Best Investment and Management Strategies for Nelly Capital - Case Study Example

A Report on the Best Investment and Management Strategies for Nelly Capital Introduction Investment companies playa significant role in the economy since they offer opportunities for individuals to save and invest in various asset classes such as equities (shares), bonds, property or even cash. Nelly Capital is a prominent UK fund that provides and investment vehicle for individuals to invest and achieve their educational objectives, for example paying university fees. The report details the current issues in the investment environment such as competition from the mutual funds and depository institutions. Owing to the fact that Nelly Capital is predicted to experience more outflows of funds than inflows starting from June 2015, the report discusses the various strategic asset allocations that can ensure business continuity in the future. The report also explains the recommended management styles in consideration of the benefits and risks of active and passive management approaches to investment management. Current Investment Environment Nelly Capital is experiencing stiff competition from the mutual funds and depository institutions around UK and abroad in attracting funds from the contributors. The UK fund that is only meant for educational purposes has charitable and helpful fund status, unlike other investment funds, which their central aim is to make profits. The aspect of charitable fund status makes Nelly Capital vulnerable to low inflows because most investors would like fast moving and changing investment portfolios. In addition, Nelly Capital has operated for only four years beginning in June 2011 and thus it has not reached out to many investors as the other old investment companies of UK. Commercial banks, for example, usually allocate higher percentages of capital to short term instruments such as cash and bank notes. Nelly Capital, which has low percentages of cash, would therefore have low inflow of funds from investors than the commercial banks. Based on the forecasts and statistical analysis, Nelly Capital might experience more outflows of funds than inflows starting from June 2015. This trend is expected to last for the subsequent five years at an average rate of 6 per cent per annum. The 6 per cent rate is assumed to have been calculated as (cash outflows during one year – cash inflows in the same year) / total assets as at 1/1/2015. The alarming situation currently experienced by Nelly Capital managers is characterised by fear with most of them thinking that the set period of four years was too short to fetch money for their company. It, therefore, means that the managers might not allocate the contributors’ funds to various assets because they fear to make losses. Most contributors would not invest with Nelly Capital if they heard that the company will perform poorly starting from June 2015. The managers should also be aware of the investment risks associated with buying corporate or government bonds because the returns might not be sufficient to repay the contributors’ funds. Additionally, there is fear that most of the investors might withdraw their funds from Nelly Capital since this UK fund is only meant for educational purposes. Thus, the company might not have adequate funds to buy assets starting from June 2015. It is important to consider the anxiety of the management in formulating the strategic plans for the Fund in the future. Factors Considered in Strategic Asset Allocation It is important to consider the asset classes available in Nelly Capital even before recommending the actions to be taken to counter the predicted failure of this UK fund. As of 1st January 2015, Nelly Capital held fifty million assets. The fund has allocated the funds contributed by the investors to different asset classes, which may include domestic and overseas equities, UK corporate and government bonds, European government bonds and cash. Equities are potential for growth in capital and thus many contributors would prefer them because they can get income in form of dividends (Easley, Lopez de Prado and O’Hara 2011, p. 120). In UK today, equities are suitable for medium and long term investors, that is, five years or more. The corporate bonds are bought from corporations and are suitable for short, medium and long term investors. The government bonds are considered to have low investment risk and hence Nelly Capital should consider investing in them. Cash is mainly suitable for short-term investors (less than 5 years). The actions to be taken by Nelly Capital managers should consider the aspect of contributors’ investment goals and their attitudes to risk. As indicated earlier, the investors of this UK fund contribute funds exclusively meant for educational purposes. Hence, there is a greater likelihood for increased money withdrawals that the inflows (Sharpe 2010, p. 52). Once the period of four years expires, the contributors may come for their funds in large numbers. This aspect of contributors’ investment goals should be critically considered in decision making and formulation of investment strategies for the fund. Some contributors might fear to lose their funds and thus withdraw funds more than they invest. Additionally, the fact that Nelly Capital’s outflows are expected to exceed the inflows starting from June 2015 might scare away investors who were willing to contribute their funds. As a result, the company might be operating on a deficit of funds. Usually, the contributors set their time frames in which they can withdraw funds from the investment companies. The Nelly Capital’s committee should consider the aspect of time frames set by the contributors. Most investors, in this case, would withdraw funds after the period of four years expires to pay the school fees. Thus, there is a likelihood that money withdrawals will not match with the contributions at all times and hence the committee should decide on the most effective strategies that can mitigate this risk. The most appropriate investment strategy for Nelly Capital would involve encouraging the public to invest funds with them in order to strike a balance between the inflows and the ever increasing outflows as it is predicted (Sharpe 2010, p. 53). On another different note, the committee should consider the correlational nature of different asset classes. Nelly Capital has three distinct asset classes, which include bonds, equities and cash. The most effective strategy would involve allocate the investors’ funds into asset classes that are not correlated to each other. In this way, the fund can reduce the risks of the money invested by the public with the institution. The different asset classes adopted by Nelly Capital operate independently. Thus, it means that when one asset class goes up another class might go down. The opposite of this statement is also true. The idea behind the correlational nature of asset classes is that the Fund should ensure that the contributors’ are not allocated to classes that rises or falls together. In other words, the managers should learn how to diversify by ensuring the money invested in their companies do not lose value (Ilmanen and Kizer 2012, p. 347). The asset allocation ranges should be calculated in such a way that they consider the contributors and the Fund’s time frames altogether. In this way, a UK fund like Nelly capital can yield good results while maintaining high inflows than outflows. As discussed earlier, contributors investing with Nelly Capital would most likely set their time frames as per the set period of four years. In UK, investments made for less than five years are considered to be short term range investments (Bodie and Kane 2010, p. 100). It, therefore, means that Nelly Capital should allocate the money contributed by the investors to short-term and medium asset classes. Long term asset classes might such as equities and bonds might not solve the money crisis that usually occurs in the short-term range. Therefore, Nelly Capital should ensure that the coupons received from the bonds are made frequently in order to supplement the shortages of funds predicted to occur starting from June 2015. Other than the time frames of the Fund and contributors, it is also important to consider the nature of the bonds and stocks market. Note that the market indices in these markets keep on changing over time due to inflation and dissolution of some corporations (Milevsky and Young 2007, p. 3152). Thus, the securities and bonds markets usually undergo high and low seasons. The committee should formulate strategies that link the time frames of the investors, the Fund, as well as, the bonds and securities market. In this way, they can ensure that they can increase the certainty of rates of returns from bonds and shares, as well as, the balanced state of funds inflows and outflows from the institution. However, this integrated fashion of managing funds has proven to be difficult for most managers in the past. The active management approach is seen as the best solutions to keep Nelly Capital updated with the securities manage and ensure the efficient management of public funds. Active versus Passive Management The central aim of managing funds using the active investment approach is to beat the particular market indices or achieve certain investment objectives. This approach calls for fund managers who can analyse the markets using their skills and knowledge and ensure the invested funds are trading well in these market. Active management creates the opportunity to outperform the market, gives research-based market insights and acts as defensive measures from the low value asset classes, regions and economy sectors. However, there is no guarantee that the active fund managers will pick the winning types of assets or regions. In addition these managers charge relatively higher fees from the investment institutions (Grinold and Kahn 2000, p. 109). Passive management approach is the opposite of active management whereby the market trends are believed to be true and thus there is no need to follow up with the specific companies. The central aim, in this case, is to match a specific investment index, rather than trying to beat it. The most obvious advantages of passive management approach include spreading of risks, low costs and simplicity (Grinold and Kahn 2000, p. 111). However, passive fund managers might risk the institutional funds since they cover the entire market or sector such that a fall in the stocks or bonds market would mean to collapse of the institution. Passive fund managers are restrained from moving out of the shares market and hence they cannot use defensive measures to protect the investment company’s funds (Brown and Reilly 2011, p. 134). Recommended Investment Strategies and Management Styles for Nelly Capital The committee should use the asset based approach in allocating funds contributed by the public to the various classes. Nelly Capital should create three different investment portfolios for the investors. The portfolio types may include conservative, moderate and adventurous portfolios. The conservative portfolio will suit those who are willing to invest for a short time and have low risk tolerances since they have small proportions of stocks (equities). Contributors who have medium time frames to invest or have average risk tolerance can invest their money in the moderate portfolio. The adventurous portfolios requires high proportions of equities and are only suitable for investors with long term investment time periods and can tolerate high risks. Offering these portfolios would attract different types of investors with different risk tolerance and time frames (Reichenstein 2001, p. 21). Another strategy would involve allocating assets to contributors based on their risk profiles. Although it might be hard to gather information from the contributors about their ability to bear risks, it is important to consider this in formulating an investment strategy. Contributors who would come for their funds immediately after the set period of four years expires would be allocated to short term asset classes such as cash and other short-term instruments. The funds of those contributors with high risk tolerances should be invested in long-term asset classes such as bonds and equities. Similarly, Nelly capital should buy bonds and shares from companies with high levels of creditworthiness. The committee should also consider buying UK government bonds (gilts) since they have reliable and constant rates of returns in form of coupons (Fabozzi and Markowitz 2011, p. 290). The asset allocation strategies should consider the time aspect because the securities and bonds market keeps on changing (Maginn 2007, p. 324). Nelly Capital Manager should regularly review the market status and take necessary actions that increase the profitability of the money invested by contributors. It is also important to rebalance the asset allocation needs when the market movements change over time (O’Brien 2006, p. 64). The most effective strategy should ensure the spreading of risks to many regions, sectors and types of assets. Nelly capital should attract new contributors by allocating funds to various types of shares. For example, income shares are perceived as those stocks undervalued in the market, but, have high potential gains in the future (El-Erian 2010, p. 5). Unlike growth shares, which are mainly by short-term shareholders, income shares would be better for most contributors since they rely on the market changes. The UK Fund can diversify their investments by allocating assets to different sectors of the economy. For example, the assets of Nelly Capital should be spread across various sectors such as property, mining and pharmaceuticals. In this way, the Fund will protect funds from risks of some sectors underperforming. Hence, the rate of returns will not go low despite the forecasted decrease in inflows. These managers can as well diversify the capital across different regions. For example, the overseas equities adopted by Nelly Capital reduce the risk of the local stocks market collapsing or underperforming. However, the diversification of assets in different sectors and regions brings forth the idea of active and passive management styles. Both management styles are necessary for Nelly Capital in the future (Acharya et al. 2013, p. 369). As discussed earlier, active management revolves around the idea of beating the market indices while passive investment approach involves matching with the specific market indices. Nelly capital should employ passive fund managers who will diversify and increase the types of portfolio for the investors. In this way, they will provide more opportunities for contributors such as providing short-term, medium and long term investment portfolios (Carpenter and Guariglia 2008, p. 1901). As a result, more investors will invest with Nelly Capital and hence increasing the inflows than outflows. Additionally, should apply the passive management approach to cut the charges and ensure broad spread of its risks in the bonds or stocks market. Nelly Capital should also employ active fund managers who would help in identifying the most secure companies in the market that the fund can invest with. For example, active managers can research about the creditworthiness of particular corporations even before Nelly Capital buys corporate bonds from these companies. Additionally, in the event of international investments in equities, the active managers can warn the fund from the currency variations in the overseas markets (Zagorchev, Vasconcellos and Bae 2011, p. 749). In other words, active managers will provide defensive measures that protects Nelly Capital fund from loss in value. Conclusion The report on the best investment strategies and management styles have considered various issues including the current investment environment, asset classes’ characteristics, investors’ goals and time frames, as well as, the correlational nature of asset classes. The current investment environment for Nelly Capital is characterized by competition from other investment companies and fears that outflows might exceed inflows by June 2015. In consideration of this environment, the most effective investment strategies would involve allocating assets based on the investors’ risk profiles, providing different types of investment portfolios, diversifying investments across different regions and sectors of the economy. The most effective management style that would ensure the implementation of these strategies would incorporate both active and passive management aspects. 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