Charles D. “Charley” Ellis is a consultant to large institutional investors and governments. For thirty years he was managing partner of Greenwich Associates, an international business strategy consulting firm he founded that serves virtually all the leading financial service organizations around the world. Mr. Ellis earned his BA at Yale and his M.B.A. (with distinction) from Harvard and his Ph.D. from New York University. He has taught investment management courses at Harvard and Yale, is the author of 14 books, mostly on investing, and has written nearly 100 articles for business and professional magazines.  He currently serves on the investment committees of Yale University and the Robert Wood Johnson Foundation, chairs the Whitehead Institute and is a director of Vanguard.

We interviewed Mr. Ellis on May 9, 2008.

One of the fundamental concepts you advocate is that asset allocation is the area where advisors can add the most value, both at the asset class level and within equities (by style box).  Given your 30+ years of experience in the investment industry, how have your views on this issue evolved over time? 

Adding value through asset allocation at the asset class level is much more important.  My views on this have become clearer and stronger over time.  I have not found anyone who has come to a different conclusion.  Picking stocks looks easy.  It can be exciting and, as human beings, we all believe we can do this.  Only after many failures do we discover how really hard it is.  Many truly brilliant people are competing with active investors.  The strongest minds I know are among those in the business of actively managing money, and I believe that, in the long run, they will dominate the competition for finding alpha.

Occasionally, such as at the end of the millennium, some crazy thinking can permeate the markets and create inefficiencies.  But most of the time the markets, and the thinking of these brilliant people, get it right – meaning that securities are fairly valued.

Given that asset allocation is a critical, if not the most critical, determinant of investment performance, what specific steps do you recommend for advisors (those serving HNW and UHNW clients) when determining asset allocations for clients?

The common adage in business is to “know your customer.”  But for advisors, I modify this to “know your client.”  A customer is someone with whom you have a short term transactional relationship.  Clients are served for a long time.  The relationship is very different.  Advisors have a long term commitment to their clients.  The key for advisors is to subordinate their own interests to those of their clients, and to focus on really caring for them.  This advice manifests itself in two ways.

First, there is no single asset allocation that is right for everyone.  Asset allocation can be made truly appropriate only at an individual client level, based on their emotional makeup.  Advisors need to understand their clients’ strengths and weaknesses, not just their financial circumstances.  It is clients’ emotions and lack of experience that get them into trouble.  That’s why they want advisors they can trust.

Second, advisors need to ask what their clients are capable of living with and living through.  What do they really know about their own situation and about the market?  Because, if clients don’t understand the market, they will misinterpret signals and, combined with hair trigger emotions, they will make bad decisions.  Advisors will then spend their time hand holding, rather than in more productive areas of their practices.

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