Its core business involves expanding the realm of science by beaming particles close to the speed of light and it invented the web – as we know it – as a nice little side project. You would perhaps then expect the CHF 3.6-billion ($3.9-billion) pension fund of the European Organisation for Nuclear Research, CERN, to be bold and innovative.

After a few seconds in conversation with Theodore Economou, the fund’s chief executive, you still can’t help being instantly impressed though by a real determination to break new ground in institutional investing.

“The approach we have implemented could be the ideal investment governance for any pension fund,” Economou says. “We have taken the fund from a difficult situation to setting recognised best practice on a global basis – a model based on the efficiency of transforming risk into returns.”

The story of the revolution brought about under Economou’s stewardship is a fascinating one that starts with a “traditional” risk-heavy fund and ends (for now) with the investment committee monitoring its transformed investments daily with a custom-designed iPad application.

From tradition to revolution

When Economou arrived in 2009, the fund had 60 per cent invested in “risk assets”. While he recognises the reasoning behind this, a calamitous minus 19-per-cent investment return in 2008 left a gaping deficit against the final salary-linked liabilities and left Economou convinced that the model was broken.

Controlling risk became the imperative obsession for Economou and his colleagues. While many pension funds would have decided at this juncture to tweak its existing investment strategy to squeeze out risk, the CERN fund flipped the idea on its head. It first defined an appropriate risk appetite and allowed a “dynamic asset allocation” to run free within that, according to its set of investment principles.

Minimising medium-term losses while allowing the fund to capture enough upside to meet return objectives became the priority in setting the risk budget. This is defined annually and is currently set at a 5 per cent worst-case scenario risk of 8-per-cent maximum investment losses across the fund. As much tinkering with the asset mix as deemed necessary can ensue, provided the risk limit is not breached – something the investment committee will shortly be able to check daily on its iPads.

The asset mix became radically transformed under the new approach. “We now view asset allocation in terms of risk classes instead of asset classes”, Economou explains. Cash holdings of 6.2 per cent form a risk-averse foundation, while the rest of the fund is split into three chunks of a little over 30 per cent each.

An absolute return class is the alpha-seeking part of the trio. It contains the fund’s real estate holdings (on which risk has been reduced by a move into entirely direct holdings), alternative investments and a smaller portion of private equity. Economou summarises its objectives as “strong downside protection with high efficiency”.

On top of that comes an “asymmetric” class of long-only bond and equity investments “managed to a very strict risk discipline” – in other words the CERN fund’s homemade smart beta portfolio. “These strategies incorporate risk-management into what are otherwise traditional mandates”, Economou adds.

Index strategies form the final risk class, offering the “highest upside potential, however with high volatility”. These have been reduced from 60 per cent to 30 per cent of the portfolio in recent years as part of the drive to control risk.

The asymmetric and absolute return classes have both been growing at the same time (from zero and 15 per cent respectively to around 30 per cent).

An active approach has been taken to shuffling the weightings of the three risk classes, just as the management of assets has been transformed from being largely passive to significantly more active.

Over half of the portfolio is now run internally, an approach that Economou says has led to “clear efficiency benefits”. “Going from asset class classification to a complete risk factor allocation is where the industry is going and is one of the next challenges,” Economou says.

Reflecting on the successes of the new investment strategy, Economou beams. “For the past two years we’ve been able to demonstrate we are running a Sharpe ratio in excess of two,” he says. Successfully navigating the 2011 summer downturn is one of the proudest achievements of the new focus on downside avoidance, he adds. The fund is also on track, Economou says, to meet the demanding return objective of outperforming local inflation by three percentage points. It saw returns of 6.9 per cent in 2012, helped by a performance of over 10 per cent on the fund’s equity bucket.

The thinking on returns has been totally changed too, Economou adds. Returns are now judged “against the actuarial return objectives and not against any market-based benchmarks as these don’t appropriately match the many constraints that most boards have”. That is not to say that the CERN fund neglects to make investment calls on the basis of market potential. It is constantly conducting “top-down macro-analysis” to seek investments opportunities. A major recent change is transforming the bond mandates to gain exposure to what Economou terms the “re-rating of the emerging world”.

Risk and efficiency have joined returns though in making the “three dimensions” that the fund measures as part of its “matrix of objectives”. Economou explains: “We want our staff to focus on maximising the rate of conversion from risk into return instead of focusing on a benchmark.” The deficit of the fund remains sizeable with a 66-per-cent funding ratio, but the shortfall has been cut and is projected to narrow further with the current strategy.

Radical new structure

What further distinguishes the CERN fund is the innovations it has embraced to redefine the governance of its investment strategy. Defining the exact purpose of its board is, Economou explains, “allowing our board to express its utility function in terms of risk appetite and return objectives while ensuring the fund is run to these objectives.”

Economou says that focusing the board on these specifics “ensures all assets and performance are controlled by the most qualified entities”. An external risk consultant (Ortec) has been appointed and a single master custodian (State Street) has been tasked with providing daily risk, return and efficiency data. Economou says daily reviews have enabled the fund to gain “greater visibility, has eliminated watch lists and has been able to take action much faster to redeem underperformance and modify allocation”. You get the feeling that as with anyone aspiring to join CERN’s technical staff, only the best need apply for its pension fund’s asset mandates.

CERN’s culture of attracting expertise from far and wide as a pan-European organisation has carried into the running of the pension fund under Economou’s watch, with several external experts drafted in to advise from other funds and the investment industry. The fund has also taken some more direct inspiration from its sponsors, using the same quality assurance procedures that were used in constructing the organisation’s famed Large Hadron Collider. The fact that Economou demanded the Geneva-based CERN fund be brought up to the German regulator’s net asset value reporting standards is another clear indication of its outward approach.

A membership that contains multiple Nobel-prize winners has also been an asset, Economou says. “One of the reasons we have been able to make these changes is that the intellectual firepower of the CERN board made them willing to challenge the status quo on investment strategy and enthused by bringing innovation.” Economou is aware that these changes “are resonating internationally” – proving perhaps that it is not just in physics where CERN is able to make major breakthroughs.

APG, which manages €314 billion ($480 billion), has always been innovative.

Ronald Wuijster earned a reputation as somewhat of a pension rockstar when he introduced the idea of intellectual property rights as an asset class and bought the music rights to a number of high profile musicians from the contemporary to classical.

That investment, which amounts to about $917 million, is ticking along nicely. Now run out of the New York office, it earns income every time there is a CD sale, a song played on the radio or performed live, and increasingly in today’s music world, as songs are sampled by other artists.ronald-wuijster_tcm124-90548

In addition to out-of-the-box, opportunistic investments, APG takes seriously the evolution of its portfolio management and implementation, and has a close tie to academia.

Wuijster himself is studying a doctoral degree, crudely under the subject of decision making.

“Critics say people don’t understand finance. So, if we understand how people make decisions, we can know how to present financial products that they know what to expect and have a guide on how to improve regulation,” he says. In fact, many of the developments at APG have been driven by academic thinking.

Under the smart beta umbrella

About three years ago APG started implementing some of the strategies that broadly fit under the smart beta umbrella.

The practice started in commodities, where it excluded some of the commodity classes, such as natural gas, that have certain behaviours, in a bid to have a more optimal beta exposure. And in its equities exposure, the fund has more than 50 tilts along the “quant spectrum”.

Between 50 and 60 per cent of the developed markets equities exposure is managed using quant strategies and APG started using smart beta three years ago including value, momentum, quality, fundamental indexing, and risk tilts.

“We created a separate asset class for minimum volatility, and we are now researching to allocate to credit and emerging market equities in that. Clients can allocate to that building block,” he says.

APG also applies smart beta to real estate and in particular looks at the environmental spectrum in direct property, overweighting to environmentally friendly buildings.

“In real estate, environment tilts add value,” he says, adding APG was a partner on the 2013-GRESB-Survey.

Similarly, in the fund’s credit analysis, it will look at minimum volatility and quality strategies, and is increasing the focus on quality companies. Smart beta is pervasive at APG.

“Valuation is relatively basic but the majority of investors don’t pay attention to it; they favour glamorous stocks and that’s accepted because of the short-term pressures,” he says.

“Many investors are talking about smart beta, but there are not many doing it. The ideas are less than half the exercise; it is hard to execute and implement. We are well advanced but we could also do more; we are still trying to think of new ways.”

Sticking to the core

APG manages 80 per cent of assets in house and also implements its own passive strategies, which make up a minority of the whole. Instead, Wuijster describes APG as a moderate active investor.

“Our basic approach is we are in it for the long term and we stick to our core, so there are no rapid changes in asset allocation. Even since five years ago, it hasn’t changed that much,” he says. “We are a pension fund asset manager and manage relative to pension liabilities, which effects the overlay structures we apply. But we have always believed in diversification and still do.”

He describes the fund as well diversified and says in analysing asset allocation there is attention paid to the role an asset class plays in a portfolio, and what it adds to a certain characteristic such as return, hedging or diversification.

The analysis also includes decomposing assets into other risk factors such as liquidity.

APG is on a path to increase illiquid assets, and while it is by no means the endowment model, it will increase illiquids to between 20 and 30 per cent.

Seeking return

Wuijster says the biggest challenge for investors in 2013 is finding return.

“We have had a number of excellent returns, but in fixed income it is hard to see how you will get good returns. In traded equities there are still some opportunities but [these are] also already discounted in valuation.”

He believes emerging markets, both equities and debt, still present good opportunities, and within fixed income the fund is focusing on core treasuries, which it considers to be Germany, the Netherlands and France.

It also has a focus on “taking care of interest rate risk”, mainly because of the current regulatory framework, and inflation hedging.

Focused alpha

APG, and Wuijster personally, get a lot of inspiration from academia.

“In January I spent time off looking at academic insights. We are looking at a cultural shift that may take years but we’re trying to have investment professionals focus less on alpha and more on organising asset class exposures as well. So, we will focus on a small number of alpha strategies where there’s a good chance of achieving alpha.”

The fund will be slick, managing liabilities through smart beta and focused alpha, reducing costs and good implementation.

An example of a more concentrated alpha approach is in equities, where it will look to find a small number of companies with an ESG approach.

“We have a lot of money managed internally, but some companies are better at a certain alpha strategy. We will look at what a team is good at doing and then decide.”

Within asset management, APG is looking at three areas:

1. Moving money in house

One example is the development of an internal private equity team, which will be a manager-of-managers structure and still use the expertise of Optinvest.

2. Negotiation on fees with managers

“Asset management is a high margin industry it is a bit over the top how you can make money. We are looking at using collective bargaining power and that is working. For example, in infrastructure the fees have developed and we’re not paying private equity-like fees anymore.”

3. Improving operational infrastructure

No one who works at New Zealand Super has a business card that has an asset class attached to it. This simple representation speaks volumes to the investment approach taken by the fund.

One could work for the strategy team or the investment analysis team, but the investment structure by which NZ Super invests, such as equities, is seen as a legal structure, an access point, not a predetermined allocation, desire or need. So having staff organised according to those lines makes little sense.

“Everyone is working on or for the same fund. It is very hard to implement and you have to be very disciplined,” chief executive of the NZ$24 billion ($19 billion)NZ Super, Adrian Orr, explains.

“It has changed how we recruit, and the culture, everyone has to understand what each other does as much as the whole part and what they do as individuals. You have to be very open-minded and encouraging to understand where everyone’s coming from.”

The reference portfolio and reality

In a similar way to how the Canadian Pension Plan Investment Board approaches investments, NZ Super has a reference portfolio, which is the low-cost growth-oriented portfolio that could achieve the fund’s objectives.

“The reference fund is deliberately chosen as passive, the listed cheapest access point to the risk we want to achieve our goals. It’s not a strategic asset allocation in that sense. The actual portfolio can be and is very different to that – but at our own peril,” Orr says. “We are judged on the total return and value add.”

In this context active investment is viewed as anywhere the asset allocation differs from the reference portfolio, for example, even adding private equity to strategic asset allocation is an active decision.

It also provides a clear benchmark to assess the value added as an active manager, something NZ Super does through dynamic asset allocation, investment strategies (such as timber, private equity and infrastructure) and treasury management (such as foreign exchange and liquidity management).

The asset allocation of the reference portfolio is really simple: 70 per cent in global equities; 20 per cent fixed interest; 5 per cent global listed property; and 5 per cent New Zealand equities.

In reality the portfolio looks quite different to that and at the end of January 2013 it had 61 per cent in global equities, 9 per cent in fixed income, 8 per cent in infrastructure, 6 per cent in timber, 6 per cent in property, 5 per cent in New Zealand equities, 2 per cent in other private markets, 2 per cent in private equity and 1 per cent in rural farmland.

The access point, or asset structure, is the last thing to be considered.

Orr says there are three lenses to look through the portfolio: asset class, risk factors such as market, credit, liquidity, duration, price/asset, and an economic lens such as exposure to growth or inflation. NZ Super continuously cross-checks all of these, taking the attention off the asset class lens, which Orr says is useful but is just the legal form within which those investments are bundled.

Playing to advantage

NZ Super doesn’t change the strategic asset allocation every couple of years, because it doesn’t have one.

“How we choose to actively invest through dynamic asset allocation or active strategies is done through a stable consistent framework: we look at what are our advantages and play to them,” he says. “We primarily invest in price/valuation gaps where we are confident that gap truly exists. We are more contrarian in our investing than trend or momentum driven. We were long equities in March 2009 when the natural position was the foetal position.”

In recent years there has been quite a lot of active risk in the dynamic asset allocation.

The fund strategically tilts underweight or overweight across major asset classes, equities, fixed income, property, credit and has been heavily tilted towards growth since March 2009. It has been long equities and short fixed income plus increasingly long the US dollar, where it has been tradition to be 100-per-cent hedged to the New Zealand dollar.

“This was done on the best estimates of valuation gaps,” he says.

Rankings, relationships and risk management

The process is in constant evolution. The fund recently introduced a new ranking system so that every investment opportunity can now be ranked on consistent financial attractiveness and confidence factors. This has resulted in the fund managing more internally, a reorganisation of the investment teams and an impact on costs – which, net of performance-fees expenses, remain flat at 0.45 per cent of funds under management – and it has changed the dynamic of its external relationships to include more flexibility.

About 45 per cent of the fund’s exposures are through derivatives, and the treasury, asset tilting, investment analysis and asset allocation are all done in house. It has also recently established a New Zealand active-listed-equities desk, and the internal team also conducts external manager-search activities.

The $22-billion fund has about 30 external mandates, which include private equity and multi-strategy hedge funds.

“We are pushing very hard on external relationships,” he says. “We are narrowing those down, we have to understand the opportunity set they’re looking at. We don’t believe in skill alone but have to understand the opportunity set and then decide whether to manage that inhouse or externally.”

The internal team has grown from 17 to 90 in six years, decreasing the fund’s cost base and increasing the range of internal activities. But Orr says it doesn’t have aspirations around the team size.

“We do want to look at the scalebale bits and how to make the ships go faster,” he says.

Next for the fund is an increased focus on risk management and the development and integration of investment themes, which it has identified as emerging markets, resource sustainability and evolving demand patterns.

One of the first actions is to look at how responsible investment can be embedded within investments rather than being learned outside the investment decision-making process.

“We want to look at ESG up front as part of the investment decisions and the expected return in terms of sustainablility.”

NZ Super has exceeded both its predetermined measures of performance since inception, outperforming the New Zealand treasury bill by 3.28 per cent and the reference portfolio by 0.74 per cent.

They may be on opposite sides of the Earth, but Chile in Latin America and Central Asia’s sparsely populated Mongolia share more than a few similarities. Both boast some of the biggest copper deposits in the world and now Mongolia has turned to Chile for advice on how best to steward income from its forecast bounty that stretches out beneath the Gobi desert. It is sourcing help from one of the architect’s of Chile’s rocketing $22.9-billion sovereign fund. Eric Parrado, former international financial coordinator at Chile’s ministry of finance and now advising other emerging economies on the steps to managing resource wealth, has become synonymous with Chile’s global reputation on wealth fund expertise. “At the beginning in Chile nobody thought there was any point in saving money because we were an emerging market economy. Chile needed to spend money, so why save it?” says Parrado, just back from the Mongolian capital Ulan Bator. “But by saving in the good times, we were able to spend in the crisis and now all our critics applaud us.”

A guide for novice sovereign savers

His advice to Mongolia starts with tight fiscal management. Mongolia passed a new fiscal stability law in 2011, the foundation, says Parrado, on which any successful sovereign wealth fund must stand and the key to establishing discipline in commodity-driven economies prone to boom and bust. In a next step, Mongolia is drawing up a bill to create a framework for several sovereign funds, which will likely take on similar lines to Chile’s Pension Reserve Fund, established in 2006, and the Economic and Social Stabilisation Fund (ESSF), set up in 2007. The concept behind any stabilisation, or rainy-day fund, is to keep investment strategy liquid and conservative so financial help is close to hand in times of economic crisis. A pension reserve fund would cover future state pension liabilities and Mongolia is also considering a future generations fund, through which returns, but not capital, could be used to invest domestically. “Mongolia has only just begun discussions and there is no money to invest as yet, but it is likely assets will be split between these types of funds,” he says.

In his guide for novice sovereign savers, Parrado counsels that assets be allocated to safe and liquid allocations overseas to avoid Dutch disease, so-called after The Netherlands economy slumped following discoveries of natural gas in the North Sea in the 1960s. Investment strategy for countries without any experience of “formal strategies” should mirror the same asset allocation as their central banks use to manage international reserves. “This is what we did in Chile,” he says. It meant that in the embryonic years of Chile’s sovereign fund, assets were split between a 70-per-cent allocation to US, European and Japanese sovereign debt and a 30-per-cent allocation to money market instruments. “It was plain vanilla but it was very good,” says Parrado. “Between 2007 and 2010 Chile had some of the best returns in the sovereign wealth fund world because we chose safe assets.” He doesn’t advise rejigging allocations in the early stages of a fund’s life, drawing on the experiences of seasoned sovereign saver Norway during the financial crisis as an example of the merits of leaving investment strategy well alone. “Take the case of Norway,” he says, referring to Norway’s $650-billion Government Pension Fund Global. “In 2008 they decided to boost their equity allocation to 60 per cent. Equities were falling yet they had to buy more equities to reach the 60-per-cent mark. They lost $100 billion in 2008. It was really crazy and there is no way Chile could have done this.”

Benchmarks rather than indices

Only after what he calls “an essential learning process” did Chile begin to think about diversifying to other asset classes to manage risk. Assets were split to encompass equities and corporate bonds in passive, global strategies. “An active strategy isn’t worth it because it’s too difficult to gain against the market. There shouldn’t be any cherry picking, but following benchmarks rather than investing in indices.” Since Chile’s central bank had no specific experience of managing these riskier allocations, it used external managers for its equity and corporate bond portfolio. “One hundred and 10 external managers were invited to the ministry of finance,” he recalls. “Because it was 2008 and the middle of the crisis, we postponed allocation until 2012, awarding the biggest to Blackrock, Bank of New York Mellon, and Rogge. We have benchmarks and tracking errors for each one in passive strategies.”

Parrado acknowledges that saving is a hard sell in developing countries in need of investment in infrastructure, schools and health, but warns that Mongolia, one of the poorest countries in Asia, should only draw on sovereign reserves if they are channelled through the budget. It’s a strategy Norway leads on, with the government spending just 4 per cent of its sovereign fund’s annual return. It rules out strategic investment such as equity stakes in local companies, something Singapore’s sovereign fund GIC favours, but it ensures against downside risk. “Investing in local companies could work, but in my view, emerging market economies should only use the fund as a financing mechanism and shouldn’t invest directly in this way. It would involve careful allocation of money and an awareness of what type of investment was actually needed to ensure there weren’t white elephants everywhere.”

Risk rather than return

Nor does he suggest new funds target returns. Instead they should focus on risk, a strategy he believes is key to “preserving capital and legitimising the savings process” in poor countries. “All funds should begin from the point of expected risks rather than expected returns.” His advice to Mongolia is also to avoid some sectors of the economy to reduce risk further. In Chile managers are asked to not invest in Chilean copper companies because the risk correlation is too high in terms of economic activity.

In an era when sovereign wealth funds have become “flavour of the month”, Parrado doesn’t recommend any flamboyant asset diversification or that countries fashion strategic funds targeting local development. He espouses rigorous institutions and frameworks and cautions strategies in a model that now speaks for itself. “Of course there are different strategies and it is entirely dependent on what a government wants to do,” he says. “But from Chile’s experience in starting a fund from scratch in an economy that is close to other emerging market economies, this is the strategy we recommend.”

Conexus Financial, the financial services media and events company and publisher of top1000funds.com, has formed a partnership with the New York-based World Pension Forum (WPF) to create a major international conference business catering to the world’s largest institutional investors.

Conexus will apply its events management expertise and experience to enhance existing WPF events – three offshore and one domestic event for US-based institutional investors.

It will also create an online community to facilitate ongoing communication and engagement for conference audiences.

The World Pension Forum, founded 20 years ago by Philip Schaefer, boasts a strong track record of attracting chief investment officers, board chairs, trustees, fund chief executives and senior investment decision makers to its events. Schaefer will remain as president of the expanded business.

In a statement, Conexus co-founder and chief executive Colin Tate said that both he and Schaefer believe that “challenging long-term institutional investors to think differently and encouraging them to engage globally has the power to make a difference in the world”.

He said that WPF events “help investors connect the dots between their fiduciary responsibility, member returns and risk management for the ultimate betterment of retirees. It will also provide a platform to work with policy makers on addressing the world’s urgent fiscal, environmental and social issues”.

WPF’s scholar-in-residence Stephen Kotkin, professor at the Woodrow Wilson School for Public and International Affairs at Princeton University, will continue to be responsible for programming and managing all speakers and content at WPF events.

A statement from Conexus and WPF sets out further details of the partnership.

The Australian fund, HESTA Superannuation stands out among its peer of industry funds for a few reasons, not the least of which is its predominantly female (80 per cent) member base, but it’s also one that has seen notable growth in the past 20 years.

From a fiduciary perspective, the fund has gone from less than $1 billion funds under management in 1994 to more than $20 billion. That was the year its current chair of three years, Angela Emslie, was elected to the board, though the fund itself was established in 1987.

From a governance standpoint, diversity has also been a marker of significant change. An independent chair among 13 trustees, Emslie says she was but one of two women out of 14 directors at the time she joined. The number of women now stands at seven, out of a total of 13 board members, including six employer and six union representatives.

 

Board diversity

To some degree, HESTA’s primary female demographic has been an influence on its board composition, Emslie says. “It’s really been a long-term process of engagement with our nominating bodies and sending the signal that board diversity is important. It has taken us many years of work.”

It’s no small feat given that, as Emslie points out, there are funds with a huge lack of gender balance: some have only one female on the board, while others are completely absent of any female representation.

“I think those organisations do need to focus [on this], particularly where they represent industries with a high proportion of women,” she says.

“I think that’s definitely something that needs to be worked on, and I think it can be done. You just have to look at the work that John Brumby’s done at MTAA and the work that HESTA’s done.”

Emslie is quick to emphasise, however, that the fund is committed to diversity across numerous elements – and always has been – namely in skill sets, interests and geographic representation Australia-wide.

“We’ve done a lot of restructuring of the board over the years to make sure that we have a good balance of the different industries we represent and the different unions,” Emslie says.
“I don’t know of any fund that’s done as much work in terms of restructuring its nominating bodies and its board as HESTA has.”

 

In an increasingly regulated environment, Emslie acknowledges a new age of enlightenment among funds when it comes to duty, but says there is still some way to go with boards making change for their members.

“People recognise the importance of transparency and demonstrating that we are good fiduciaries. I don’t think necessarily there’s a lot of evidence about boards changing their structure to represent the interests of their members and employers.”

 

On governance

In late February, HESTA was granted its MySuper licence, the product for which will be the current default for the fund, HESTA Core Pool. Emslie says the fund already had a lot of the requirements in place, which didn’t leave much extra work to do this year. She points to the contribution of one of the board’s two sub-committees, namely the governance and remuneration committee, regarding its Stronger Super readiness. The other sub-committee is focused on audit and risk.

“Those committees do a lot of the detailed work on those issues,” says Emslie, acknowledging in particular the work of the governance and remuneration committee around training policies, expectations of directors and recruitment and nomination processes.

A couple years ago, the board undertook a review of its investment governance and where it was headed. Asset allocation emerged as an area requiring greater consideration. The board dispensed with an investment committee because it found that it had the potential to disenfranchise the half of the directors not involved.

“We found that we had one group of people that was very involved and in the know, and the other group that wasn’t necessarily but still had questions that they wanted to ask, and often a lot of work could get doubled up again at the board,” Emslie explains.
The directors decided the fund’s investment is a core business of the board, and they try to keep discussion at the strategic level, focusing on strategy portfolio design and performance, and delegating implementation and operations to management. “And that’s been a process over time to get the balance of what that is right,” notes Emslie.

“The board really focuses on strategy and portfolio design and delegates the implementation of that strategy and the operational side. By implementation, I mean actually selecting fund managers and working with fund managers. We do very little of that these days.”

The board will see a manager at the end of the selection process to make the final decision, but Emslie says there’s no so-called “beauty parade” or line-up of managers. “That’s done by our investment and governance units and our asset consultant,” she says. “[They] do all of that selection process and bring the final manager to be selected to the board for a final decision, with all the rationale behind that.”

 

Advisory think tank

In place of the investment sub-committee and on the back of the review, HESTA set up an investment advisory panel, which includes three board members and two external participants with appropriate investment expertise. HESTA’s asset consulting and internal investment teams are also involved.

“That’s really like a think tank or thought-leadership group to really just kick around new ideas and test out our asset allocation and our thinking,” says Emslie, adding that she’s pretty pleased with the results so far. “It’s not a decision-making body in any way, shape or form, but it does feed into the asset allocation discussion, dynamic asset allocation and also strategy, sector review areas.”

On its investment approach, Emslie says the fund isn’t different to many others, with quite a large allocation to unlisted assets and infrastructure, as well as “quite a bit in opportunistic debt”.

All of its investment management is done externally, but Emslie hints at other changes in relation to time savings. “We’re more to looking at how we can, particularly with some of our unlisted investments, move away from fund-to-fund products because they’re expensive, and ways in which we can save money there by having our team involved internally in a different way.

“That’s not necessarily direct investing, that’s just doing some of the things that perhaps fund-to-fund managers might have done and it’s also about possibly co-investing. That’s about efficiency, I think.”

 

Cost efficiency and survival of the biggest

Meanwhile, Emslie says HESTA has a very strong focus on driving down fees. It developed “quite a sophisticated model” called MER for alpha, which assesses each of the fund’s investment managers against their fees and what they deliver.

“In some cases, we have terminated managers because we don’t feel that the fees that we’re paying them justify the return that we would get from them,” says Emslie.

“It’s quite a complicated model developed by our investments and governance unit, but obviously it was approved by the board, and it’s something that we refer to whenever managers are selected, and also we look at it for asset classes as well. How much does it cost to be in this asset class, how much return are we going to get?”

Elsewhere, Emslie flags other challenges, in particular the “competitive marketplace”, and how the differences between funds are narrowing out, mainly for the smaller funds.

“[It’s] going to be challenging, because they’ll need more resources to manage the compliance issues,” she says. “It’s really just the next step up in sophistication, and some smaller organisations perhaps haven’t gotten to that level of capacity internally yet.”