allocations to generate the same contribution to risk compared to lower volatility
premia, which need larger capital allocations. The majority of positions are implemented
using derivatives, most of which are exchange traded futures. This means that the portfolio
is mostly invested in highly liquid instruments that have low transaction costs.
All investments, domestic and foreign, involve risks including the risk of possible loss of
principal. The market value of the portfolio may decline as a result of a number of factors,
including adverse economic and market conditions, price fluctuations of stocks in the
portfolio, changing interest rates, and real or perceived adverse competitive industry
conditions. Investing overseas involves special risks including among others, risks related
to political or economic instability, foreign currency (such as exchange, valuation, and
fluctuation) risk, market entry or exit restrictions, illiquidity and taxation. Emerging markets
pose greater risks than investments in developed markets. The use of derivatives involves
risks different from, or possibly greater than, the risks associated with investing directly in
the underlying assets. No investment strategy or risk management technique can guarantee
returns or eliminate risk in any market environment.
Important Information: Schroders is a global asset management company with $462.1 billion under management as of December 31, 2015. Our clients are major financial
institutions including banks and insurance companies, public and private pension funds, endowments and foundations, high net worth individuals, financial intermediaries
and retail investors. Our aim is to apply our specialist asset management skills in serving the needs of our clients worldwide and in delivering value to our shareholders. With
one of the largest networks of offices of any dedicated asset management company and over 420 portfolio managers and analysts covering the world’s investment markets,
we offer our clients a comprehensive range of products and services. Further information about Schroders can be found at www.schroders.com/us. This document is
designed to describe an investment strategy generally and does not constitute an offer to sell any investment vehicle, security or instrument described in this document.
The information and opinions contained in this document have been obtained from sources we consider to be reliable. No responsibility can be accepted for errors
of facts obtained from third parties. Reliance should not be placed on the views and information in the document when taking individual investment and/or strategic decisions.
Schroders has expressed its own views and opinions in this document and these may change. Past performance is not a guide to future performance. The value of investments
can go down as well as up and is not guaranteed. Diversification does not assure a profit or protect against loss in a declining market. Schroder Investment Management
North America Inc. is an indirect wholly owned subsidiary of Schroders plc and is a SEC registered investment adviser and registered in Canada in the capacity of Portfolio
Manager with the Securities Commission in Alberta, British Columbia, Manitoba, Nova Scotia, Ontario, Quebec, and Saskatchewan providing asset management products and
services to clients in Canada. This document does not purport to provide investment advice and the information contained in this newsletter is for informational purposes and not
to engage in a trading activities. It does not purport to describe the business or affairs of any issuer and is not being provided for delivery to or review by any prospective purchaser
so as to assist the prospective purchaser to make an investment decision in respect of securities being sold in a distribution. Schroder Investment Management North America Inc.
(“SIMNA Inc.”) is an investment advisor registered with the U.S. SEC. It provides asset management products and services to clients in the U.S. and Canada including Schroder
Capital Funds (Delaware), Schroder Series Trust and Schroder Global Series Trust, investment companies registered with the SEC (the “Schroder Funds”.) Shares of the Schroder
Funds are distributed by Schroder Fund Advisors LLC, a member of FINRA. SIMNA Inc. and Schroder Fund Advisors LLC are indirect, wholly-owned subsidiaries of Schroders plc,
a UK public company with shares listed on the London Stock Exchange. Schroder Investment Management North America Inc. 875 Third Avenue, New York, NY 10022-6225,
(212) 641-3800, www.schroders.com/us.
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