Scientific Advisors uses a four step investment management process. First we identify a core allocation based on a client’s risk tolerance. Then we apply allocation tilts based on our quantitative research across asset class groupings. Next, we construct a model portfolio with 20-30 different investments. Finally, we implement a portfolio that is tailored to the client’s constraints, restrictions and stated investment policy.

Core Allocation

A core asset allocation traditionally consists of three assets; stocks, bonds and cash and their associated weights in, or percentage of, a portfolio. For example, 60% stocks, 30% bonds and 10% cash, might be one core allocation recommended for an investor.

Scientific Advisors further divides the core allocation several ways.

• add Alternative Assets as a core asset class
• consider US, International, and Emerging market equities as separate asset classes
• consider Sovereign and Corporate as separate fixed income asset classes

We believe that this view of core allocation gives us greater control over taking portfolio risks. An example of our core allocation might be:

• 40% US equities
• 10% International equities
• 10% Emerging equities
• 10% Sovereign debt
• 15% US fixed income
• 5% Real Estate
• 5% Arbitrage
• 5% Cash

In each of the equity markets, we define style (growth-value) and size (large-small) asset groups. In fixed income investments, for each major market, we allow quality and duration characteristics to define other asset groups. We use more than 10 alternative asset groupings and actively research new alternative assets. We use these asset groups when tilting the asset allocations based on our quantitative model. See the section below on Allocation Tilts for a complete discussion.

Risk Profile

The weights used in a core asset allocation vary from investor to investor. For example, an aggressive, older, experienced, wealthy investor has a different risk profile (and different core allocation weights) than someone just starting to accumulate wealth. The difference between the two investors is in their risk profile.

We use a series of questions to quantify a client’s risk tolerance, see the account setup page. Your total wealth determines the set of suitable investments; ETFs and Mutual Funds are appropriate for all investors, while hedge funds and private placements are not. The amount you decide to invest determines how many investments are purchased for your account. Generally, portfolios with less than $50,000 need to carefully consider the total number of investments and the expected portfolio turnover before investing. Your income to expense ratio helps determines how much risk you can take; many investors have an income to expense ratio of 1, in other words most people have expenses that equal their incomes. Your stated risk tolerance and investment horizon round out the risk profile.

Your risk profile determines which mix of stocks, bonds and cash are most appropriate for you. In portfolio theory, your risk tolerance determines the portfolio and expected rate of return. Most firms stop here and create a portfolio based simply on your risk tolerance without considering ways to generate higher returns. At Scientific Advisors, we tilt the core allocation towards pockets of the markets that appear set to out-perform the core investment.

We provide four, model portfolios that cover the four traditional risk profiles of Income, Conservative, Growth and Aggressive investors. Check out the risk profiles for each of these model investors on the account page.

Allocation Tilts

We divide the entire world’s equities, bonds, commodities and alternative investments into about 70 different asset groups. Underlying these different groups is virtually every public investment available, ranging from Chinese cement manufacturers to High Yielding corporate debt to Precious Metals to US commercial real estate. We also include other, alternative asset classes such as convertible bond arbitrage, merger arbitrage and energy investments. Our asset groupings encompass over 10,000 publicly traded investments.

We use a three component quantitative model, each component comprised of different factors for excess return, that identify which of our asset groupings are under-valued relative to their own history as well as to each other asset group (when appropriate!). The models cover technical, valuation and macro-economic factors with a one to two year holding period.

Generally, depending on the amount invested in a portfolio, we employ 8-12 tilts away from the core allocation.

Model Portfolio

Applying the allocation tilts to the core allocation produces a portfolio with 20-30 different investments. Over time, the allocation tilts are adjusted depending on changing economic, market and political events. Our quantitative models pick up on these changes and allocation weights and asset group tilts adjust over time. This is the Dynamic nature in our approach to asset allocation.

Check out the allocations for our model portfolios, or create one yourself!

Implementation

Until now, we produced an asset allocation in a vacuum. Real portfolios are constrained by many different restrictions:

• Available and suitable investments
• Amount invested, portfolio size
• Legacy holdings
• Multiple portfolios, some tax advantaged

to name but a few. Since all of our returns are expected from the asset allocation and tilts chosen, we are not constrained by available investments. For example, our model portfolios are implemented using Exchange Traded Funds. However, our returns are similar when implemented using Mutual Funds.

Smaller investments, those under $20,000, generally rely on mutual funds to lower the impact of implementation costs, see the discussion of trading about how this can be handled efficiently in a separately managed account setting.

The major constraint of implementation is trading costs. Our Dynamic Asset Allocation portfolios are low turnover portfolios, experiencing 10-15% portfolio turnover, trading about 4 times per year. We keep our turnover low because our core allocations represent the largest portion of the portfolio and these positions change only very slowly.

Intelligent portfolio management design, low turnover, liquid, market instruments, institutional quality trading and accommodative asset selection allows us to implement your portfolio at a fraction of the cost.