Explain how it can be possible for a portfolio manager to outperform a benchmark but still fail to meet the investment objective of a client

What will be an ideal response?

An index or benchmark may produce low or even negative returns over a period of time. Thus, even if a manager outperforms the benchmark, the objectives of a particular fund (such as meeting required liabilities) may not be met. As discussed below, there are ways managers can overcome this problem.

Portfolio strategies can be classified as either active strategies or passive strategies. Passive strategies involve minimal expectational input. One popular type of passive strategy is indexing, whose objective is to replicate the performance of a predetermined index or benchmark.

Although indexing may be a reasonable strategy for an institution that does not have a future liability stream to be satisfied, consider the circumstances in which pension funds operate. If
a pension fund indexes its portfolio, the fund's return will be roughly the same as the index return. Yet the index may not provide a return that is sufficient to satisfy the fund's obligations. Consequently, for some institutions, such as pension funds and life insurance companies, structured portfolio strategies such as immunization or dedication may be more appropriate to achieve investment objectives. Within the context of these strategies, an active or enhanced return strategy may be followed.