CalSTRS, the $310 billion fund for California’s teachers, has restructured the investment team with an eye on its future growth and the best people and processes to achieve its mission of securing the retirement of one million Californian teachers.
This includes examining the complexity of the portfolio and the skills required to manage it effectively in the future, in a bid to be at the forefront of “how allocators’ allocate capital”.
“Everything we do relates back to our mission, it’s always our focus,” says deputy chief investment officer, Scott Chan in an interview with Top1000funds.com.
As part of the new structure CalSTRS has split the private and public markets, appointing Geraldine Jimenez as senior investment director of public markets and Mike DiRe as senior investment director of private markets.
“As we thought about the future, we thought about what staff structure would equip us for that future,” Chan says.
But before the right structure was settled the team explored five key opportunities centred around recognising the fund’s strengths, the exponential growth of its asset base, being at the forefront of how capital is allocated, overseeing total portfolio management and evolving business functions.
“We had built solid strengths across asset classes, and we have deep expertise. I think we have the number one team in the country – I’m bullish on our team,” Chan proudly explains. “We want to make sure we build upon that. And what stands out is we have such a strong culture, focused on the mission and a great set of values in how we operate.”
This translates to delegated authority and plenty of time and money spent on training, not just for technical skills but in how to manage teams. Chan said the idea was to build on that culture and value proposition.
Every eight to 10 years the fund doubles in size, which Chan describes as “creating a whole new CalSTRS every decade”.
“We have $310 billion in assets today, but we will be $600 billion in the future. To prepare for that we will be managing more assets, so we will be managing more people to manage those assets. We have to be forward thinking for that structure and how to build the team,” he says.
Cutting edge allocator
CalSTRS has an aspiration that Chan describes as “being at the forefront of how allocators’ allocate capital”. [See also Investors prioritise governance, tilts and liquidity]
This includes leveraging the fund’s outsourced asset management partners alongside bringing more investment inhouse.
“We have saved $1.2 billion in five years in fees. In public markets most of our assets are inhouse. On the private side we won’t build a private equity firm within CalSTRS because of compensation but we leverage our partners, and we own asset managers either partially or wholly.”
CalSTRS also engages in co-investments and joint ventures and is creating innovative structures to boost returns, save costs and manage risks.
“The cost savings is a chart of beauty,” says Chan.
At the end of 2018 the fund had about 100 collaborative-type structures and about $150 million in cost savings. Now that has jumped to more than 300 collaborative model transactions, and last year alone the fund recorded annualised savings of $437 million.
“The aggregate number looks good but also the graph looks good, it’s linear. We want to attract folks with more direct investing skills, and skill sets that fit increasing complexity and the ability to transact in innovative structures. It’s a big opportunity.”
The total portfolio
Like many large institutional investors, CalSTRS is paying more attention to overseeing management of the total fund including short and medium tilts and whole of portfolio challenges like taking advantage of the energy transition and diversity of managers and internal teams.
“We are looking at the fund as a total and the power of one platform. Combining asset classes together to do great things and do them at scale, these are some of the opportunities in front of us,” he says.
This total fund view includes looking at investments across public and private markets, and within and across asset classes.
“If we can do that in the future it will unlock a lot of opportunities. As we were thinking about organisational resources it starts to make it structurally easier to think about the total portfolio. As we double every 10 years, we want people who can operate in a multi asset class framework and we are preparing for that future.”
This total portfolio view also ties into the evolving business functions for the fund including the framing of enterprise risks alongside HR practices and improved communication.
“As we grow, we need to become more sophisticated in those functions. Also, things like balance sheet management, being able to manage liquidity, how we think about leverage and the denominator effects.”
Asset liability study and future asset allocation
CalSTRS has just embarked on its four-yearly asset-liability study and while it is yet to recommend any future asset allocation to the board, the fund has identified some important areas for investigation.
“We are under allocated to the broader area of private credit and we think this is a great opportunity in the next 12-18 months,” Chan says.
Other US public fund peers have around 6-7 per cent allocated to private credit but CalSTRS sits at around 2.5 per cent.
“We will expand our direct private lending and as we think about the long-term future we are studying whether it should be well north of that.”
It is also examining whether to expand the “opportunities” portfolio from a target of 0-2.5 per cent to 5 per cent.
“We believe being more flexible in an environment where there could be a paradigm shift in the volatility of markets,” Chan says adding that geopolitical events, a more volatile and structural shift in inflation and funding the transition to net zero are top of mind.
“In a more volatile environment we want to be more flexible to take advantage of opportunities. With a total fund platform we want to have flexibility to work across asset classes, in between asset classes and scale things up.”
A larger allocation to the opportunities bucket would allow the fund to scale into positions a little more assertively.
In the past the opportunities allocation has acted as a testing ground for new investment ideas and this is where direct private lending started before moving to fixed income.
“All of the directors in the asset classes are seeing opportunities and we are working with some of the premier partners in the world. They could find things that don’t fit in their asset class and benchmarks but could be an amazing opportunity for the fund as a whole. Or they might want to allocate $200 million but we think we should allocate $400 to $500 million and we can use the opportunities allocation for that. We haven’t used it to scale into positions but that’s the aspiration.”
The final asset class under consideration is fixed income and whether to increase its size. At the end of January, it had 10.26 per cent allocated to fixed income against a strategic allocation of 12 per cent.
“After years of moving from fixed income to infrastructure and risk mitigating strategies, at higher interest rates we are thinking should we be allocating more to fixed income?”
If CalSTRS filled all of its vacant positions the investment team would number around 225 people. It’s halfway through a five-year plan which saw the hiring of an additional 91 people.
Chris Ailman, the fund’s long-time CIO, oversees the entire investment division including middle and front office. As deputy CIO, Chan is focused on the front office and implementation. Part of the new senior hires is a reflection that the deputy’s role has expanded so much in the four and a half years Chan has been in the role.
“It makes sense to have them overseeing the asset classes, and me overseeing the investment division reporting to Chris.”
Chan says about 60 per cent of the time Jimenez and DiRe will be leading and overseeing the public and private markets respectively, with 40 per cent of the time focused on working through and managing the total portfolio issues with the rest of the team responsible for the total portfolio that also includes investment strategy and risk director (Jimenez’s old position) and the director of sustainable investment and stewardship strategies, Kirsty Jenkinson.
“We used to meet with all of the asset class heads but now we can save them from being in meetings. We want them to focus on investments and we have a group now focused on the total fund.”
CalSTRS is also looking to recruit some senior portfolio manager positions that will sit between the asset class heads and portfolio managers.
This is partly for succession planning but also a reflection of the volume of more complex transactions, and the expansion and growth in the leadership.
“We have thought very deeply about how to do this and what each of the positions will be doing. This is really exciting for CalSTRS. It makes me really excited about the mission and what we can accomplish.”
And for Chan thinking about the mission does not stop when he closes his computer each evening, his wife is a California educator and a member of CalSTRS.
Talk about skin in the game.