As global asset owners seek more female talent within investment teams, Australia’s A$99 billion Aware Super said pension funds need to first address a crucial “industry image problem”.  

Speaking at an International Women’s Day event at Aware Super’s Sydney office, the fund’s head of income assets, Sonia Baillie, said the Hollywood-style hedge fund manager stereotype is making it really difficult for young women to imagine themselves in investment roles. 

“[It’s] the Wolf of Wall Street, and it’s Michael Douglas,” she told the crowd, while proposing that the industry speak more about female personalities in leaderships positions, such as Reserve Bank of Australia governor Michele Bullock.  

“I think if we distil that imagery into our young women, they might be inspired to have that input into the economic debate.” 

The Aware event came on the heels of the gender pay gap data from the Australian federal government’s Workplace Gender Equality Agency (WGEA) last week. For the first time, the report revealed the base pay and total remuneration pay gaps within large Australian private sector employers (100 or more employees). 

It found the median total remuneration gender pay gap for superannuation and insurance companies was 26.1 per cent in 2022-23, with the median base salary pay gap 24.6 per cent. The superannuation sectors main source of inflow is the legislated contribution from employers, which is 11 per cent of total pay.  

Flexibility in role design crucial 

Aware Super’s Baillie, who came from a private sector asset management background, said if pension funds want to attract women into higher-paid roles in investment teams, there needs to be flexibility in role design. This could include arrangements such as opening up more roles to part-time candidates.   

“Where we see the most under-representation is at that mid-level career. Our early roles… have a great 50/50 representation [of female workers], but it’s at that childbearing age where we seem to see a really big drop off in investment management,” she said.  

Women in Aware Super’s investment team also tend to be in research and responsible investing roles, Baillie said, but getting them into trading, portfolio management and risk-taking roles will be the thing that “really moves the dial” on gender pay gap.   

To do that, funds must be willing to take some risks themselves, she said.   

“I think the employment market is very technically siloed. If you’ve worked in private equity, you don’t ever dream of looking at listed equities because they are so different,” she said.  

“Going to recruiters with a broader mandate and saying ‘this is the skill set we’re looking for’, and really to take the risks to develop those people – I think that is where we make progress.” 

Chair of Aware Super’s trustee board, prominent business woman, Sam Mostyn said that for funds and the broader Australian business world to address issues around gender equality, boards and management must be held accountable.   

Mostyn is also chair of the Women’s Economic Equality Taskforce (WEET), which consists of 13 women appointed by the Australian federal government in 2022 which delivered a report with recommendations that will facilitate women’s contribution to the economy in the next decade. 

One of the immediate actions included in the report was paying pension contributions on government-funded paid parental leave. The lack of policy on this front has long been attributed as the reason why Australian women go into retirement with less of a nest egg than men, since they are more likely to take time off work after having children and lose out on pension contributions.   

Mostyn acknowledged that Aware itself has work to do when it comes to addressing gender pay gaps. According to the WGEA data, Aware has one of the biggest total pay gaps among big Australian pension funds (23.6 per cent), compared to peers like the A$198 billion AustralianSuper who had an 8 per cent gap on the same metric. 

“We’re going to face it and talk very publicly about the fact that we’re going to work on it [closing the pay gap]. We’re not going to pretend that we’re perfect,” Mostyn said.   

“The way in which diversity must be allowed to flourish means that there’s going to be often quite difficult conversations, but they must be handled with respect.” 

 The 2024 CIO Sentiment Survey, a global collaboration between Top1000funds.com and CaseyQuirk, part of Deloitte Consulting, finds asset owners increasingly willing to make significant allocation shifts after several years of reticence. They have a greater appetite for risk and are increasingly experimenting with new asset classes, but they are concerned about high public equity valuations.

The 2024 CIO Sentiment Survey finds asset owners increasingly willing to make significant allocation shifts after several years of reticence. They have a greater appetite for risk and are increasingly experimenting with new asset classes, but they are concerned about high public equity valuations.

A year ago at the beginning of 2023, investors remained cautious, awaiting clearer market signals and keeping portfolios in a holding pattern. Now as businesses shift into gear for 2024, the freeze on major allocation decisions has finally begun to thaw.

The 2024 CIO Sentiment Survey, a collaboration between Top1000funds.com and Deloitte management consultancy CaseyQuirk, has found asset owners more confident about meeting their goals. Buoyed by a market rebound and clearer market signals on the trajectory of inflation, they are planning greater shifts in their investment portfolios after years of relative inertia.

Survey respondents were mostly CIOs in public and corporate pensions, but also included foundations, sovereign funds, endowments and insurers. Half were in North America, the other half spread across Europe, the Middle East, Africa and Asia-Pacific.

With the deep uncertainty of 2022 now in the rear-view mirror, asset owners are feeling more confident due to the performance of markets in 2023 and also the higher funded status of a lot of pensions, said Diane Cullen, senior consultant at Casey Quirk.

“They are taking risk off the table and adding fixed income, but a lot are coming out of 2023 thinking they will make more substantive asset allocation changes whereas before they were sticking to their knitting,” Cullen said.

However while confidence is gradually returning, new challenges have moved in to replace the old. Concerns about high equity valuations are keeping most asset owners from adding to their public exposures. Those most concerned about public equity valuations are drawing down from their active exposures into more passive positions.

New dynamics have also emerged in private markets. Asset owner demand for alternatives has cooled slightly, but remains above demand for other asset classes with particular interest in real assets and private credit.

Tyler Cloherty, managing director and leader of Deloitte Strategy and Analytics’ Knowledge Center, said CIOs were particularly wary about private equity after a tough environment for capital return and exits over 2023.

“A lot of asset owners are structurally over-allocated, and within the bucket of private markets they are thinking about how to adjust their allocations to other sub-asset classes,” Cloherty said, noting more interest in infrastructure and private credit but less in venture.

A changing rate environment as inflation subsides has also called for a long-awaited restructuring of fixed income portfolios. For now CIOs continue to add actively managed core fixed income and high yield investments as yields remain elevated, but geopolitical concerns are leading CIOs to reduce exposures to emerging market debt.

“Last year everyone just kind of stayed put, but a lot of plans are getting unstuck now,” Cloherty said. “Now that markets have–I won’t say normalised but gone back go a more regular pattern than we saw over the preceding 24 months–asset owners have higher confidence to make changes to their structural allocations.”

Smaller rosters, tighter collaboration

Respondents of last year’s survey painted a clear picture of stretched teams inadequately supported by necessary systems and tools, with understaffing and the talent shortage cited as top challenges.

Less so in 2024, with survey data suggesting staffing-related challenges remain, but the pinch has eased. As funds begin to resolve their talent shortage, they are conducting net hiring increases in risk management and compliance staff in a complex environment–particularly mid-sized and large funds.

There is also evidence asset owners are consolidating their manager rosters, seeking closer collaboration and a greater range of services and support from a smaller number of strategic partners. The trend towards greater internal management appears to have moderated, said Cloherty.

“Those who want to build that out have done it,” Cloherty said. “Obviously some are still moving in that direction [of internalising capabilities] but it’s not as big of a global shift as it was a couple of years ago.

“But in the manager environment, it’s incredibly competitive, there are so many managers out there selling similar things, so they are looking at what else they can provide beside their basic mandate.”

But while funds may be trending towards fewer managers, the alternatives universe is an exception to this trend, with asset owners looking to build new manager relationships as they increase their allocations to new, complex asset classes. Almost half of respondents were looking to build relationships with new alternatives managers.

And interestingly, greater experimentation is taking place with new asset classes, especially in private markets and credit as funds seek out investments with lower correlation to broad market movements. Notably, there is growing interest in areas banks are seeking to exit, such as asset-based lending.

“As they are looking at private credit, a lot of the asset owners are also looking not just at direct lending or plain vanilla-type private credit,” said Cullen. “We are seeing the greatest innovation from managers and demand from CIOs in new types of exposures. They are looking at impact lending, asset-based lending, royalties or specialty finance.”

This is particularly evident in larger funds with the scale to cut their alternatives bucket into a greater number of sub-classes, Cloherty said.

For further analysis and all the results click here 

The CalPERS board is likely to wrestle back control of setting the pension fund’s discount rate or investment rate of return, a process that had been done automatically since 2015 when it was enshrined in the pension fund’s risk mitigation policy.

Under the current system, when returns at the $485 billion asset owner exceed 2 per cent of the discount rate, the rate of return is automatically lowered.  A recent meeting of the finance and administration committee in an “information only” item that will go back to the board in April 2024, found enthusiasm to take back control of setting the discount rate, foreshadowing future debate and deliberation ahead around what the discount rate should be.

“I think the board has the wherewithal to make these decisions without this automatic trigger,” said Theresa Taylor, recently re-elected as board president. She  noted how adjustments in the discount rate impact employers and members because it causes their contributions to rise.

“I didn’t realise that anything over 17 points is a 2.5 per cent reduction. That could be pretty hard.”

The trigger policy rests on various conditions. If investment returns outperform the discount rate by 2 per cent, the discount rate is automatically reduced by 0.05 per cent. If returns outperform the discount rate by 7 per cent, the discount rate will automatically reduce by 0.10 per cent. If investment returns outperform the discount rate by 17 per cent, the discount rate will automatically reset 0.25 per cent lower.

“There is a ceiling of 25 basis points when investment returns outperform the discount rate by 17 percentage points,” said Michele Nix, interim chief financial officer.

The trigger has only gone off once. In 2021 when CalPERS returned 21 per cent off the back of record pandemic-fuelled returns in private equity and stocks, the discount rate was lowered from 7 to 6.8 per cent where it currently sits. Prior that that, in 2015 the board lowered the pension fund’s discount rate from 7.5 per cent to 7 per cent, phased in over three years.

Nix explained that the automatic strategy is designed to lock in the benefits of higher returns by lowering volatility over time and providing greater predictability for employers around contribution rates. Exceptional performance of previous years helps to ensure sustainability and reduce risk, she said.

Board member David Miller also voiced his doubt over the automatic trigger. “It is our responsibility to make reasoned judgements on these things. We should have things come back to us for input. It shouldn’t just happen as a matter of course without us stepping up to responsibilities,” he said.

The board heard that many of CalPERS stakeholders are not familiar with the automatic policy which also triggers new strategic asset allocation targets based on the reduction of the discount rate.

Something that typically results in investing in less risky assets. “If you expect to earn less, you can invest in less risky assets,” said Nix. When the discount rate was reduced in 2021 CalPERS had been going through an asset liability study, and the allocation was changed as part of the change in the discount rate, said Nix

CalPERS will conduct another asset liability study in February 2025.

The pension fund is in the process of selecting a new CIO following the resignation of Nicole Musicco last September. Last year the pension fund said it hopes to onboard a new CIO “in early 2024” and has budgeted $300,000 for the hunt, including all search fees.

Illinois Treasurer Michael Frerichs, in office since 2014, oversees a $55 billion portfolio of which he is sole fiduciary, including  a $25 billion state funds portfolio and an $9 billion investment pool called Illinois funds.

Frerichs, the state’s CIO and banking officer, does not oversee pension assets in this sole fiduciary model. The capital feeding the portfolios under his watch comes from taxpayers rather than people saving for their pensions.

But the governance structure offers a window into other US states where sole fiduciaries are also responsible for pension assets. A model that has been criticised for opening the door to politicising investment and is often seen as outdated. In 1848 Illinois’ voters chose to make the treasurer an elected office, and Frerichs is the 74th person to serve in this role. [See The politicisation of investments at US public funds]

And the funds under the treasurer’s management are steadily increasing, thanks to higher interest rates, income tax increases as well as market gains. The portfolio made $1.33 billion in investment earnings during 2023.

Frerichs likens the structure to himself as a CEO of an organisation reporting to a corporate board. In this case, Illinois’ General Assembly which sets guide rails that restrict the way the portfolios can invest. For example, the state treasurer is not allowed to invest directly in publicly traded stocks and most of the portfolio is invested in low-risk, short-term investment vehicles like government bonds, bank deposits and money markets.

In another example, he points to the processes underlying his decision to increase the carve out from the state funds portfolio to the Illinois Growth and Innovation Fund (“ILGIF”), originally set up in 2002. It involved presenting a case to the General Assembly on the rationale to move away from the long-term preference for low risk fixed income investments and invest more in alternatives, upping the private equity allocation from 2 to 5 per cent and pushing into infrastructure, real estate and student debt. The fund is now authorized to invest over $3 billion in alternative investments over the next ten years.

“I am the sole fiduciary, but I think of it like I have a large board in terms of the General Assembly. They give me guideposts and I can’t invest anyway I like,” he says. “The General Assembly doesn’t like risk and generally, the state treasurer hasn’t taken much risk. But we convinced them that a program like ILGIF can produce better returns and have an impact on the state.”

He says one of the most obvious benefits of having one person run things is that day-to-day decision making is easier and quicker, and opportunities aren’t missed, particularly in the ILGIF allocation.

“The manager may be doing another round of funding and come to us. If we had to wait for a board meeting, we’d miss out.” Quick decision-making is also important in the liquid allocation during fluctuations in the market and when things change, like in 2023 when low expectations for growth turned more positive. “We are able to change as circumstances change,” he says.

Moreover, Frerichs, a Democrat who will go back to the electorate in 2026 for a potential fourth term, says his political beliefs don’t impact investment strategy and his two hats as both an elected politician and fiduciary don’t conflict. He says both these roles have the same purpose – to serve Illinois.

“Every decision we make is on behalf of taxpayers or account holders of our state. Every dollar made via investments is a dollar that does not need to be raised in taxes, earned income that can be used to fix roads, repair bridges and invest in our local communities,” he says. Meanwhile, ILGIF, the growth, innovation and impact allocation champions Illinois, retains quality technology-enabled businesses in the state and crowds in other investors.

Still, US public pension fund CIOs that align investments with social goals and believe that shareholders have a role guiding corporate behaviour (particularly around ESG) have attracted criticism from the right. They argue asset owners should always put returns first and shouldn’t interfere with corporate freedom. But Frerichs believes investors are right to not simply “trust the CEO.”

“I have a problem with this, ” he says.  “Why wouldn’t investors want more information? Investing is hard and access to more information can lead to better results. We are owners of these companies, and they chose to go public and should listen and communicate with ownership. Not listening to shareholders is anti-capitalist,” he says.

At Illinois, ESG is integrated into the investment process via asset managers, all required to consider risk and opportunity “outside traditional metrics.” Illinois actively manages around $30 billion of state investments and pooled funds in-house. Leaving around $19 billion managed externally via direct relationships with asset managers. “We build true partnerships with managers with consistent performance, a repeatable process and clearly defined philosophy that guides decisions,” he lists.

Frerichs says he views sustainability as an evaluation of one of many risks in pursuit of long-term value. He says investors need to look at the intangible elements that increasingly make up an asset’s value; companies are valued on their reputation, IP, and brand value and susceptible to a new kind of risk, for example.

Asset management

The portfolio’s small cohort of external managers is rarely changed although the manager for the college saving account recently was, mostly because of fees. Frerichs says he holds managers “feet to the fire” regarding fees to stop these costs eating into growth. He says he won’t invest with hedge funds for this reason.

He also prefers to work with Illinois-based managers.  “We have a bias locally, but we are also looking for the best deals. We work with managers in our state, but not exclusively.”

Looking to November he expects greater volatility and the potential for monetary policy to be politicised and a possible impact on the dollar.  “The US is looked to globally for stability in monetary policy, but the traditional playbook is being thrown out.”

 

In our 2024 outlook, we highlight the current macro backdrop, three key questions our clients are asking and investment considerations they may want to make.
(more…)

Geopolitical tension remains elevated, and corporate supply chains and inflation are ongoing risks, but Markus Aho, chief investment officer of Varma, the €57.4 billion ($61 billion) Finnish pension fund, says the portfolio has stood up well to challenges on the investment landscape mostly because of its carefully woven diversification.

The portfolio is divided 50:50 between fully liquid and illiquid assets or, put another way, 50:50 between equity (private and listed) and fixed income, hedge funds and real assets. It wasn’t built for the low interest rate environment of yesteryear and won’t change for today’s higher interest rates.

“There are surprisingly few cracks. We are happy through the cycle,” says Aho.

He is eyeing opportunities in venture and believes alternative credit has further upside because of balance sheet restructuring in coming years, but says neither of these opportunities will show up in any shift in allocations.

One area of concern is growing concentration in the equity portfolio. Slow growth in Europe, a long-term laggard in terms of GDP growth and index returns, means Varma has limited its European weighting in its international portfolio. Geopolitical trends make it difficult for investors to access opportunities in Asia which leaves the US, where performance is concentrated in a few, very large companies.

“It’s become narrower and harder to achieve diversification in US public equity,” he says.

Varma manages everything in its liquid allocation internally, either directly or through ETFs. Aho doesn’t place limits on the team’s ability to seek alpha in listed equity, but strategy must maintain passive exposures and the portfolio also needs to incorporate thematic allocations.

All the illiquid bucket is invested through or with managers, investing in co-mingled funds and tailor-made funds as well as co-investing alongside managers.

Twenty per cent of the total equity portfolio is invested in Finland. Because many of the companies in the allocation are global, he doesn’t worry it has an impact on diversification. The portfolio comprises active and direct exposure, but the focus on public companies also makes it a proxy for Finnish index exposure.

“We are a large owner of a lot of Finnish companies and these tend to be stickier investments. We are a long-term owner and don’t move in and out of the Finnish market,” he says. Mettle that was tested when Finnish equity was hit hard when Russia invaded Ukraine.

Many companies had exposure to Russia which they had to write down. Something he flags as a warning sign to companies with large exposures to China, if the geopolitical situation worsens.

“We haven’t seen negative risk perception of Finland because of the war in Ukraine. People still invest in South Korea and Israel, and they are both in geographically difficult places in the world. Our alliances and alignment with the West is more important than where we are on the map. Financial markets tend to be cold about these things.”

Hedge funds add diversification

An important source of diversification comes from Varma’s 16 per cent allocation to hedge funds, a portfolio that has evolved over the last two decades. It used to comprise mostly traditional allocations to long/short equity but is now also populated by less liquid investments that span different forms of corporate credit, exposure to US real estate and residential markets.

The portfolio’s job is to hedge risk and provide diversification from Varma’s large equity program, fixed income and real assets, he explains.

“We are always trying to look at new uncorrelated strategies in the hedge fund portfolio. In my mind, a hedge fund is a structure where you can put in place different hedges and change the profile and correlation, but you always have underlying risk.”

The qualitative strategy is also combined with human analysis. Aho has introduced quantitative strategies to measure and test diversification, and ensure the team understands the behaviour of the underlying assets in every asset class. “We look at individual assets and try to model behaviour and correlations and pull that to the portfolio level.”

The same qualitative approach has been helpful informing sustainability, as well as diversification, in private equity.  “When we want to understand sustainability in private equity or exact industry exposures in private equity, we also need to know the underlying assets in the portfolio and model up from the bottom up.”

Waiting out the downturn in private equity

The private equity portfolio has experienced a sharp drop off in activity. After years of plentiful liquidity, exits and new deals, M&A activity is subdued, the IPO market “shut down” and valuations unknown.

Moreover, he says net cashflows into and out of the portfolio are predictable but gross cashflows can change hugely. It means the team is focused on keeping the allocation steady and a firm eye on open commitments.

“We are investing in fewer new deals to keep more in the portfolio,” he says. “We are less active because we want to wait it out and see what happens. If there is any chance you might be in a hurry to get out of illiquid assets, you don’t want to allocate so much to begin with.”

Varma’s average private equity commitment is around $100 million, and the pension fund rarely introduces new managers. Strategy is focused on a limited number of key managers equally weighted regardless of size. Although they don’t just focus on the mega names, most managers are at the larger end of the market ($1 billion AUM) because of the amount of money the fund invests.

“We look at new names in the lower-mid-sized category to check if they are drifting up.”

He adds that the fund increasingly uses the same “best in class” managers across asset classes, homing in on strong relationships and fee savings. “We can achieve more through the same relationships across different assets classes. We find it’s easier to watch over, negotiate with and partner with fewer relationships,” Aho says.

The impact of pension reform

Varma is also operating against the backdrop of reform to the Finnish pension sector. Negotiations between unions, pension funds and policymakers, seeking to future proof a system facing challenging demographics, are trying to measure how increasing pension fund risk would impact the spectrum of outcomes.

“There is a system level discussion underway to decide how much risk pension funds want to take on,” says Aho “Policy makers don’t want to find out in ten or twenty years-time they made the wrong decision.”

Previous reforms have introduced more risk and flexibility into pension funds’ investment strategies and over time Varma’s portfolio has changed to include a larger allocation to equity and alternatives which is now close to its natural limit. “We shouldn’t just increase equity for the sake of doing so,” he says.

As a long-term investor, Varma has “some room” to extend its equity allocation but many different assets in the portfolio already have equity-like return expectations, he continues.

“If we had a traditional portfolio of listed equity and government bonds, it would be easier to calculate our potential return from adding, say, a 10 per cent allocation to equity.”

Nor does he want to have to sell too many assets to buy equity.

“We still need the diversification benefits we get from hedge funds, real assets and fixed income,” he concludes.