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Investment Opportunities within the UCITS III fund framework

Alistair SayerInvestment Director, Multi-Strategy Equities

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Points to cover

What is UCITS III all about?

A framework for portfolio construction within UCITS III What can an investment manger do?

– Equitised long /short

– Portable alpha

– Absolute return

Why would you be interested?

Risk

Examples

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But what does UCITS III allow?

UCITS III – releasing manager constraint

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Much more choice for your clients

UCITS III brings a whole new dimension to portfolio construction?

Equitised long / short

Portable alpha

Absolute return

Increasing flexibility

Increasing choice

Increasing YOUR tools

Derivatives

Leverage

Risk Measurement

Products Complexity Relevance

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Efficient conversion of risk to return

Equitised long / short

160% invested

Beta = 1

Removes the short constraint Enabling new investment techniques Allowing high conviction position sizes

Increases exposure to a manager’s alpha generation

Retains risk control to equity market

Source: Henderson Global Investors

-150%

-100%

-50%

0%

50%

100%

150%

long short equity futures totalexposure

130/30 active equity

Product Relevance

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Flexibility to pick best alpha generators

Portable alpha

100% exposure to ANY market

Beta = 1

No regional restrictions to alpha generation You can deconstruct a global portfolio to have the more alpha generated in Europe and Asia

Possible to construct very tailored portfolio for you clients

-150%

-100%

-50%

0%

50%

100%

150%

long short equity futures totalexposure

Market Neutral

Product Relevance

Source: Henderson Global Investors

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Absolute return

Market neutral long / short

X% long

X% short

No market exposure; Beta = 0

Downside protection

Predominantly long exposure

Flexible short exposure

Variable exposure to the market; Beta = 0 to 1

Competition for hedge funds?

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Why choose a UCITS III fund over a hedge fund?

The benefits of sophisticated hedge fund strategies within a regulated environment

Can invest smaller amounts

TRANSPARENCY

A financial adviser’s point of view The ability to buy a geared fund for the adventurous client

Or A limited loss fund for the cautious client

fits with your obligation to risk profile your clients

Regulated

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UCITS III BadgeStandard Powers –

“non - sophisticated UCITS”

Traditional “long-only” funds with primarily physical assets

Derivative usage only for EPM

Cannot be used for symmetry

No disclosure on derivatives required in Investment Objectives

Risk measurement

Not required to agree risk framework with regulators

Additional capabilities: Asset types/classes Derivatives Money markets Closed ended investment companies

Greater derivatives usage permitted

Symmetry, hedging and other derivative strategies permitted

Required to disclose derivatives usage in Investment Objectives

Risk measurement using Value at Risk

Required to agree risk framework with regulators

Not all UCITS III funds will use their full powers

Enhanced Powers – “sophisticated UCITS”

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UCITS III Risk Measurement – VaR

Definition Estimate maximum potential loss that a UCITS portfolio could suffer within a certain time

horizon and certain degree of confidence

Detail 99% confidence level

Holding period of one month

Recent volatilities ie no more than one year from the calculation date

Riskmetrics used to calculate on a daily basis

Stress testing on a monthly basis eg 9/11, black Monday

Works on multiple levels from the position specific micro level to the portfolio based macro level

NOTE: no mention of gross exposure limit

Sophisticated UCITS must apply Value at Risk –VaR

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Does it work in practice?

Examples Risk control Portfolio construction Alternative investments

NOTE: no mention of gross exposure limit

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Equitised long / short – risk controlRisk reduction

Releasing short constraint Allows a manager to take

active bets where they have information

Removes restriction to underweight only large-caps

Can significantly reduce tracking error for the same return target

Brings in alternative investment techniques

-5.0%

-3.0%

-1.0%

1.0%

3.0%

5.0%

Long only constrained *

Source: Henderson Global Investors* Note: Based on UK FTSE All Share Barra optimisation targeting 3% excess return

-5.0%

-3.0%

-1.0%

1.0%

3.0%

5.0%

7.0%

Unconstrained *

large <------------------- Active weight by mkt cap -------------------> small

large <------------------- Active weight by mkt cap -------------------> small

4% tracking error *

2 % tracking error *

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-2.00

-1.50

-1.00

-0.50

0.00

0.50

1.00

1.50

2.00

Enhanced Index Alpha Plus Absolute return Fund

Carnival Corp

-0.30%

-0.70%

Equitised long / short – alternative sources of returnTheoretical example: Carnival Corp

Source: Henderson Global Investors

Carnival UK (Short)

Carnival UK

Carnival US

Carnival’s US listing was trading at a 5% discount to its UK listing

Bringing together Enhanced Index and Absolute Return strategies

0.30%

2%

-2%

1.00%

-0.30%

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Conclusion

How UCITS III benefits you Increases diversity of products on the market

– Long only to absolute return

Alternative investment techniques

– Hedge fund style investment techniques

But it comes at a price Increased complexity More onerous due diligence

What UCITS III means for the investment manager Increase in derivatives expertise Significant restructure and upgrade of risk systems Potential to demonstrate and segregate alpha capability Symmetry - the ability to add value in up and down markets and to equally use positive and negative

research

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Henderson Global Investors4 Broadgate London EC2M 2DATel: 020 7818 1818 Fax: 020 7818 1819

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