Program Helps Identify Highest Expected Returns
July 19, 2011
TG Optima on Tuesday officially launched Investment Optimizer, a software package which allows portfolio managers to construct a portfolio with the highest investment returns and lowest transaction costs.
Instead of depending on the traditional trade off of risk and return, portfolio managers can incorporate best execution analysis in their portfolio construction to maximize the expected net return. An active manager can rebalance an enhanced index fund to achieve higher relative return within the risk target by generating a cost-effective trade list executed over an optimal trading horizon.
"The lack of alignment between the investment decision and the trading decision in the financial services business is still a mystery," says Laurie Berke, principal at New York research firm TABB Group. "Huge problems are created when the inputs to the investment decision don't make it to the trading desk. There is a dire need in our marketplace for a better way for these two partners in the alpha generation process to coordinate their effort."
Currently portfolio construction and trading strategy are separate activities. Portfolio managers first build the final portfolio and send the trade list to the trading desk to be filled. The traders will typically seek to complete the trade at a price that favorably measures their own performance. More often than not they will be happy merely beating the volume weighted average price benchmark which may turn out to be a fit for some investment strategies but not others. Without knowing alpha factors, traders are working in the blind.
Once the transaction cost and risk is estimated by the trading desk running its best execution analysis, the expected cost is then subtracted from the gross return to reflect the net -- or absolute return of the investment plan.
The one-step investing and trading approach used by Investment Optimizer runs on a high performance optimization engine from Lindo Systems. Investment Optimizer incorporates asset return, asset risk, market impact, timing risk and short term alpha and then decides the final portfolio allocation, the trade list and optimal trading strategy. The portfolio manager inputs asset return, asset risk and short term alpha if it carries information such as earnings. Then the trader inputs market impact, timing risk and short-term alpha.
"Trading strategies are not always an accurate extension of investment decisions," says Tony Gau, chief executive of TG Optima based in Great Neck, New York. "Investment Optimizer bridges those gaps and gives institutional investors the tools they need to implement investment strategies more efficiently."
Gau, a former vice president of Citigroup Global Markets founded TG Optima in 2009. The firm is self-funded and has also received capital from private investors.
Gau said that Investment Optimizer supplements existing order management systems and portfolio analytics systems and is adaptable to pre-trade transaction cost analysis and risk models used today. Pre-trade transaction cost analysis offered by brokers and third-party vendors gives traders an analytical tool to estimate the expected cost of trading based on historical transaction data and predicted market conditions.
Investment Optimizer can be purchased and provided by a sell-side broker to its buy-side clients as a service through a soft-dollar arrangement. In this instance, the sell-side broker can load its pre-trade transaction cost analysis data into the system and the portfolio manager can incorporate their inputs to generate the optimal final portfolio and trade list.
