Understandable Artificial Intelligence

A.I. In Action:

A Tax Sensitivity Example

Sample Investment Goals

For this example we use the following assumptions and goals:

Our A.I. evaluated a universe of 2,743 funds

We highlight the Risk/Return trade-off with a focus on Mixed Allocation
- The average Mixed Allocation fund expects a 6.1% return with 13.8% SD

There is a negative relationship between income and growth
- The average Mixed Allocation fund has a slight value tilt and ~1% dividend

There is a strong relationship between yield from offshore bonds and tax
- The average Mixed Allocation fund enjoys a benefit of only 25bps from offshore bonds and a tax drag of close to 1%

We focus on 12 metrics in our base case

EDS base portfolio easily outperforms
Metrics of interest
- Each of these metrics is likely to be an important trade-off
- We will highlight each and show how different preferences can be implemented

We can break down portfolio decisions by any metric/group

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Using our example goals we have set out a neutral 'base' portfolio

We compare that to the average mixed allocation fund

Detailed and flexible inputs
- The inputs are a result of our machine learning process
- Can flexibly include any inputs you prefer
Traditional foundations: Return and Standard Deviation
- Return needs and risk tolerances will be specific to the investor
- In this example, we have improved both metrics and so will use these preferences going forward
Our first trade-off: The Sharpe Ratio
- This is a traditional metric which measures how much return expectation the investor gets per unit of uncertainty they accept
- This type of trade-off process is the same intuition we use across all metrics

Building on traditional foundations we use the same trade-off methodology across all investor preferences to 'get the most' from each

Offshore Bonds
- 5% of the original investment can be taken without tax implications
Capital Gains vs. Investment Income
- Which type is more efficient will heavily depend on circumstance
- For this example, we assume both income and capital growth are priorities
Importance of turnover
- Turnover causes gains to be realised and taxable
- High turnover and some vehicles (mutual funds) can lead to unexpected gains
Tax loss harvesting
- When investments realise losses, they can be used to offset gains
- This is a valuable tax efficient strategy
- Tax loss harvesting can be carried out through a separately managed account (SMA) or within your own investment strategy

High Income and High Growth

Exploring trade-offs allows us to express individual preferences

A High Income Preference
- We can customize preferences to meet client needs
Find the most efficient 'costs' to gain income
- In this example we gain 1.2% in dividend yield
- The 'costs' we incurred to achieve these are the mathematically defined minimum