The Research Protocol in Today’s Investment Management Companies


Ask any investment management firm what makes them an institutional quality firm and they will respond with a series of factors.  Their list will include, among other things, items such as a robust investment approach, dedication to client service, culture and management team strength.  All of these items are critical identifiers of true institutional quality firms.  Significantly, an institutional quality investment management firm must not only exhibit strengths in all of these factors but also be capable of proving that strength. 

An essential component of a firm’s robust investment process is the strength of their investment research.  Investment research underpins a firm’s investment approach and ultimately their performance.  The existence of a strong investment research process is a necessary component for any investment management company to be viewed as institutional quality.  Indeed, the best firms are able to prove their strength by documenting their investment research process.  Such a document, usually called an investment research protocol, outlines how research is conducted, by whom and how information is utilized to make investment research recommendations.  Also identified are the controls in place to ensure the firm’s research process is rigorously maintained.  

An investment research protocol presents the firm’s investment research foundation, regardless of the firm’s approach, fundamental or quantitative.  Every investment approach is dependent on investment research as the key to security selection and portfolio construction.  For example, a fundamental firm identifies what fundamental facts are important and can illustrate how they ensure those facts are present in their investment decisions.  Quantitative firms describe their portfolio construction rules and the underpinning for those rules.   A technical firm describes and demonstrates the effectiveness of their buy and sell triggers.  For each type of firm, a documented investment research protocol is possible.

An investment research protocol provides benefits to both the investment management company and to their clients.  The client benefits in several ways.  First, the client has a document describing the role and the uniqueness of their investment manager's research.  In short, the research protocol aids in a client being able to understand how their money is being managed. Second, prior to hiring, the client can assess the potential benefit of the investment management company’s research and ensure it is aligned with their beliefs.  When the firm is successful, the client will understand why and similarly the client will know what wasn’t working if the firm has failed to live up to expectations.  Finally, the existence of a research protocol improves the client’s ability to conduct manager due diligence and monitoring responsibilities, effectively promoting client satisfaction.   

Investment companies also benefit in many ways.  First, writing down their investment decision making process facilitates being able to describe their process precisely and succinctly.  Second, the investment company demonstrates that their decisions are consistent with their research.  Further, they can demonstrate the value added by their investment research and identify when it works (or doesn’t).  Finally, the investment company benefits as they can use the protocol to teach their approach to new employees and ensure all employees are following the house rules.

The most frequently quoted downside to a documented research protocol is that creative juices may be stifled.  The argument states that if the process is written down then challenges to the process are denied.  This does not have to be the case.  In fact, a carefully crafted research protocol encourages and promotes challenges to the existing process by specifically encouraging the option to re-think the research process (start from scratch) or to introduce another element, effectively enabling creative thinking.  It should also enforce a restructuring if the existing investment research protocol is not providing the benefits outlined here.

A research protocol can take many different forms.  Critically, it must be written down but beyond that the precise format is open.  One should, in fact, expect the protocol for a quantitative firm to be different from a fundamental firm’s research protocol.  Not so open, however, is the content that needs to be addressed if the research protocol is to be a success.   A strong research protocol needs to include:

  • the firm’s research philosophy,
  • the actual research process currently in place,
  • who is responsible for conducting the research,
  • who is responsible for enforcing and executing the research protocol,
  • when and why the research process is reviewed and what the review entails,
  • the documented history of changes to the research process, research protocol and investment strategy.

The research protocol needs to be all encompassing and not focus exclusively on the security selection process.  A strong research protocol addresses research regarding portfolio construction, trade management, and current market issues, among other things.

At 18 Asset Management (18 AM) and at my previous firm, I have always insisted on a strong research protocol.  I have been able to witness the benefits from that insistence.  Our current research protocol at 18 AM contains four distinct phases.  They are:

1. Research Philosophy

The key philosophical belief that underpins an investment management firm’s approach to the marketplace should be the main driver behind the one that underpins the firm’s research.  For example, if a quantitative asset manager believes in a systematic or scientific approach to the marketplace it should not be a surprise when the research protocol also identifies a systematic or scientific approach to research.  Indeed without consistency between the investment process and the research protocol the firm will likely encounter challenges generating a strong record.  The research protocol should specifically identify the firm’s investment approach and demonstrate how the firm’s research is supported by that.  Research philosophies vary by type of firm.  For a systematic firm like 18 AM the research philosophy covers our belief that balance sheet and income statement items are critical factors in future price behaviour.  We also believe that the search for effective factors starts with a hypothesis rather than simply mining history to see which factors have worked.  At 18 AM, all our factors must have passed pre-specified outcomes before the data testing begins.  

Imperatively, the research philosophy touches on research as being ever-evolving.  At 18 AM, we are committed to continuous improvement and we innovate for the benefit of our clients.   Our Research Protocol is written to ensure that we abide by this commitment and provide our clients with the ability to verify our statements.

2. Research Process

A research protocol describes the research process the investment firm utilizes.  This section identifies the research leader as well as the resources the leader has at his/her disposal.  If there is a team of researchers, the protocol identifies who initiates the research, who decides the research priority, the function performed by the researcher and the role played by the CIO.

A strong protocol exactly identifies the steps to be undertaken and the process for doing so.  For example, a fundamental research team should set a goal to research every company within a specified timeframe.  Each fundamental review should contain, at a minimum, the same predefined analysis in order to facilitate a comparison between companies by different researchers.  The research protocol specifies the evaluation criteria and the weight applied to the evaluation criteria.  By doing so, the fundamental company positions themselves to reap the benefits outlined above.  Strong research protocols describe what will trigger a research event.  The trigger may be automated or it may be the result of a management decision.  Regardless, the trigger for a research review should be easily understood and identifiable.

3. Performance Monitoring

Tracking the results of the firm’s research efforts is the most important method an investment firm has to demonstrate the success of their research. Typically the best measure of performance is return or risk adjusted return.   Firms that utilize research to select securities or construct portfolios should be able to calculate their value added.  

A quantitative firm can track the results of specific factors or models through portfolio contribution and attribution analysis.  Firms thus have the ability to demonstrate the effectiveness of their investment research in portfolio performance terms.

Technical and fundamental firms also have the ability to track the efficacy of their research teams and ideas.  Tracking the performance of a company from the date of the initial buy recommendation through to the sell recommendation and comparing that to the overall market performance is a simple matter.  However, this information can be easily misinterpreted.  Not every investment idea works out.  In fact, a firm is likely to do well if just 55% of their investment ideas pan out.  Firms that make recommendations on individual securities will show relative losses on a large number of those recommendations.  It is much better and fairer for all if the firm reports a cumulative return based on all their recommendations over a specific period.  

There are many ways available for investment companies to demonstrate the value added by their research.  A research protocol provides the opportunity to define evaluation criteria upfront and ensure their continuous use as a consistent measuring stick.  Committing to a measurement methodology upfront eliminates the possibility of the firm cherry-picking the most favourable evaluation methodology for each situation.

4. Approval and Record Keeping

A robust Research Protocol documents the approval and record keeping of the firm’s research decisions.  The approval involves the highest ranking authorities of the firm.  Indeed, a superior process involves the CIO and frequently the CEO because of the important value added generated by the research process.  Keeping strong records and documenting all work and changes in the research philosophy, process or results can only serve as a positive for both clients and the investment manager.


Most investment management firms say research and people are responsible for their results.  This article reviews one of the ways firms are able to manage their research processes and communicate those processes to their clients.  In an era of transparent investment decisions, managers would benefit from being able to demonstrate the thoroughness and effectiveness of their research process and to show how it is sustainable.  An Investment Research Protocol is an essential document to achieve those two goals.

At 18 AM we adopted the use of a Research Protocol from our inception.  We have been witness to the benefits provided to ourselves and our clients.  The greatest benefit of an investment research protocol is that the client sees and understands how their money is managed.  In fact, the benefits are so strong, we believe, that the existence of a research protocol is a necessary factor to being termed an institutional quality investment management company.