Source: https://www.fa-mag.com/news/leveraging-technology-to-ensure-compliance-and-manage-risk-in-a-volatile-market-70715.html
Yon Perullo is the CEO of RiXtrema, a software solutions provider and risk management firm headquartered in New York City. Prior to joining the company, Perullo held several institutional asset management roles, including Chief Risk Officer for Fiduciary Research, an outsourced CIO overseeing $10 billion in defined benefit assets, and as Chief Investment Strategist for Tresalia Asset Management, a multi-billion dollar Mexico City-based family office.
Russ Alan Prince: Can you talk a little bit about RiXtrema as a company and the services it provides?
Yon Perullo: RiXtrema’s original software was a portfolio risk management system focused on stress testing. We offer a multi-asset risk management platform—equities and bonds as well as options, futures, swaps, swaptions, and any other kind of derivative instrument. Our clients are endowments, foundations, hedge funds, and many others. Eventually, we realized that the RIA side of things was missing a sophisticated, robust toolset for advisors to use when managing the risks of their clients’ portfolios, so we released our Portfolio Crash Testing platform which uses the same engine as the institutional product, but in a streamlined package.
Later, we got into 401(k) prospecting. Our first product, the 401(k) Fiduciary Optimizer, used machine learning algorithms to read the auditor’s notes from the Form 5500 filings, and map holdings to the correct tickers to create a plan lineup. From there, we could design a menu offering more cost-effective, better-performing alternatives for that plan. That eventually grew into our Larkspur Executive toolkit with embedded marketing capabilities, as well as nearly four million plan executive contacts.
We wanted to give the user an advantage when prospecting and growing their plan business, and we had to go far beyond parsing out 5500 data. So those are our main two silos: the Portfolio Crash Testing and the Larkspur Executive toolkit. From here, we created our compliance package which helps conform to Reg BI and DOL PTE 2020-02 regulations. Because we have information about all 401(k) plans and we have the tools to ensure appropriate risk analysis of a client’s situation, we have the key pieces of Reg BI compliance.
Prince: Given the current market environment, what is the most important thing financial advisors should know about risk? Likewise, what should they be communicating to their clients? Perullo: Risk isn’t static—it’s not the same through time. You can’t just look back at 2008 or the tech market crash and apply that to the next crisis. Risk is always changing, relationships between assets change, and relationships between asset classes change, and you must be paying attention to what’s happening in a particular scenario to properly prepare. What do you expect to happen in the future? That’s not to say you throw out history but learn from it.
I believe the most effective way to understand portfolio risk is by exploring “what if?” scenarios. You can always do a statistical distribution of likely outcomes from a series of assets, like a VaR analysis but that doesn’t give you information about why an outcome may come to pass. And it doesn’t work when the volatility profile of a current environment is drastically different from the previous environment. You can have two portfolios with similar allocations and similar VaR metrics that would perform very differently in a crisis. So, to understand how a client’s portfolio might perform in different environments, you need to look at several scenarios.
With that in mind, we recommend that financial advisors have a game plan considering a range of possibilities. The Fed has economic forecasts that they release every year detailing severe scenarios, and advisors ought to be exploring the same territory. Looking at what happens in these different scenarios regardless of whether the market is up or down and giving your client a picture of possible outcomes for their portfolio is a valuable exercise.
Prince: Are there any areas that you think advisors frequently overlook when assessing risk in a portfolio?
Perullo: What’s really overlooked when assessing risk is that no two crises are the same. It may not be overlooked so much as it’s underappreciated. For example, in most of the previous economic crises we’ve seen, bond prices while equities go down. Well, in the current market environment, we’re seeing bonds fall with equities. This means that the stock/bond diversification we have seen historically is failing. Conventional wisdom holds that the past is a prelude to the future—and oftentimes it can be—but you really have to look at where you are in the current environment and understand what the possibilities are going forward, not just make the assumption that assets are going to look or work exactly the same way as they have in the past.
RUSS ALAN PRINCE is the Executive Director of Private Wealth magazine (pw-mag.com) and Chief Content Officer for High-Net-Worth Genius (hnwgenius.com). He consults with family offices, the wealthy, fast-tracking entrepreneurs, and select professionals.
