The A$120 billion ($95 billion) AustralianSuper is a formidable equities investor. Not only does it have large lumps of cash to allocate to equities, it has an unwavering belief in active management, looking for its managers, both internally and externally, to take concentrated positions.
The AustralianSuper balanced fund, which holds around 80 per cent of members’ assets, has an exposure to listed equities of about 55 per cent, split across Australian equities (26 per cent) and international equities (29 per cent).
In dollar terms, this is more than $47 billion in assets and makes AustralianSuper the largest investor in equities in the country. The Future Fund is the only other asset owner that is larger than AustralianSuper, but its listed equities allocation only sits at around 29 per cent of its A$130 billion ($103 billion).
Not only does AustralianSuper have the largest dollar amount invested in equities, but it is also the fastest growing fund in the country, receiving inflows of about $6 billion a year which makes it the number one fund in Australia for cash flow.
“To be the biggest fund and the fastest growing is very rare,” says head of equities, Innes McKeand.
“The overweight position, compared to other funds in Australia, reflects our positive view on equities. The macro economic environment is supportive and the global economy is growing well,” he says from the fund’s headquarters in Melbourne.
But while the size of the portfolio and the pace of growth is an advantage for the fund, it also presents some constraints on how it is managed.
Domestic bias, global reach
In the domestic market AustralianSuper engages with every company it invests in and is a significant shareholder in a bunch of different companies. Here size is an advantage.
The fund invests in around 370 Australian equities stocks, with Commonwealth Bank the biggest position and the four banks, BHP, Telstra and Wesfarmers making up its top holdings.
“When we engage with companies it’s not just about ESG but that we understand the business,” he says. “We can influence the share price so they listen. Our pitch to them is that we are a shareholder of choice – we are a large, stable, long-term investor.
“We say we’ll engage with you in a thoughtful way, and now we’re among early phone calls if there’s a capital raising going on.”
This influence over, and close relationship with, listed companies is one of the advantages the fund has in the local market, and one McKeand says it wants to make the most of.
“So we’ll probably always have a domestic bias but inevitably more will go offshore because of our large flows,” he says.
Globally, Amazon is the largest holding and the fund has about $12 million worth of stock. Other large holdings are Tencent, Visa, Microsoft, Baidu, Accenture, Facebook, Time Warner and Oracle.
“The insights of the global equities team have a great effect on our Australian equities team, a good example being Amazon,” he says.
The fund’s global presence is growing. It has an office in Beijing, and a small London office and McKeand predicts it will have offices in most major financial centres within 10 years.
“You’d expect that from a global investor,” he says.
The matter of China
At the time of this interview McKeand had just arrived back from an Asian advisory committee meeting, which the fund holds four times a year in a revolving list of major Asian cities.
“We spent a lot of time talking about China,” he says. “We think the biggest risk in the global economy is China, not the US. The risks are building there; we’re more cautious than we once were.”
AustralianSuper has exposure to China primarily through the big Chinese internet stocks listed in New York and Hong Kong, which sit among the fund’s largest international exposures – Tencent Holdings being a high profile example.
“The local market inclusion of China in the MSCI indexes is interesting but we don’t spend time on index inclusion,” he says.
“The quality you can access is variable among Chinese companies – we don’t want to invest in low quality companies just because it’s in an index.”
The problem of size
One of AustralianSuper’s greatest challenges, and one felt by large funds around the world, is that because of its size, it is difficult for a manager’s outperformance to affect the total portfolio, unless there are large mandates involved.
“We want to get economies of scale,” McKeand says. “If we find a manager which we give a $200 million mandate to, and they give us 10 per cent a year in alpha, that’s great but we’d need to get a lot of those to dent the total portfolio.”
As a result, and also partly in reflection of the fund’s firm belief in active management, AustralianSuper awards only a few, but large, mandates to external managers. In international equities the average AustralianSuper mandate is $3 billion.
“But you need to put that in the context that the overall equities portfolio is worth $60 billion,” he says.
“We do recognise they’re large amounts of money and our operational due diligence on managers is a lot more than it used to be.”
A trend to insourcing
Most of the equities portfolio is still managed externally and despite the hype about internalisation, only around 10 per cent of international equities and around 40 per cent of the Australian equities portfolio is managed internally.
There is, however, a clear trend to insourcing, and the aim is to have 50 per cent for the entire portfolio internally managed by 2021-22.
The fund is about halfway to achieving that target, and currently about 25 per cent of all assets are managed internally, including some fixed income and direct deals in infrastructure and property alongside equities.
“There are limits to our ability to do everything and there will always be managers with greater insight who can do it better,” McKeand says.
The fund only employs 30 managers across the entire equities portfolio, including the in house team, and within those managers he says the focus is to look for those with concentrated portfolios.
“We’re paying hundreds of millions of dollars in fees, so for that we want an active result,” he says.
“We want all the things you’d expect: highly skilled managers at low cost with extremely high alpha.”
He speaks somewhat tongue in cheek, but stresses he is prepared to pay for managers that can outperform.
Evolution in internal management
An internal team is responsible for manager selection and they look for specific qualities in managers including those that are at an early stage of development with teams made up of skilled individuals in the right environment and with the right ownership.
“We want managers with concentrated portfolios, with differentiated approaches and strong research underpinnings,” he says.
“We tend to prefer managers with skin in the game who own or control their own business and tend not to like managers that are, for example, owned by a large bank or insurance company.”
The internal equities team, which is made up of 40 investment staff, is treated like any other manager and is listed on the fund’s manager line up online.
“In many ways the internal team is like an external manager,” he says. “We give them a mandate and they have a performance target and investment restrictions. My job is to hold them to account.
“We always have the power to hire and fire external managers, but for clarity of governance the investment committee has control of the internal mandates.”
In international equities, two strategies were funded internally last year. The first was a fundamental strategy, run by Christine Montgomery whose previous experience includes managing money at Fidelity, Franklin Templeton and Martin Currie.
“It took longer than we liked to set it up,” he says. “It’s hard to get the right people. This team is managing a reasonable amount and while it’s still early days I’m happy with their progress.”
The second was an internal quantitative strategy that uses machine-learning techniques and is headed up by Jonathan Tay.
“This is a natural area for us to focus on because of the scaleability,” he says, adding that more time and money will be spent on technology to support the data-driven strategy.
The Australian equities staff, which includes both large and small caps, is now organised as one team and the entire equities portfolio is run on one internal equities platform.
“It’s quite collaborative,” he says. “For example, in international equities there are a couple of sectors where they lean on the Australian equities team for help.
“They’re all looking for good quality companies with intrinsic value and scaleable mandates.”
So with essentially four internal equities mandates – large cap and small cap in Australian equities, and a global fundamental and global quant strategy – McKeand is happy with the internal team set up.
“We don’t want too many internal mandates,” he says. “We want to benefit from scale and not make it too complicated.
“We want to manage from the top level down so we can take enough risk at the individual level and it affects the overall portfolio.”
McKeand believes it is still early days for AustralianSuper in terms of internalisation, with only four years of internal management under its belt.
“Performance is pretty good,” he says. “We could always be better but it’s only been a short time.”
The international equities team has a benchmark of the MSCI plus 2 per cent and in less than a year since inception it is ahead of that benchmark, he says.
But he says if the team underperforms it’s difficult to plan on how to deal with it.
“In an external manager context,” he says, “if something goes off the rails, like a generational transfer of leadership, ownership changes or style drift, it’s hard to be presumptive. You can’t decide in advance how you’ll react.
“The important thing is to keep the right mindset. It’s not a one-year game: we’re investing for the long term.”
This points to one of the key advantages of the internal team, he says, which is greater alignment with members’ interests.
“Internal teams can take a longer term view,” he says. “There’s greater alignment with member interests and it takes out agency issues.”
“But if we did go through a period of underperformance, my experience shows the best thing to do is to see if the process is on track. If they’re still doing what we want them to do then it’s OK.”
Costs and performance
To a large extent the internalisation process is being driven by costs.
“If we could get an equivalent strategy at the equivalent cost externally then we’d consider it,” he says. “In the long run we’ll run internal at a quarter of the cost of external.
“We’re now able to do a bunch of things ourselves, but we can’t do it all ourselves. We like managers who can do better than us and we’re prepared to pay for that.”
The internal team has outperformed external managers over the past three years and also delivered lower costs to members.
The whole AustralianSuper portfolio costs 50 basis points to run, and asset class heads have budgets for outperformance, costs and illiquidity buckets.
“The cost budget at each asset class focuses us on what we need to do and focuses us on targeting alpha and costs. We’re prepared to pay for alpha if we see it,” he says, adding that most hedge funds fail to get through the cost budgets that are set.
McKeand oversees all equities, including private equity which with an MER of between 300 and 400 basis points is an expensive asset class relatively speaking.
AustralianSuper only invests with the top private equity managers that have performance persistence, which limits the number of managers to around 15 to 20 globally, “at a stretch”, he says.
“If this can give us a significant premium over equities then we’ll back them. It’s an expensive part of the portfolio but it justifies its existence.”
McKeand has been in charge of equities at AustralianSuper since 2011, prior to which he had experience as CIO of AIB Investment Managers and as head of investments at Nestle UK Pension Trust.
“There’s still a lot here for me to get interested in and be challenged by,” he says. “We’ll be building the internal framework for a long time. We’re still growing and there is so much more to do.”
This includes building out the quant investment strategy and using factor investing as a way of understanding the portfolio. The team has been spending a lot of time enhancing the platform, the operational due diligence and the technology needed to operate a large internal capability.
“We’re at a significant stage of evolution,” he says. “This is still effectively a greenfield and this makes it attractive to me and other members of the team. We can do a lot of things you wouldn’t get to do in other funds.”
AustralianSuper’s Australian equities managers
Airlie Funds Management
Alphinity Investment Management
Antares Capital Partners
AustralianSuper Internal Investments
Avoca Investment Management Pty Ltd
Celeste Funds Management Ltd
Eley Griffiths Group Ltd
Goldman Sachs Asset Management Australia Pty Ltd
Industry Funds Management Pty Ltd
Northcape Capital Pty Ltd
Paradice Investment Management Pty Ltd
Perpetual Investment Management Ltd
Tribeca Investment Partners Pty Ltd
Vanguard Investments Australia Ltd
AustralianSuper’s international equities managers
Ausbil Investment Management Ltd
AustralianSuper Internal Investments
Baillie Gifford Overseas Ltd
Causeway Capital Management LLC
First State Investments International Ltd
Genesis Asset Managers LLP
Independent Franchise Partners LLP
Jackson Square Partners LLC
LSV Asset Management
MFS Institutional Investors Advisors Inc
Orbis Investment Management Ltd
State Street Global Advisors Australia Ltd
Vanguard Investments Australia Ltd
Vontobel Asset Management Inc
Westwood Management Corp
AustralianSuper’s private equities managers
AustralianSuper Internal Investments
Frontier Investment Consulting Pty Ltd
Industry Funds Management Pty Ltd
Industry Super Holdings Pty Ltd
Members Equity Bank Pty Ltd
Quay Partners Pty Ltd