Pros & Cons of Hiring an Outside Investment Manager
By: Richard A. Dobbs, Vice President
Some corporate treasurers are turning to outside investment managers in a quest to seek higher returns on their portfolios. Why? The capital markets are complex. As a result, making financial decisions, choosing appropriate investments, and obtaining an acceptable return are no longer straight-forward tasks for an in-house cash manager.
Modifying maturities, diversifying into international money market securities, or using more sophisticated investment strategies are options that may potentially increase returns. Yet the complete picture of rewards and risks is not always clear and with many treasury staffs reduced in size, evaluating and implementing one or more of these strategies can be virtually impossible.
The upshot: Many corporations turn to external investment managers to invest their corporate cash and/or pension cash portfolios. But how do you know whether hiring a manager is the right thing for your company?
Why Hire an Outside Manager?
Typically, hiring an external manager will result in an increase in convenience and a time savings. While beneficial, the chief reason for hiring is the expectation that fees paid may lead directly to an increase in returns - even though there is no guarantee that an outside professional can deliver better results. An outside manager can benefit your organization in a number of ways:
- Full-time attention: Professional managers devote full time attention to managing their portfolios. They can watch and assess the market and the different types of securities far better than those who do so only part time. As with any endeavor, the ability to specialize may provide benefits in the form of knowledge, contacts, access to investment opportunities, computer support systems, and experience.
- Specialized capabilities and Wall Street attention: The outside manager often employs investment strategies that are simply not available to most in-house treasury managers who have many other responsibilities. In fact, a professional manager's expertise may allow you to broaden your investment guidelines beyond the comfort level you had with in-house management. Investment professionals benefit from economies of scale not always available to part-time managers. The outside manager's volume of business can lead to trading efficiencies, access to market information, and investment opportunities not always available to smaller investors.
- Custody: Another advantage is that many managers provide custody services. Having a custodian adds an increased level of control over the portfolio, allowing more trading flexibility than housing the securities with one or more brokers, and often at little or no incremental cost.
Management fees are a variable cost, fluctuating with the size of the portfolio. For instance, if the portfolio is used for an acquisition the fee disappears at the conclusion of the transaction. Hiring an in-house staff member or allocating a portion of a person's time to this responsibility represents an ongoing cost, regardless of the portfolio size.
Additionally, the level of accountability in meeting investment goals and conforming to guidelines is often greater with an outside manager than realistically can be imposed on a staff member, especially if this is one of many of that person's responsibilities.
When Not to Hire a Manager
No manager is a miracle worker. Just as there are compelling reasons to consider hiring a manager, there are situations where a manager will not be able to add value over in-house management.
- Size: The portfolio must be of sufficient size and stability to allow the manager to reasonably add value.
- Flexible investment guidelines: Investment guidelines should be flexible in terms of allowable investments and maturity. A manager restricted to specific securities or certain quality parameters will probably not add much value versus in-house management.
- Discipline: While flexibility is important, you must also have a great deal of comfort with your money manager's understanding of your unique set of investment goals and risk tolerance. A written agreement covering this provides discipline and structure to the assignment, establishes expectations, and reduces any fear about losing control of the portfolio to an outside manager.
A full-time investment professional may be able to provide better investment results than your in-house staff. Each company's situation is unique. As with any business decision, weigh the pros and cons objectively. Understand how a manager adds value, set realistic goals and expectations, and avoid short-run solutions.
This article is for informational purposes only and is not intended as an offer or solicitation for the sale of any financial product or service or as a determination that any investment strategy is suitable for a specific investor. Investors should seek financial advice regarding the suitability of any investment strategy based on their objectives, financial situations, and particular needs. This article is not designed or intended to provide financial, tax, legal, accounting, or other professional advice since such advice always requires consideration of individual circumstances. If professional advice is needed, the services of a professional advisor should be sought.