With a massive allocation to cash of 14 per cent and an underweight to domestic equities and real estate, the $21 billion South Carolina Retirement System Investment Commission is uniquely positioned as a liquid investor ready to pounce. Chief investment officer, Bob Borden, spoke to Amanda White about the advantages of coming to the diversification party late, and his views on where the opportunities lie for the next year.
The asset allocation of the South Carolina Retirement System Investment Commission (SCRSIC) has moved a long way in the past decade, from 100 per cent in investment grade bonds to more than 14 different asset classes that have extreme peer relative positions, bundled into three main categories – public equity, public debt and alternatives, with targets of 30:30:40.
A series of legislative changes, the creation of a five-person investment committee, and the appointment of CIO Bob Borden in 2006 have accelerated the system’s drive into the diversification game, which for many large institutions started three decades earlier.
In this way Borden views the fund as a bit of a “special opportunity”, and being late to the game has afforded it some benefits – there are no legacy investments and it has plenty of cash (at 14 per cent at the end of September it is 4 per cent overweight its policy benchmark).
In addition, Borden is reasonably opinionated about where the opportunities lie and is a willing, and able, investor.
“Typically cash is viewed as a drag on earnings, but we see it as option valueÂ – the opportunities come up we can move, we can turn cash into buying illiquid assets on fire sale.”
“We are very cognisant of our cash weighting and talk about it regularly, but overall it allows us to allocate to secular opportunities, and at the moment we particularly see that in commercial real estate.”
Borden says the fund’s high allocation to cash has been observed closely by some of his peers, but he would rather have too much liquidity than be illiquid.
“Watching the endowments and pension funds struggle to have basic liquidity has been a huge eye opener,” he says. “I’d rather be criticised for the opportunity cost by carrying excess liquidity.”
He believes there are creative ways to “have your cake and eat it too” and intends to spend a good bit of cash in the next few years while maintaining a liquidating plan that includes a perpetual cash allocation to service benefits regardless of market shocks.
The fund has a target allocation of 5 per cent to real estate, but as at September it had a deliberate underweighting of only 0.6 per cent, however Borden is emphasising the opportunities he sees in commercial real estate, both in securities and loans, in the next few years.
“Timing can work for you. Being extremely late to the diversification game has been beneficial, we haven’t made every call correct, but we didn’t have a lot of legacy assets in say real estate and credit, and it’s allowed us to be liquid. I’m not saying now we will jump head first in 2010, but we will line up our capital and strategy,” he says, highlighting the fund’s focus on secondary opportunities in all forms.
Being late to the diversification game has also been fortuitous. The fund used a derivative overlay program as an efficient and effective way to bridge the transition and for rebalancing. It also adopted absolute return strategies early on for consistent alpha and was early to separate alpha and beta.
And when the fund began to build its private equity program there was an emphasis on the secondaries market for structural reasons. But now Borden says that is where the best opportunities are.
The fund is massively overweight global fixed incomeÂ – with an exposure at the end of September of 13.2 per cent but a policy target of only 4 per cent.
According to Borden a couple of observations were made in 2006 that have shaped the fund’s allocations in the past few years.
“We saw real estate and high yield were priced to perfection so we were dramatically underweight and didn’t implement our strategic asset allocation. In 2007 we saw credit opportunities and 3 per cent of assets quickly became 8 per cent,” he says.
And, profoundly over the past year, that has been emphasised.
“We saw a very attractive return but it is idiosyncratic, not high yield per se but individual securities options. We made a big decision to be higher up the capital structure, but still have the opportunity to capture returns.”
He says the fund is intentionally overweight credit, and in opportunistic credit has commitment twice the fund’s allocation.
“Our emphasis is on exploiting credit and the liquidity crisis,” he says.
On the flip side it is significantly underweight domestic equities, versus both peers and targets, and Borden is fairly bearish on the US dollar.
Another interesting structure Borden has put in place is strategic partnerships for the fund’s alternative allocations.
The aim is to employ firms that have breadth of idea generation and put them in structures where there is collaboration in decision making. About 25 per cent of the portfolio is in those structures.
“With this structure we can put a pool of capital in play but not in a lot of small boxes. We can be opportunistic and take advantage of deal flow and advantages that the managers are privy to, and we can identify and close on a deal expeditiously, which is one of the main reasons we did it.”
This strategy is seen as an implementation, rather than asset allocation, play and Borden looks for organisations with a decent amount of bandwidth across markets and strategies.
“What makes managers good at this is more art than science. We don’t want a one trick pony but we are also wary of falling into a jack of all trades and master of none.”
Borden believes the shortcoming of other funds and consultants is the approach of finding managers and then sending them away to manage money exclusively inside a box.
“There are so many resources that traditionally are not taken full advantage of. We look at the internal resources on global economics and idiosyncratic opportunities within our funds managers. It’s a mosaic.
“But to have this structure you also have devote the time to take advantage of the strategic partnerships. A lot of investors say they want access to co-invest, but can’t react to the opportunities because they don’t assess the investments. I travel with our partners a lot.”
SCRSIC employs 20 investment staff, with another five expected to be hired in alternatives and operations before the end of the year. No money is managed in-house, and over the five years to the end of June the fund returned 0.16 per cent.
|September 2009 asset allocation|
||policy benchmark targets %
||exposure weights %|
|Domestic large cap||10.0||7.8|
|Domestic small/mid cap||5.0||10.1|
|International large cap||10.0||11.7|
|Core fixed income||10.0||16.1|
|Global fixed income||4.0||13.2|
|High yield fixed income||3.0||2.8|
|Emerging markets debt||3.0||1.3|
|Liquid real assets||5.0||0.0|
The five strategic partners are
- Morgan Stanley Investment Management
- Goldman Sachs Asset Management
- Mariner Partners
- D.E. Shaw