8 | Envestnet | PMC Investment Methodology Guide FOR ONE-ON-ONE USE WITH A CLIENT'S FINANCIAL ADVISOR ONLY
fixed income level.
Each diversifying asset class rolls up
either to fixed income or to equity,
so we can combine any risk level and
asset class to manage risk and reduce
the number/complexity of asset
classes.
Asset Class Portfolios
PMC's asset allocation methodology
is the basis for our series of risk-based
ACPs at various domestic equity
tiers and diversifying asset class
combinations. Five- and seven-point
series are available, and may either
include or exclude alternative strategy
allocations.
PMC calculates pre- and after-tax
CMAs ACPs and ALPs. The after-tax
CMAs calculation forecasts the total
pretax return and its dividend yield/
coupon and capital gains components.
This ensures the correct tax rates are
applied to each component, which
affects not only the after-tax expected
return but also each asset class's
volatility. We use the asset class return
and volatility as inputs to construct
our after-tax ACPs. Although the
methodology is similar to that used
for our pre-tax ACPs, after-tax ACPs
favor tax-efficient asset classes, such
as various duration municipals and
equities, in which a large proportion of
the overall pre-tax return comes from
capital gains.
Our ACPs construction process also
offers wide flexibility for users and
clients to construct their own custom
ACPs. It accommodates numerous
domestic equity tiers, diversifying
asset classes, and different equity-
to-fixed-income risk levels, offering
thousands of different ACPs, based on
the user's or client's preferences.
Portfolio Risk Scoring
Methodology
The Envestnet platform's risk scoring
methodology defines the relative risk
of a portfolio. It also assists advisors
and clients in constructing suitable
portfolios based on client-specific
investment objectives.
The key components of the process
include:
• PMC's CMAs
• Asset class assignments
• Portfolio standard deviation
• Risk scales and scoring
• Client risk profile
We categorize all securities (and
some investment strategies) on the
Envestnet platform as one of 46
currently supported asset classes for
which CMAs have been developed.
To calculate the risk score of a given
portfolio consisting of individual
securities or investment strategies
defined by a single style, the key
objective is to compute the portfolio's
projected standard deviation based
upon PMC's CMA for each component.
We compute the portfolio's standard
deviation based on the standard
deviation and correlation assumptions
for the asset classes. SMAs, mutual
funds, ETFs, equities, and bonds are
considered as portraying an asset class
exposure, and thus are mapped (as
described earlier) into one of the asset
classes in PMC's CMA process.
Balanced mutual funds, balanced
SMAs, and strategist portfolios receive
specialized treatment. For balanced
mutual funds, the system breaks each
down into a style allocation based on
Morningstar's most recent underlying
asset allocation of the fund's holdings.
For a balanced SMA, the system
analyzes the actual current positions of
the SMA model.
Strategist portfolios are evaluated and
assigned a risk category (Conservative,
Moderate, Growth, etc.) according
to a methodology that considers
the flexibility of the strategy's asset
allocation and investment approach.
For strategist portfolios categorized
as "Strategic," PMC calculates the
risk score based on the strategy's
most aggressive policy allocation.
For portfolio solutions that follow
a more flexible asset allocation
approach, PMC has developed a
weighted, multifactor methodology—a
mix of quantitative and qualitative
assessments of the strategy's
objectives, policy constraints, historical
returns, and historical holdings.
CONSERVATIVE AGGRESSIVE
Five-Point Risk Scale
Capital Preservation
Conservative
Moderate
Growth
Aggressive Growth
Seven-Point Risk Scale
Capital Preservation
Conservative
Conservative Growth
Moderate
Moderate Growth
Growth
Aggressive Growth
Capital Markets
Assumptions
2017
Asset Class
Portfolio Update
2017
Capital
Markets
Assumptions
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Asset
Class
Portfolios
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