Germany’s €7 billion MetallRente, founded in 2001 by employer’s organisation Gesamtmetall and the trade union IG Metall for workers in the metal and electrical industries, offers a variety of investment options for its beneficiaries. Almost all are restricted and conservative strategies like the direct insurance option MetallDirektversicherung and the traditional MetallPensionskasse, where annual returns typically languish between 3 and 4 per cent.

One vehicle however, MetallRente’s so-called Pensionsfonds allocation, invests in the capital markets offering beneficiaries chunky equity exposure over grindingly low interest rates, more flexible asset management and all the benefits of risk and reward.  The Pensionfonds vehicle, begun in 2003 and still only accounting for €270 million of MetallRente’s total assets under management, may be the pension fund’s least popular investment vehicle amongst a conservative saver cohort but it is by far the most exciting part of the overall fund for its liquidity, dynamic equity exposure and strong ESG focus. It’s also where veteran pension expert Heribert Karch, managing director of MetallRente, is passionately focusing his efforts.

“We believe the pension fund is the vehicle of the future,” he says in an interview from MetallRente’s Berlin headquarters. “The German pension industry has been conservative for a long time characterised by a dominant belief that guarantees equate to safety. But this doesn’t achieve the returns we need to provide good pensions to our people,” he says referencing the Pensionsfonds’ annual 5.2 per cent return versus the lower returns of the insurance vehicles to illustrate his point.

“The MetallPensionsfonds is our most dynamic and fastest-growing product with increasing importance not only in our portfolio, but for many employers and employees in Germany in general.”

With over 80 per cent of the allocation in listed equity in developed and emerging markets (56 per cent and 22 per cent respectively) the Pensionsfonds portfolio has the largest equity exposure of any other German pension fund. The allocation is actively managed by external manager Allianz Global Investors with a focus on value investing and ESG.

“Active management provides a better framework for our risk management, because we have such a high share of equities,” explains Karch. “It means that market risks can be identified and acted upon very quickly, and that we can ensure the implementation of our values in the investment decision process.”

That ability to act quickly was evident after the collapse of Lehman Brothers in 2008 when the fund cut its equity allocation from 80 per cent to 11 per cent over a short period. But finding the right point in 2009 at which to re-enter the market was challenging, particularly because of the need to balance rules-driven risk management with discretionary decision making. It’s the kind of challenge that feeds into the fund’s ongoing debate around adopting a different approach.

Today, stakeholder-level discussions comprising the fund’s union and employer shareholders, MetallRente’s insurance partner Allianz and asset manager AGI, do question the benefits of the Pensionsfonds dynamic risk management versus a more stable asset allocation, says Karch. Discussions centre around the pros and cons of investing in a more diverse asset allocation with more buy and hold strategies which could lead to a lower equity exposure that allows the fund to remain inside the market during downturns.

“I can’t say if we will continue with our dynamic risk steering strategy with high equity exposure, or if we will adopt a strategy with a less risky asset exposure, but the discussion is ongoing,” says Karch.

Wider policy change in Germany is also fuelling the debate. Employers and unions are under growing pressure to introduce Germany’s new social partner model which seeks to encourage more pure DC schemes without guarantees. So far, no existing occupational schemes have introduced the DC model, but the debate is building interest in risk-return strategies like MetallRente’s Pensionsfond’s vehicle, says Karch.

“If, and it’s a big if, our shareholders agreed to adopt the social partner model there is the possibility we would readjust our investment strategy with a different balance between asset classes and more buy and hold strategies than we have at the moment.”

The social partner model would also allow Germany’s pension funds to create systems and products in a new and different way, ultimately leading to more assets under management and lower costs, enthuses Karch who is spending a great deal of his time researching a model to suit MetallRente’s management and labour sharehholders. But change is set against a challenging backdrop.

None more so than communication given Germany’s cautious investment culture.

“The introduction of a collective DC model is economically interesting, but from a communication point of view it is a challenge,” he says.

Many pension funds are reluctant to introduce yet another model to their retirement benefits offerings.

At MetallRente, take up of the Pensionsfonds strategy is growing but it remains tiny compared to savers’ preference for insurance-style savings programs. And because MetallPensionsfonds is the smallest of MetallRente’s vehicles it doesn’t have the size or clout to negotiate costs and fees like other European pension funds – although Karch insists this will change once the new law takes root and the Pensionsfonds AUM grows.

Any new strategy could also expose the fund to more reputational risk, something shareholders are particularly wary of and which has helped drive the fund’s ESG strategy to date.

“Our unions don’t want any ethical risk, lack of transparency or speculation around, for example, un-transparent commodity investment,” says Karch.

The challenges of ESG investment in allocations other than equity is one of the reasons behind the fund avoiding other asset classes, he explains.

“In our opinion the only really reliable way to meet ESG guidelines is via publicly listed companies. Applying ESG principles to other asset classes is still very difficult, but in stocks you can use fundamental research that gives a serious estimate to what extent the company has a sustainability approach.”

ESG strategy at the fund has developed in recent years from pure negative screening of stocks, to increasing allocations to best in class methods and integrating global laws like labour regulation. The Pensionsfonds allocation is also beefing up its reporting processes, and the detail and depth of information on its ESG priorities that it passes onto its members and external manager.

Today Karch is gradually scaling back his workload, evident in his decision to retire as chair of Germany’s occupational pensions association. But slowing down won’t stop his determination to bring a return-seeking investment culture to Germany.

“For young people there is no advantage to having an insurance product. I can’t advise our young people to go into these types of investment products,” he concludes.

 

In 2013, I persuaded key legislators that in order for Japan’s (then-proposed) “Stewardship Code” to have a positive impact, Japan needed to also put in place a corporate governance code that would require detailed disclosure of governance practices at each company. My major point was that without such disclosure, asset owners and managers would not be able to be good “stewards” even if they promised to perform that role. As I wrote in my very first memo to dietman Yasuhisa Shiozaki, the two codes would act as “two wheels of a cart”.

This argument and others stuck, and as a result Japan now has not only a Stewardship Code (SC) but also a Corporate Governance Code to make it more effective. And vice versa.

As of this writing, no fewer than 240 institutions have signed Japan’s voluntary SC, which is administered by the Financial Services Agency (FSA).  But the biggest problem remains – many of the asset owners at the top of Japan’s investment chain have not been mobilised to hold boards and executives accountable.

There are two reasons for this. First, out of more than 700 defined-benefit corporate pension plans in Japan, only five non-financial corporate pension plans have signed the SC. Second, a major portion of Japan’s asset owners are the companies themselves, in the form of direct “policy holdings” of the shares issued by other companies. Japan’s dual walls of “conflicted pension governance” and “allegiant shareholders” need to be torn down.

Because asset managers and financial institutions are regulated by the FSA, it was no surprise that essentially all major domestic asset managers, as well as the pension funds of financial institutions, immediately signed the SC when it was promulgated in 2014. However, of the 700+ private pension plans at non-financial companies (and many more if you count defined contribution plans) that should have been signing, at that point only the pension fund at Secom, the security company, signed the SC.  Even now, only five non-financial pension plans have signed the SC.

This gap is astounding, and very damaging to Japan’s equity market. Private pension funds are among the biggest customers of fund managers but unlike public pension plans, they are not in the media spotlight. As such, if well-governed they are best-positioned to influence ESG analysis, engagement, and proxy voting practices, by switching their funds to the managers who are most dedicated.

Oddly, Japanese companies pride themselves on the strength of their covenant to employees, yet neglect employees’ pensions by failing to sign the stewardship code and report how they have handled those funds. They claim to care very much about their employees, but when judged by their actions, they do not appear to care very much about the finances and post-retirement income of those same employees.

Why the disconnect? One reason is that Japanese companies are afraid that if their pension funds become more proactive, new governance and proxy voting practices might come back and hit them in the face at their own shareholder meetings. For instance, they might have to explain why more than one-third of the board is not composed of independent directors, if their pension fund’s asset manager adopted proxy voting guidelines reflecting that requirement after they signed the SC.

Another reason is that companies tend to view their pension fund as “still our money, sort of”. If a company is nearing bankruptcy, it will often go to the employee beneficiaries and negotiate a reduction in pension benefits in order to survive and protect the jobs that still exist, as JAL did in 2010. In this sense, pension fund monies really are “still our money, sort of”. To add insult to injury, Japanese corporate pension funds are not guaranteed by the government as they are in the US., so if the pension fund is underfunded at the time of bankruptcy, there is no backstop. Employees may well be cut back anyway.

In less visible ways Japanese companies also have their cake and eat it too. For instance, many of their “allegiant shareholdings” that are shares of business counterparties (customers, suppliers, group companies, etc.) are technically pledged to the pension fund via trusts, and so do not appear on the balance sheet as assets, but the company retains full voting rights at the business counterparty’s AGM. By doing this, the company can kill three birds with one stone: (a) the shares do not add to the amounts of non-core holdings on the balance sheet that shareholders could criticise as an inefficient use of capital; (b) for accounting purposes, the pension fund can be made to appear “fully funded”, even if it does not have an optimally diversified portfolio; and (c) the company gets to continue being an “allegiant shareholder” by robotically voting in agreement with executives of the business counterparties, – which in many cases means it will receive the same treatment in return. (The nonprofit I head up, BDTI, is now collecting precise data on these holdings.)

Add this all up, and you can see why most Japanese corporate pension funds don’t want pesky “stewardship” policies about diversifications, policing conflicts of interests, and responsible proxy voting to get in the way of their incestuous eating of cakes and having them too.

Alarmed by the sole presence of Secom on the list of signatories, in 2015 and 2016 I advised the Prime Minister, and then the Minister of Health, Labor and Welfare (MHLW) to focus on the theme of pension governance, given that Japan still has no law that comes close to ERISA. In my spare time, I researched the law, interviewed experts, and drafted proposed changes to the regulations of the law regarding corporate pensions, – essentially, requiring pension funds to simply disclose to beneficiaries: (a) their policy about stewardship, if any; and (b) whether they have signed the SC. Even this simple “comply-or-explain” proposal was immediately kicked aside by the MHLW bureaucrats, but it did lead to the formation of a study group between the MHLW and the Pension Fund Association (with the FSA as observer) for the express purpose of “encouraging corporate pension funds to sign the stewardship code.”

As a result of the huge report this team produced, it was then rumored that the huge pension funds of two iconic companies, Toyota and Panasonic, were considering signing the stewardship code. If either of them were to sign, it was said that others would follow, because it would be embarrassing in front of employees not to sign.

Since then, in January of 2018 Panasonic’s pension fund finally signed, followed by the pension funds of Eisai, Mitsubishi Trading and NTT. Shortly thereafter, Japan’s Corporate Governance Code was revised, and one of the changes was to add a new section, “Roles of Corporate Pension Funds as Asset Owners”, which essentially requires companies to do everything they normally would need to do (e.g., manage conflicts of interest) in order to have no excuse for not signing the voluntary S.C.

This is all progress of a sort, but five years after the creation of the stewardship code, the pension regulator and protector of employees (the MHLW) should be doing a lot more than writing reports and then hiding behind the FSA, who does not have legal jurisdiction over pension funds and therefore cannot appear to specifically require them to sign its SC. And we should have a lot more than five companies’ pension funds lining up to sign an SC. put in place in 2014.

At the same time, foreign shareholders need to demand specific answers from companies to three key questions: (a) “when does your pension fund plan to sign the S.C.?” (b) “if you include off-balance sheet but voted shares, will the proportion of your “policy stocks” to net assets less cash exceed 10 per cent at FYE?” and (c) “who exactly, at what rank and for how many hours, received director training last year, and on what topics?” If specific answers to these three questions are not forthcoming or are not satisfactory, investors should tell such companies that they will probably vote against the re-election of the CEO.

 

Nicholas Benes is representative director of The Board Director Training Institute of Japan

 

Disruption is a powerful word, one that connotes massive and unsettling change for the world’s largest investors. I feel many incumbents in the financial services industry have been on the defensive when it comes to disruption, which has been coming in numerous forms on multiple fronts.

Let’s begin with my premise that disruption is not new in our industry. For example, stock exchanges moved away from paper-based trading decades ago. Algorithmic trading has been a fact of life on equity floors for years as well. Floor traders receded from the scene and more sat in front of banks of computer screens — or the computers did the work for them. Jobs were lost and firms had to reorganise themselves, but most adapted.

I could go on, but in the frenzied discussions around new buzzwords — fintech platforms and venture capital-funded unicorns — disruption is often portrayed as something new. That is not the case. It may feel more intense, but disruption has been a fact of life in our industry for quite some time.

Given his passing earlier this year, I have been reflecting on Jack Bogle’s contributions to our industry. He pushed the industry to change, and he never stopped thinking about ways in which our industry could improve. Jack believed, without any hesitation, that investors’ interests must come first.

Index-based management became mainstream under his leadership. So perhaps Jack was the ultimate disruptor in our field. He was certainly a visionary — and not all of us will live up to his level of genius.

Many look at the rise of indexation as a negative disruptor. But let’s not lose sight of the positives: investors benefit from lower fees, and the rise of indexation has driven costs lower and brought about more transparency. We exist to serve our clients and our investors, not the other way around.

Like indexation investing, no one would debate the disruptive role of financial technology. I believe that the advance of fintech into our world will eventually represent an unalloyed positive. Technology offers us the opportunity to scale, to dramatically improve transparency, and to clearly demonstrate that we help clients achieve their end investment goals. In the same way that the discovery of bacteria and the need for hygiene revolutionised and legitimised the medical profession in the nineteenth century, I believe financial technology provides us with a moment in time of equal importance.

As financial professionals, we must learn to leverage disruption, technological or otherwise, so that we can use it to clearly establish our purpose and our value to our clients and our investors. We should not fear it, nor should we fight it.

Technological disruption is but one source of change. Some other looming disruptions to consider:

  • The opening up of asset management in China: It’s an enormous market, with tremendous opportunity. The industry will surely be disrupted in China as the government allows foreign firms to take controlling stakes and to operate domestically. However, Chinese firms intend to take on the world, and they have the strength of a huge internal market to support them, one that is driven by high technology adoption rates. Chinese asset management companies will challenge Western incumbents.
  • The developing middle class in India and Africa: The UN estimates that more than half of the world’s population growth will be in Africa by 2050. And we already know the size of the market in India. Emerging middle classes mean more investable assets and investors who can truly benefit from the services our industry has to offer – and in places where the financial system is relatively undeveloped. Again, vast opportunity for new business models.
  • The rise of responsible investing/sustainable investing/ESG investing: True, ESG raises many questions around what it truly means, how to measure it, etc. Some think impact investing, some think sustainability, some think climate change, social impact, corporate governance, etc. But however you define it, one thing is certain: investors want more of it. Our CFA Institute research shows 73 per cent of the investors we surveyed take ESG factors into account. I have no doubt that percentage will continue to rise in the years ahead. That represents a true market opportunity.
  • Margin pressure. Increasing operational costs (such ascompliance and technology) plus fee competition are driving margins down sharply. Mergers and acquisitions are increasing among asset managers. The big will get bigger and the middle will get squeezed. Those who are not adding true value to clients and investors will disappear.

We live in interesting times. Disruption will continue to change the dynamics in our industry. Most leaders of investment management firms have no special powers to see around corners; few of us are Jack Bogles. Nevertheless, we cannot play defence against these shifting sands of change.

We need to boldly envision a future where client interests are served through a changing product mix at lower margins in new markets – all driven by new technology solutions. Industry participants cannot sit still; we need to innovate and be prepared to be the disruptor ourselves. Above all else, we must embrace the notion that disruption has been with us for a long time and will ultimately lead to the benefit of our clients. Isn’t that what we are all about?

Paul Smith, CFA, is president and CEO of CFA Institute.

Disruption is the theme of the 72nd CFA Institute Annual Conference in London May 12-15.. For more information click here 

 

 

Psychological safety is a rich concept in team management. In a psychologically safe team, members feel accepted and respected. They are encouraged to be themselves without the fear of negative consequences to self-image, status or career. But what does it have to do with making better collective decisions?

In institutional investing, we make decisions together, not alone. However, groups vary significantly in their effectiveness. Some groups successfully correct the errors of their members through interaction, while others actually amplify errors. So what makes some groups better decision-makers than others? In this article I explore one aspect.

How a group thinks and decides collectively depends on the thought processes inside each member and the interactions between members. One of the underpinning pillars for the wisdom of crowds is diverse opinions.

To be able to access diverse opinions in a group, there are two conditions. First, we need to have a team that is cognitively diverse. That is, the members of the group have genuinely different perspectives and process information differently. Second, members of the group are willing and encouraged to express their own opinions unreservedly, however much they may conflict with other opinions.

Over recent years we as an industry have increased our awareness of cognitive diversity and have established initiatives to move away from a rather homogenous talent pool. Bravo to the good work!

But this is a long and hard process. Change doesn’t happen overnight. Also the impact of cognitive diversity on team performance is not exactly linear. As the team becomes increasingly diverse, there is an increased risk of dysfunction in team process and performance when the tension of social differences starts to build up. So I can’t quite say to you just go out and recruit more members who are different to your existing team. It really depends.

Is there anything else we can do while slowly pushing the cognitive diversity train forward? The answer is yes. That is to make your team a psychological safe zone for disagreement and diverse opinions.

How can we make this happen? There are cultural aspects you can work on and there are specific techniques you can implement.

Let me start with the team culture. Is your culture focusing on creating harmony inside the team to the extent that it starts to get in the way of bringing out alternative viewpoints? Or is your culture built around idea meritocracy where the team collectively gives a fair share of attention to all ideas, regardless of whose ideas they are?

Your choice will lead to very different team member behaviour. If members are discouraged to share their dissent, what is the point of having a cognitively diverse team anyway? If collectively we focus more on the ideas rather than the source of ideas, the best ideas are more likely to win out, as opposed to the ideas of the highest paid person in the team.

Creating the right team culture normally involves leaders setting the right tone, leading by example, correcting the wrong behaviours and rewarding the right behaviours.

The team I am part of does pretty well on this front. Every now and then a new member joins the team and experiences a cultural shock. The intensity of intellectual argument can lead to a certain level of discomfort for someone new to the environment. But the key is to learn to disagree and debate without descending into heated personal arguments. We might often disagree but no one is disagreeable. It is ok to attack the ideas. It is not ok to attack the person.

Not every team is comfortable with this high level of openness. There is, however, still the option to use certain techniques to deliberately create psychological safe zones for members.

A pre-mortem is one of them. Gary Klein is credited by many to be the first to introduce the concept of pre-mortem as a management practice. “Unlike a typical critiquing session, in which project team members are asked what might go wrong, the pre-mortem operates on the assumption that the “patient” has died, and so asks what did go wrong. The team members’ task is to generate plausible reasons for the project’s failure”.

There are two key benefits of doing a pre-mortem exercise. One, it creates an effective psychological safe zone for team members to openly talk about failure. It can head off fears that discussing things going wrong will be perceived as an attack on leaders’ judgement or as evidence of being a poor team player. It takes the team out of the context of defending its plan. In addition, an effective pre-mortem makes team members feel valued for their intelligence and creativity to think differently, a counter to overconfidence and group-think. In addition, it actually makes people more creative.

Another technique is ‘devil’s advocate’. While the conventional interpretation of the role is taking an opposing view for the sake of argument, it is no doubt more effective if someone who genuinely holds an opposing view is assigned the role. In doing so, the value of cognitive diversity is embraced by deliberately empowering the voice of an opposing view.

So here is the final pitch to someone who is managing a team that makes important collective decisions. Keep up the good work on building cognitive diversity. At the same time, make the best use of the cognitive diversity that already exists in your team. Break barriers to openness so people are not cautious about sticking their necks out. Create a psychologically safe space for your team.

Liang Yin is a senior investment consultant in the Thinking Ahead Group, an independent research team at Willis Towers Watson and executive to the Thinking Ahead Institute.

From the outside, investment strategy at Detailhandel, the €21 billion Dutch fund for retail workers, looks relatively simple. Ninety per cent of the portfolio is passive and the fund invests the bulk of its assets in three markets. Fixed income (58 per cent), equity (32 per cent) and real estate (4 per cent) plus a 4 per cent allocation to Dutch residential mortgages and a 2 per cent allocation to alternatives. But scratch beneath the surface and the fund is one of the most innovative amongst Dutch and global peers.

Detailhandel has just created a new index for its €5.8 billion global equity portfolio linked to four SDGs (8,12,13 and 16) that reflect its key ESG priorities around labour rights, economic growth and mitigating climate change. Not only is the pension fund one of the first to integrate SDGs in this way. The strategy is also trail blazing for its specific integration of beneficiary wishes around the SDGs following the results of a survey of their investment priorities. See Dutch fund commits to member preferences.

“This model is new. We think we are the first pension fund to incorporate SDGs to a simple developed market index,” said CIO Henk Groot in an interview from the fund’s Utrecht headquarters where a number of asset owners including a prominent US fund and numerous Dutch peers, keen to better tie their sustainability and ESG themes with their belief in low cost passive investment, have journeyed to find out more.

Working with BlackRock, which manages all 90 per cent of Detailhandel’s passive assets under management and now assists with all the analysis and monitoring, and index provider FTSE Russell the new index applies to the entire 26.4 per cent developed market equity allocation. FTSE Russell tilts company weights within the index based on a wide range of ESG scores based on hundreds of different criteria spanning environmental policy and governance. The result is improved ESG scores, a reduction in the fund’s carbon footprint and a continued passive mandate.

The fund’s exposure to CO2 emissions and fossil fuel reserves is forecast to decrease by approximately 50 per cent, while exposure to green revenue will increase by around 10 per cent. It is also low cost. Although the strategy has involved a one-off transition cost, management costs are on the same level as what the fund pays now. According to Detailhandel’s latest 2017 annual report management fees are 9.1 basis points, rising to 17.3 with transaction costs.

“Developing and integrating the index did involve a one-off transition cost but we managed to keep the overall management costs on the same level as what we used to pay,” Groot says.

 

How to integrate SDGs

The first step to integrating SDGs, or any more active sustainability policy, in a passive portfolio is to invest in segregated mandates rather than funds which apply their own ESG values, advised Groot. “It was important to move from fund investments to segregated mandates to allow us to apply our own bespoke ESG policy.”

He also advises investors to spend time working out which SDGs fit their ESG policy. The SDGs have broad descriptions, and some have a crossover of themes and goals; index providers also have their own methodologies that they apply to the SDGs.

“You need to be very clear and transparent that the SDGs you focus on, fit your own ESG themes,” he said. Detailhandel’s adopted SDGs include decent work and economic growth (SDG 8), responsible consumption and production (SDG 12) climate action (SDG 13) and peace, justice and strong institutions (SDG 16)

The customised benchmark has dropped 500 companies from Detailhandel’s original 1,600 stock portfolio. However, Groot explains this fallout is more subtle than any sweeping exclusion.

It is a consequence of FTSE Russell adjusting the company weights within the index according to its ESG analysis on the key SDG themes, not active exclusion.

“The overweighting and underweighting methodology we have used meant that the allocation to some companies became so small it wasn’t worth keeping them in,” he explains.

Now the fund has begun the process of building the same SDG index for its 5.8 per cent emerging market equity allocation, after which it hopes to apply it to its corporate bond portfolio too.

“We are in the early stages of seeing if we can do the same in emerging market equity. Then we’ll see if we can introduce an SDG index for our corporate bond allocation.” Setting up segregated accounts in emerging market equity where the fund has always invested in funds is one of the most challenging aspects.

“Opening segregated accounts in emerging markets is a long and difficult job. For example, opening a segregated account in India can take 6 months because of local market requirements,” he says.

The fund is no stranger to innovation. Three years ago, in what Groot describes as another “major change” Detailhandel allocated 4 per cent its AUM to Dutch mortgages to sharpen its lagging fixed income allocation with steady cashflows, funded from its European government bond portfolio. “Dutch mortgages have a high correlation to highly rated fixed income. The allocation fits in our matching portfolio and analysis showed that adding this asset category led to an increase of access return and a decrease of risk,” he says.

Oregon State Treasury, which manages the $77. 3 billion Oregon Public Employee Retirement Fund (OPERF) has continued to achieve top decile returns relative to the Wilshire Trust Universe Comparison Service (TUCS) of public funds, at the same time as de-risking and reconstituting half its giant portfolio, said CIO John Skjervem reviewing 2018 and cumulative investment performance figures at the March investment division meeting.

In recent years Oregon has begun lowering its allocation to private equity, its highest performing asset class, restructuring its public equity portfolio, its second highest performing asset class, and de-risking its fixed income and real estate allocations, all the while maintaining top decile performance over one, three and five years. Significantly Oregon ranks number one over seven, 10-year and 20-year periods.

“Our performance continues to be very good and I think the one, three, five and seven-year numbers are particularly important. We achieved top decile returns simultaneous to de-risking and reconstituting upwards of 50 per cent of the portfolio,” Skjervem said. “This was a period of time where we specifically reduced the allocation to our highest performing asset class, private equity, and reconstituted the structure of our second highest performing allocation, public equity, and then deliberately de-risked fixed income and real estate. Any one of those was substantive enough to impact returns and yet we took them all on simultaneously and still maintained our performance.”

Over the longer-term the fund ranked number one in the TUCS universe for 2018, which Skjervem acknowledged, but he also said that he thinks the changes made to the portfolio will make it “better and more resilient”.

“Top ranking amongst peers is awesome. I don’t want the moment to go by without saying how much I appreciate your work,” said Oregon Investment Council chair, Rukaiyah Adams, to the investment team. Moreover, the results vindicate the fund paying steep fees for private equity and active strategies, rather than indexing, Skjervem said.  “We would be billions of dollars worse off as a state, and as a fund, were we to follow that type of advice,” he said. “We spend millions of dollars on fees and carried interest and active management in the public part of the portfolio, and in exchange we’ve gotten billions. Spending millions to get billions seems like a pretty good deal.”

For the fiscal year ended June 30, 2018 total investment service and manager’s fees paid by OPERF was $680 million.

OPERF has an asset allocation of public equity (37.5 per cent), private equity (17.5 per cent), fixed income  (20 per cent), real estate (12.5 per cent) and alternative investments (12.5 per cent).

The fund’s investment beliefs are clearly reflected in its portfolio allocations – including the beliefs that “the equity risk premium will be rewarded” and that “private market investments can add significant value and represent a core OIC competency”.

Having said that, the Oregon Investment Council is gradually paring back the pension fund’s private equity allocation from an overweight position of 22.1 per cent, which had creeped up from 19.7 per cent in June of 2018, back to its strategic target of 17.5 per cent.

And over the past few years Oregon has made significant changes to both its private equity and real estate portfolios (see Oregon’s real estate revamp.)

“Both teams have taken on large mature portfolios and made substantive changes that take a lot of muscle and time and persistence. So to be here three years later and see the good results is very gratifying,” Skjervem said.

Bringing private equity on a pacing path closer to the strategic allocation and moving from closed end structures to open end structures in real estate has also had implications for the fund’s liquidity profile, he said.

“We have a big allocation to illiquid assets which has been the primary driver of our superlative returns, and the changes in real estate and private equity have led to a gradual improvement in our liquidity profile.”