Transparency is an important link in improving pension delivery, and the Global Pension Transparency Benchmark will help lift transparency standards and ultimately trust in pension institutions, according to its advisory board.

“It is hoped the benchmarking process will encourage a greater level of debate about lifting transparency standards within the pension community,” says David Atkin, deputy chief executive of AMP Capital. “By highlighting best practice, this should encourage everyone to improve their level of transparency and communication effectiveness. If key stakeholders have better levels of knowledge about the institutions that serve them, this will surely improve levels of trust and confidence in them as institutions.”

Transparency within the investment industry is not where it should be and it is hoped that the benchmark will focus attention on transparency as a lever for better outcomes.

Member of the GPTB advisory board Keith Ambachtsheer, who has been an advocate for better pension design for decades, says there is room for significant improvement when it comes to transparency.

“Real transparency is still a rare commodity in the pension industry. The GPTB initiative will help lift the veil on whether pension organisations are really creating value for their stakeholders… or not,” he says.

Lorelei Graye, has had vast experience in improving transparency in private asset disclosures during her time at South Carolina Retirement System Investment Commission and as the founder of the Adopting Data Standards Initiative aimed at building collaborative global data standards for private capital.

She says the the GPTB plays an important role for improved pension outcomes.

“Recognising the best examples in practice within our industry gives us all something to measure against and a standard for which to strive. I hope our work for the GPTB brings the need for consistency into sharp focus and elevates best practices,” she says. “Borrowing slightly from Mahatma Gandhi, I believe that a just cause is never damaged by truth and so transparency will ultimately only serve to strengthen the pensions and investments world because we thrive when markets, operations (including costs) are efficient, accurately measured, and effectively managed.”

Board member Angelique Laskewitz says that while the asset owner community has made great progress over recent years recognising the value of assessing governance in the investment decision making process and demanding greater levels of transparency from the companies they invest in to assess governance maturity and value creation, the same level of transparency has been slower within pension organisations.

“We have however, been slower in recognising that this level of good governance should also apply to the way we hold ourselves to account to the end beneficiaries we serve,” agrees fellow board member David Atkin. “To do this means being transparent about our strategies, how we make decisions, how we create long term value in all of its dimensions, how we hold ourselves accountable and how our stakeholders can assess our success in meeting their needs. Unfortunately much of the corporate reporting from the asset owner community currently  is focused on meeting minimum compliance requirements, rather than providing reportage that is engaging and meaningful.”

Atkin says that the GPTB is an important step in creating a public data set that enables benchmarking of the transparency quality of key asset owner institutions in leading economies around the world.

Similarly vice president of communications at Canadian fund IMCO, Neil Murphy, says pension funds need to look at the broader stakeholder community.

“As many pension organisations are active and significant investors in capital markets, there is an ever-increasing pressure to align with global financial disclosure standards. This form of transparency is directly linked to the trust they must foster among a wide range of stakeholders (beyond plan members), including investment partners, global media and government entities,” Murphy says.

“While public stakeholders may form opinions based on formal disclosures, which they may encounter through pension funds’ reporting, they increasingly draw conclusions on what they don’t see, or what is omitted. This underscores the critical nature of transparent, comprehensive and consistent reporting.”

Each member of the GPTB advisory board brings a unique perspective on the importance of transparency and reporting through their work experiences, and have been invaluable in advising the development of the benchmark.

For all the analysis and results click here.

David Villa, executive director and chief investment officer of the State of Wisconsin Investment Board, passed away on the weekend.

David Villa was a unique thinker and generous with his ideas. It was hard not to be swept away by his passion for change.

We had a close working relationship which was predicated on his deep thoughtfulness and desire to improve outcomes for his members and the many other pension fund members around the world for whom his peers managed money.

I first interviewed David in 2009 and more recently he has been a member of our international advisory board. As with many relationships, the recent customary use of zoom meetings allowed me to see the more private side of David and we discussed his love of music and his vast guitar collection.

He’d flick me emails telling me our website was slow, or that he wanted to put forward a colleague for a speaking spot at one of our events or to share one of his many ideas on how to improve pension fund processes and behaviours. He was engaged and thoughtful.

David has been with SWIB since 2006 when he joined as chief investment officer and was named executive director in 2018.

In my first interview with him in 2009 we discussed manager selection and monitoring,  in-house investments, costs and risks; themes that resonated in every conversation as we ruminated over a path to pension efficiency.

At that time David was campaigning to emphasise the importance of allocating capital according to risk instead of dollars, and to question each investment’s contribution to risk.

“Risk is the same as loss. Many think of risk as volatility, the swing, but it’s the risk of really bad stuff happening,” he said at the time. “In Wisconsin we hunt deer from the age of 9, and from then until the age of 85 you could keep track of your hunting results, measure the distance of where you shot from and the hit rate. But the real risk is a bear coming into your tent in the middle of the night and waking you up.”

In 2010 SWIB announced a new asset allocation strategy that included the use of leverage and risk parity, something that was broadly criticised in the local media which accused the fund of gambling with taxpayers’ money. But it was innovative in the pension world and something that David and his team had been contemplating for about three years.

At the time SWIB’s allocation to equities comprised about half of the core fund’s assets but 90 per cent of the total fund volatility, so the rationale was to trade a reduction in the allocation to stocks for the lower risk of fixed income. The new allocation shifted its allocation out of equities into fixed income and added leverage.

This approach also led to some meaningful relationships with managers and the ability for the fund to call on its managers’ knowledge and expertise. This ultimately resulted in its in-house team running levered strategies itself.

This innovative and brave approach, under David’s guidance at Wisconsin, has also spilled out to other funds, with the Public Employees Retirement Association of New Mexico a notable example in building a risk parity approach using leverage. The approach has been a big contributor to SWIB’s fully funded status.

David was a lifelong learner, with degrees from Princeton, Stanford and Northwestern universities. He was academically minded and thorough.

In 2013 David presented the results of a study he had worked on for two years with Sorina Zahan, partner and chief investment officer of Chicago-based Core Capital Management, at the Top1000funds.com Fiduciary Investors Symposium.

Drawn from two years of research their study into benefit design developed a mathematical framework to compare the different vulnerabilities and returns within defined benefit, defined contribution and hybrid pension schemes.

David showed how hybrid pension schemes, combining both defined contribution and defined benefit characteristics, are best for governance because they align interest of both employees and sponsors. Importantly he highlighted that the funding crisis in the US was a result of bad governance. It’s another example of his commitment to the fact he was managing other people’s money but also a commitment to investigating efficiency and challenging the status quo.

Back in 2016 the fund’s strategy was built on a two-pronged attack; building a portfolio of hedge funds that aimed to provide a higher quality source of alpha on top of existing market beta exposures, and continuing to building an internally managed, multi-asset division to provide a diversified source of return generation.

Under David’s leadership, the $120 billion fund has grown its internal management from 21 per cent to over 50 per cent of assets, generated strong returns at a lower cost than its peers, and during the last five years added $1.9 billion above its performance benchmarks.

Managing liquidity was always front and centre of his tenure as CIO which was not only a risk management tool but an opportunity, with Wisconsin able to provide liquidity in times of crisis. More recently he emphasised the discipline of rebalancing.

SWIB is unusual as it does not have an automatic rebalancing process, rather the senior investment team votes every month on the portfolio positions. While it does have limits imposed by the board, they are pretty wide and it’s rare to bump up against them.

“At this moment we are fearless rebalancers,” Villa said as the COVID crisis hit in April last year. “A lot of return will come from being willing to rebalance without worrying about what might happen. We are also very liquid. Our asset allocation is built around publicly traded securities so we are extremely liquid, and there are deep derivative markets that allow us to rebalance synthetically. Fourteen years ago it would take us eight weeks to rebalance, today it takes us less than 24 hours.”

Under David’s leadership, the State of Wisconsin Investment Board has become renowned for its diverse investment strategy, internal management, benchmark-beating results and fully funded status. More recently the Madison-based fund also leads peers in investment management technology.

David was always looking to the future, and more recently that included some monumental transformation of the internal systems and the use of technology to manage and monitor the portfolio. He was a bright light in bringing public pension fund processes in from the dark ages. More recently David was working on the internal technology systems and building Wisconsin into a first class funds management firm by building a data warehouse, improving data governance, upgrading the performance analytics engine, centralising the portfolio engineering function and upgrading technology platform for private equity.

The last time we spoke, in December last year, he was contemplating the impact of the COVID-19 crisis and the continued ignorance and inability of the finance industry to look beyond traditional models in assessing global risks.

“Global health networks faced pandemics and potential pandemics in the past with Legionnaires disease, AIDS, bird flu, SARS, and MERS but going into 2020 the market, press, and others acted as though nobody anticipated a COVID-type event. What bothers me is what other risks may exist in plain sight that the marketplace underestimates?” he says.

“Climate change and ocean acidification is disregarded. War ships on alert and in close proximity in disputed regions of the oceans add uncertainty. In the background of these risks, the financial promises made to workers to partially replace income in retirement may need to be broken by governments that have failed to properly fund public pensions. The consequences of this myopia will not be felt next quarter or even next year but can easily become a crisis within the next two decades.”

David Villa is well remembered and will be missed.

 

Hedge funds are getting a bad press again, but for Dutch fund BpfBOUW the latest skirmish simply underscores their importance in a portfolio as Erik Hulshof, trustee and chair of the investment committee explains.

Once again, hedge funds have been painted with a villainous brush. But far from cooling on BpfBOUW’s 5.1 per cent allocation to mostly market neutral strategies, Erik Hulshof, trustee and chair of the investment committee at the pension fund believes the latest skirmish simply goes to underscore the important role they play in the €73.1 billion portfolio for the Netherland’s construction workers. The high-profile battle between retail investors co-ordinating their actions on social media platform Reddit to target hedge funds’ short positions has also highlighted the importance of hedge funds in providing liquidity and price discovery, he argues.

The ability for investors to go short and profit when a company’s share price falls is an important market phenomenon, forcing both corporate transparency and the market to look at the intrinsic risks of a company, he says. Elsewhere, going short allows for liquidity because of the demand for stock to support those positions.

“If the only way is up, and investors only ever see the positives, it doesn’t show the other side of the risk in the stock market,” says Hulshof who joined BpfBOUW as a trustee six years ago when the fund’s assets under management were €38 billion.

The ability to go short is also an important characteristic for a free market, he continues.

“Investors are allowed to take these types of positions and if they are proved wrong, it is their loss.”

It comes down to allowing the market to ultimately define the value of a company based on demand and offering, and hedge funds are an important component in that real-time price discovery.

“When someone buys and sells against a price, that is the reality of the price at that moment. In this sense, the market is right at that moment.”

Of course, this doesn’t mean the market is always right. He cites a lack of information, an unexpected market development like the pandemic or over-optimism or pessimism as typical triggers behind the booms and busts which prove that markets can be wrong. He is also quick to denounce all attempts to try and influence the market in a negative way.

None of the hedge funds in BpfBOUW portfolio (run by some 50 managers overseen and selected by New York-based New Holland Capital) have been hit by the phenomena – only 8 per cent of the allocation is invested in traditional long/short equity strategies anyway. Yet he is under no illusion of the risks of these types of strategies and believes the GameStop saga has served up a timely reminder of the dangers of going short.

“It is important to see that there is no free lunch and that going short has a high degree of risk involved. If you need to close your positions, if things are getting too expensive, this is costly.”

But that caution must also be set against the opportunity. None more so than the positive effect of the allocation on BpfBOUW’s risk return profile over the last tumultuous year of volatility and low interest rates.

“Equities fell 30 per cent last February and March, but our hedge fund portfolio managed by NHC lost just 1 per cent. It is less effected by developments in liquid markets, and has a real focus on generating alpha,” he says. Market dislocation and a wealth of opportunity, plus a desire to diversify the portfolio away from equity and credit risk, means the portfolio is currently overweight.

As for the cost of investing in hedge funds, he believes it is worth it, arguing that quality comes with a price.

“There is a high-cost ratio because these investments are way more expensive, both on a base fee perspective as well as a performance fee perspective compared to standard equity and credit investments. However, they deliver a significant added value to the risk return profile of the portfolio, as shown in March.”

In 2020 BpfBOUW’s hedge fund allocation returned over 10 per cent and reduced the fund’s volatility.

He acknowledges that the logic of investing in hedge funds is challenging when equity markets, long stoked by low interest rates and central bank liquidity, are doing well.

“Why pay for expensive hedge funds which normally deliver less performance over a longer period than equity?” he asks. Yet looking through the prism of portfolio construction, the right hedge funds and the right manager can bring real benefits.

“It is about finding a balance between cost and knowledge, the optimisation of risk-return and focusing on achieving a low correlation in hedge funds compared to other asset classes.”

Real estate

Turning the conversation to illiquid assets, Hulshof explains that BpfBOUW is midway through increasing its real estate allocation to 19 per cent of assets under management from today’s 17 per cent. The strategy will centre around building an international allocation to Europe (excluding Netherlands), US and Asia Pacific to create a 60:40 Netherlands/international split compared to the current 70 per cent allocation to the Netherlands.

“It is quite a significant shift,” he says.

The focus will be on direct investments via BpfBOUW’s wholly owned manager Bouwinvest Real Estate Investors which also invests (next to BpfBOUW) in Dutch real estate on behalf of around 25 other investors.

“We have allowed them to open up their proposition and broaden their client base rather than just work for us,” he says. As for opportunities, he sees residential property, logistics, healthcare, student housing and senior living as key targets.

In a world awash with liquidity and “where everything is expensive,” Hulshof concludes that it is difficult to see where to invest. However, alternatives with an illiquidity premium like real estate, private equity (where the fund has a 3.7 per cent allocation) and BpfBOUW’s mortgage allocations are attractive havens. It is also these allocations that he predicts will grow most at the fund in coming years and swell the manager roster. It is difficult to increase alternative allocations with existing managers because many are closed, have limited capacity or want a diversified client base.

“It’s difficult to guess what the future will be,” he concludes. “Normally we look 5-10 years ahead, but we can’t now because of all the uncertainty.”

The $255 billion Californian pension fund, CalSTRS, has embarked on a new era of “activist stewardship” which will see it take on large companies such as Exxon Mobil which have not responded to shareholder engagement.

ExxonMobil is a significant company for any global investor. It has held a position in the global index since 1928 and despite its more recent fall from grace – exiting the Dow Jones Industrial average in August last year – it’s hard to avoid such a company as a universal owner.

CalSTRS clearly articulates that one of its four stewardship priorities is the low-carbon transition, and famously ExxonMobil is failing on this account with a very modest investment of $3 billion over five years in carbon capture and lower-emission energy technologies. As Bob Eccles and Colin Mayer point out in the Harvard Business Review article “the company’s poor capital allocation decisions are based on decades of denial about climate change on the company’s strategy”.

For long-term investors, like CalSTRS that are interested in its investee companies’ long-term strategies to adapt to a changing world, this is not adequate. But all of the traditional shareholder engagement strategies used by CalSTRS with regard to Exxon have failed.

“Last year we voted against the entire board and we increased opposition to directors but they’ve ignored shareholder proposals and dismissed engagements from coalitions like Climate Action 100+,” says Aeisha Mastagni, who leads the fund’s stewardship activities.

To this end, CalSTRS is supporting an alternative director slate put forward by activist hedge fund Engine No.1. The new alternative directors they suggest have deep expertise in energy and other industries undergoing transformation that will address ExxonMobil’s financial underperformance and better prepare for the global energy transition, all the while aligning incentives with shareholder value creation. The argument is that while the current board are all accomplished, they don’t have the expertise in energy, or industry transformation, to steer the company through what is inevitable.

“This hits on all our stewardship priorities and how we make these companies more resilient,” Mastagni says. “We are not trying to argue with them about when this low carbon transition will happen, but it will happen. The biggest risk for Exxon is assuming the status quo – that is a very risky bet for us. Most companies should be preparing for multiple scenarios.”

Mastagni says activist stewardship gives the fund a full suite of tools that can be embedded into financial analysis in order to create value.

“Part of this is our answer to the divestment advocates,” she says. “For some people we will never satisfy them unless we are fossil fuel free. We have a plan for low carbon transition and need the big oil and gas companies to be part of the solution. With traditional divestment you end up divesting from the whole industry or sector and can throw out the good with the bad. We have a whole suite of tools available as shareholders from proxy voting to shareholder proposals, collaborative engagement and now the other side is activist stewardship where the resources get more intensive.”

David v Goliath

Engine No.1 is a relatively small investment firm, built with big ambition. The firm was founded on the belief that a company’s ability to create long-term shareholder value depends on the investments it makes in jobs, workers, communities and the environment.

CalSTRS doesn’t invest with Engine No.1 but Mastagni and one of the firm’s executives, Charlie Penner have known each other for years and been aligned on strategies to improve shareholder value, including a campaign in 2018 to get Apple to  improve parental control tools on their smartphones.

“This is the idea of how using our role as an engaged constructive shareholder and combine that with the tools of an activist investor and have that be based on the foundation of good deep fundamental analysis,” Mastagni says. “This type of strategy takes a lot of resources so has to be a path to value creation.”

CalSTRS only owns about $300 million of Exxon’s shares, but Mastagni isn’t necessarily phased by this.

“It’s not about the size of your investment, it’s about the credibility of your argument,” she says.

“I have met all the board candidates and looked at their qualifications, so we felt very comfortable coming out with the alternative slate. This slate has the right skills and expertise to make Exxon become a more competitive company, turn around the performance and make it a more resilient firm.”

The credibility of their argument will be tested at the annual shareholder meeting in May. While CalSTRS may only hold a small relative holding, the three index funds – SsgA, Vanguard and Blackrock – hold 25 per cent of the company, and there is hope these and other investors will back the proposal.

Earlier this month Exxon added a new board member, but for CalSTRS that was too little too late. Instead, it says significant change is needed. For now that means new board members, but if the slate is successful Mastagni sees that as a signal of shareholder discontent that could trigger more action.

“At the end of the day the board and directors around that table are representatives inside the board room so the responsibility does rest on them,” she says. “If we are successful in May that means there is still a lot of shareholder discontent, and the board has to take a look at the executive leadership.”

Mastagni makes it clear this is a long-term strategy and there is still a long road ahead.

“Even if we are successful and get the new directors on the board, they still need time to make change. As a long-term investor we have time, and we want them to be successful,” she says.

Because such a strategy is so resource intensive, this activist stewardship can only target one or two companies per year. Mastagni has been talking to ExxonMobil for about 12 years, and she says the tone of the conversation has changed significantly with this new activist strategy.

“For other companies it may not get to this point, it might just be something in the press or quiet engagement,” she says. “We were worried we might be seen to be a bit aggressive, a Californian fund going after big bad oil. But the financial analysis and idea has really resonated. It’s focused on the financial case.”

 

Aiesha Mastagni will speak at the Top1000funds.com Sustainability conference online on March 9-10. For more information and to register, click here.

How Will Climate Change and Electrification Impact Investing?
A roadmap for the electric revolution

With a federal government turn over to the Democratic party this year, hopes are high for a focused, comprehensive federal approach to tackling climate change, rather than the patchwork state approach of the past administration. President Biden has consistently highlighted the climate crisis as urgent, and the team of advisors he has assembled on the issue demonstrates his commitment. Concurrently, the European Union has focused its own economic plan on the theme of “building back better,” tying climate concerns to Covid recovery. In what will hopefully turn out to be ‘in the nick of time’, the world has seemingly increased earnest and serious efforts to combat climate change, with real commitments, policies, intention, and funding—and investors are ready.

Click here to read the full paper.

S&P Global has published its annual yearbook showcasing the sustainability performance of the world’s largest companies.

Over 7,000 companies were assessed as part of the 2020 S&P Global Corporate Sustainability Assessment (CSA), which resulted in 70 gold class, 74 silver class, and 98 bronze class medals being awarded to companies in the Sustainability Yearbook 2021.

Click here to read the full paper.