Three-Dimensional Portfolio Engineering: Building a Strategic Asset Allocation to Meet Financial and Impact Goals

For decades, we have engineered scalable portfolios to help institutional investors achieve their goals. In the past, these goals have typically been financial (eg. return and risk targets), but now many investors are also seeking to achieve environmental and social impacts through their portfolios. We believe the best way to achieve both financial investment goals and these impact goals is through portfolio engineering that incorporates these objectives holistically, beginning with crisply defining an investor’s goals, systematically looking across a variety of asset classes to find assets that are aligned with these goals, and then combining those assets to create a portfolio that is designed to achieve a high ratio of return to risk.

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The Democrats Are Shifting Toward a New Policy Consensus. Two of These Shifts Will Be Particularly Important for Markets.

We are now at a turning point, with Democrats controlling both legislative chambers and the presidency, and an emerging concensus among Democratic policy makers and their advisors that enables fiscal spending that is both significant in size and ambitious in scope. Later this year, we expect to see the first expansionary fiscal package centered around the pursuing long-term social, environmental, and competitiveness policy goals (following the more immediate COVID recovery package). In these Observations, we explore two key shifts in Democrats’ thinking underlying these policy proposals, which we expect will be sustained well beyond this fiscal package.

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The ultimate goal of economic policy is simple and timeless – to ensure prosperity and maximise living standards. Broad macroeconomic measures such as GDP growth, the unemployment rate, and inflation had for decades been a good proxy of rising prosperity, so they have dominated economic policy making and are enshrined in most central bank mandates. But even before the COVID-19 crisis, it had become clear that traditional economic measures have increasingly diverged from social outcomes. The economic expansion of the past decade was a success according to traditional measures of full employment, but it was accompanied by deteriorating social conditions across a variety of measures (inequality, health and safety, educational attainment, infrastructure quality, housing affordability, and so on). With the COVID-19 crisis, the pressures have come to a head as the worst economic downturn in decades is hitting the most vulnerable the hardest.

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Over the past two decades, China’s secular rise dominated commodity markets, as its industrialization required a massive amount of raw materials to build up the country. As we consider the future, we see many reasons to be bullish on commodities tactically, but one of the most important secular factors will likely support industrial commodity demand for years to come: the shift in global economies away from fossil fuels and toward greener energy. To enable this transition, the rising share of electric power (EVs) in the world car fleet and the rising share of renewable energy in the generation of electric power, along with their requisite infrastructure, all require significant raw materials. These secular forces will support the demand for metals at the same time that future supply growth is restrained due to producers’ low investment in new capacity in recent years. Too much demand relative to supply will require higher prices until demand growth is constrained and/or new sources of supply are brought online. Given the substantial lag between a producer investing and bringing new capacity online, such commodity imbalances typically unfold over many years until they get resolved.

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Throughout its history, the U.S. domestic Asset Management Industry, projected by PwC to grow to $71.2 trillion in assets under management by 20251, has exhibited an empirical lack of diversity with respect to gender and ethnicity within its ranks. Numerous studies have shown that Women and People of Color (“POC”) are underrepresented in the Industry, including a 2019 study commissioned by the Knight Foundation finding that Asset Management firms owned substantially or majority-owned by Women or POC managed only 1.3% of the Industry’s total assets under management. Encouragingly, we do know that for many in the Limited Partner allocation universe, Diversity, Equity & Inclusion (“DEI”) is being prioritized in manager diligence and monitoring processes. We even see investors that may not have formal Emerging or Diverse Manager programs applying diversity factors when assessing potential investments. Despite these trends, efforts remain inconsistent and uncoordinated. If you are an asset manager raising capital, you have likely seen this evidenced throughout processes that request “diversity” data around varied definitions and standards. Recognizing this, we highlight two themes around DEI initiatives in Asset Management that we view as vital focus points to achieve meaningful, coordinated progress:

1) Perhaps most importantly, there has been no actionable, standardized DEI measure that all Industry participants can leverage as a baseline and measuring tool for accountability and improvement. While there are selected metrics around ESG components, they are either too narrowly focused when it comes to DEI metrics, or too broadly so; and

2) Arbitrary thresholds for what constitute “Diverse Asset Managers” paint an incomplete picture of the state of DEI, and exclude a large group of vital participants from the conversation Our observations around deeper engagement with respect to DEI in Asset Management from various Industry stakeholders lead us to conclude that advanced efforts require a new standardized and coordinated measuring methodology, one that all Industry participants can rely upon, and take part in. Momentum is building for the adoption of a standard performance indicator – a “FICO® Score” for DEI assessment.

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2020 underlined just how closely connected the world is. The pandemic broke out in a market in China but quickly spread to the rest of the world. The health crisis soon escalated into a serious economic crisis – a crisis of which we still do not know the full consequences of. Being able to act quickly and safely in a changing world is more important than ever. Many of PensionDanmark’s members and companies have endured periods of lockdown, and jobs have been lost as a consequence. The hotel and restaurant industry, the transport industry and the many employees at Denmark’s airports have been particularly hard hit. Many of the companies that were not shut down had to implement restrictions and other measures to protect themselves against COVID-19.
Throughout the crisis, we stayed focused on our core mission:

Enable our members to have a long and productive working life and give them a financially secure retirement. Our highly digitalised and automated work processes – combined with the responsible and professional conduct of our employees – proved to be key assets in those periods when most of our employees had to work from home. Our call centre operated smoothly with response times of just a few seconds, web service traffic was record-high, and our investment team was busier than ever.

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