Market timing and performance attribution in the ECB reserve management framework

We study the performance of a group of foreign exchange reserve managers that are responsible for investing the ECB’s official reserves in US dollars, for a value of around $43 billion, using a new dataset which includes detailed portfolio holdings from 2006 to 2010. The ECB reserve managers display a positive ability at security selection overall. Two portfolio managers show market timing ability after adjusting for the non-linearity of the benchmark returns. For one portfolio manager, market timing ability is significantly related to the efficient use of public information. To pin down market timing, we develop a performance attribution model which identifies the contribution of the key portfolio managers’ strategies (duration, curve, and spread). We find that, among the active layers, the spread contribution seems the most significant; curve and duration bets, with some exceptions, have generally provided little value added. Our analysis supports the view that portfolio managers adopt diversified investment styles. This may explain the non-negligible result of the aggregate reserve portfolio, averaging 10 basis points on an annual basis, net of transaction costs. The more diversified the investment styles are, the more likely it is that portfolio managers make independent bets, which in turn may positively affect the risk-adjusted return of the aggregate portfolio.