Multi-Asset Class Management

Transcription

1 Multi-Asset Class Management February 27, 2019 Alex Gurvich (Director of Investment Research) Surya Pisapati, CFA (Senior Managing Consultant) PFM 1735 Market Street 43 rd Floor Philadelphia, PA pfm.com PFM 1

2 Agenda I. Overview of Investment Philosophy II. PFM Discretionary Management III. Industry Trend Toward Discretionary Management PFM 2

3 I. Overview of Investment Philosophy PFM 3

4 PHILOSOPHY Multi-Asset Class Management Return Produce benchmark-beating performance using a disciplined portfolio management strategy Liquidity Plan for and provide liquidity as needed Safety Preserve capital commensurate with client needs and expectations APPROACH Portfolios are designed to match our clients specific investment needs. We seek to achieve strong results by: Understanding our clients investment objectives Allocating assets to achieve the desired risk/return characteristics Investing in low-cost passive index funds, unless a catalyst exists utilize active management Selecting active managers with strong, independent investment convictions and strong performance in up and down markets Making slight tactical adjustments to optimize portfolio asset and manager allocation Monitoring the portfolio and rebalancing in a thoughtful, disciplined manner PFM 4

5 PFM s Investment Approach Strategic Asset Allocation Domestic Equity International Equity Fixed Income Alternatives Asset Class Structure Large Cap Mid Cap Small Cap Investment Strategy Value Added Developed Emerging Government Investment Grade High Yield Real Estate Private Equity Hedge Funds Passive/Active Invest in low-cost passive index funds unless a catalyst exists to use active management Traditional/ Alternatives Allocate to alternatives based on risk tolerance and liquidity needs Dynamic Asset Allocation Make opportunistic adjustments to exploit undervalued asset classes, limit risk, and optimize manager allocation Rebalancing Disciplined, systematic process PFM 5

6 Sources of Investment Returns Strategic Asset Allocation Setting target allocation cross various asset classes in line with long term return/risk expectations Tactical Asset Allocation Short to medium term, opportunistic deviations from Strategic Asset Allocation within a pre-determined range Market timing Trading based on short-term market direction Security/Manager selection Picking individual securities or managers within a portfolio Strategic and tactical asset allocation Market Timing Security/ Manager Selection PFM 6

7 Asset allocation is the single-most important factor in determining portfolio performance. Strategic Asset Allocation Sets target allocation and ranges 60/40, refers to 60% allocation to equity and 40% allocation to fixed income Identifies permitted asset classes Is international equity allowed, is high yield allowed Defines overall risk profile Capital appreciation or capital preservation PFM 7

8 Capital Market Assumptions Investor develops Capital Market Assumptions (CMAs) Expected returns, expected volatility, and correlations between assets CMAs are forward-looking and should not simply assume that what the various asset classes returned recently are reasonable assumptions for the future CMAs are based on our understanding of the economics of various asset classes, and take into consideration current macroeconomic conditions and valuations For example, if stocks are highly valued, then we cannot simply project expected return based on the economics of equities but need to consider reversion to the mean in the valuation for equities PFM 8 8

9 PFM s 2019 Capital Market Assumptions Returns and Volatility Intermediate: Next 5 Years Long Term Projections Expected Return Expected Risk Expected Return Expected Risk US Equity 6.0% 16% 7.5% 16% International Developed Equity 6.6% 17% 7.4% 17% Emerging Markets Equity 6.1% 20% 7.5% 20% Core Bonds 3.0% 4% 5.1% 4% Intermediate Investment Grade Corp 3.7% 6% 6.1% 6% Emerging Markets Debt 4.0% 10% 6.7% 10% High Yield 4.3% 9% 6.6% 9% Bank Loans 4.4% 6% 5.4% 6% REITs 5.7% 12% 6.5% 12% Private Equity Real Estate 6.5% 15% 7.8% 15% Commodities 4.9% 16% 5.5% 16% Hedge Funds 5.5% 15% 7.2% 15% Private Equity 7.1% 25% 9.5% 25% Cash 3.2% 1% 3.5% 1% For the intermediate term (up to 5 years), our capital market assumptions derive from our assessment of current economic conditions, including corporate profits, balance sheets, etc., and current valuations for various asset classes. Our long-term assumptions are derived using an economic building block approach that projects economic and corporate profit growth and takes into consideration the fundamental factors driving long-term real economic growth, our expectation for inflation, productivity and labor force growth. PFM 9

10 PFM s 2019 Capital Market Assumptions Asset Correlations US Equity International Developed Equity Emerging Markets Equity Core Bonds Intermediate IG Corp Emerging Markets Debt Correlations High Yield Bank Loans REITs Private Equity Commodities Hedge Funds Private Equity Cash Real Estate US Equity 1 International Developed Equity Emerging Markets Equity Core Bonds Intermediate IG Corp Emerging Markets Debt High Yield Bank Loans REITs Private Equity Real Estate Commodities Hedge Funds Private Equity Cash Please refer to PFM s 2018 Capital Market Assumptions for a complete description of the methodology used to develop PFM these assumptions and important disclosures. 10

11 Building a Custom Asset Allocation Demographics Actuarial Analysis Funding Status Global Investment Universe Capital Market Assumptions Risk/Return Analysis Client Goals and Preferences Customized Asset Allocation PFM 11

12 Tactical Asset Allocation Temporary deviation from the strategic asset allocation based on current valuation of various asset classes Short to medium term deviations based on attractiveness of relative valuations Overweights/underweights within permitted guidelines Takes advantages of temporary market dislocations PFM 12

13 Our Outlook on Asset Classes Drives Tactical Positions Source: PFM. As of December, This material is for general information purposes only and is not intended to PFM provide specific advice or a specific recommendation. Analysis is subject to changes in the market environment and 13 may vary based on the client s particular circumstances.

14 Recent Dynamic Asset Allocation Decisions Year PFM Asset Management s Tactical Allocation Changes January 2014: Removed U.S. REIT allocation April 2014: Re-allocated a portion of International Equity allocation to Domestic Equity July 2014: Removed dedicated Small Cap Equity exposure October 2014: Removed dedicated Mid Cap Equity exposure January 2015: Removed Bank Loans exposure and fully weighted International Equity March 2015: Added dedicated International Small Cap Equity exposure April 2015: Reduced Domestic Equity overweight and increased International Equity allocation August 2015: Removed Global High Yield exposure and increased High-Quality Corporates October 2015: Removed Equity overweight and added TIPS and Ultra Short allocation December 2015: Added International Growth Manager March 2016: Removed Ultra Short allocation; reduced International Equity; added REITs and High Yield June 2016 Reduced High Yield, increased IG Fixed Income and REITs, and further reduced International Equity September 2016: Reduced REITs and Fixed Income, Increased High Yield, Emerging Markets Equity and overall International Equity exposure and added dedicated Small Cap Equity exposure November 2016: Reduced market capitalization within U.S. equity February 2017: Removed REIT allocation and increased International Equity to strategic target 2017 June 2017: Reduce U.S. Equity overweight and added equal overweight to International Equity September 2017: Removed dedicated Small Cap Equity exposure February 2018: Increased Emerging Markets Equity allocation to benchmark weight 2018 April 2018: Added dedicated Small Cap Equity exposure November 2018: Removed overweight to International Equity and reduced overweight to Corporate Bonds PFM *The information presented above is based upon past experience to illustrate particular analysis or decisions in the context of market events and does not describe all portfolio changes. PFM cannot guarantee the future performance of credit analysis on any specific issuer. 14

15 Current 60/40 Portfolio Positioning MACM 1.0 (60/40) IPS Tactical Current Domestic Equity 39.0% 41.5% 40.3% International Equity 21.0% 21.0% 20.8% Fixed Income 40.0% 37.5% 38.9% 100.0% 100.0% 100.0% Asset Class / Sleeve Equity vs Fixed Domestic Equity vs International Equity Domestic Equity International Equity Duration Credit Current Underweight Fixed Income relative to Equities Underweight International Equity relative to Domestic Equity Majority passive Tactical overweight to small cap Minority passive Overweight to small cap Underweight emerging markets About a half year short vs Bloomberg Aggregate Overweight to IG Tactical HY allocation PFM 15

16 Manager Selection PFM 16

17 Manager Sourcing How do we find the managers? evestment subscription to comprehensive institutional vehicle (SMA, CF) database Morningstar primary source for mutual funds and ETFs (over 32,000 listings) Meetings Reps frequently contact us asking for introductory meeting Other conferences, industry publications (P&I), word of mouth, etc. Sample evestment categories No. of No. of Geographic Region Active Active Firms Products United States Equity 1,132 3,998 United States Fixed Income 502 2,252 United States Real Estate Global Equity 660 1,567 Global Fixed Income EAFE Equity EAFE Fixed Income Diversified Emg Mkts Equity PFM 17 17

18 Manager Selection A Multi-Factor Process MULTI-ASSET CLASS INVESTMENT COMMITTEE Determine Passive Exposure Determine Best Fit for Active Manager Approve/Terminate Managers QUANTITATIVE/ HISTORICAL FACTORS Performance Volatility of Returns Information Ratio Sharpe Ratio Up- and Down-Market Capture Peer Universe Comparisons Portfolio Construction Risk Management Source/Screen Managers Conduct Due Diligence Rank Managers (1 to 5) QUALITATIVE/ FORWARD-LOOKING FACTORS Ownership Structure Investment Process Buy/Sell Discipline Risk Controls Flexibility Compliance RESEARCH TEAM PFM 18

19 Manager Due-Diligence Steps 1. Screen universe for a shortlist of candidates based on prior knowledge, existing network or new search screens using qualitative (strategy description, knowledge of the firm, assets managed, etc.) and quantitative (outperformance in full market cycle, up/down capture ratios, etc.) 2. Provide detailed analysis including calls with investment team, holdings and returns based analysis on the shortlist to identify attractive candidates 3. Discuss with Director of Research on attractive candidates 4. Undertake further detailed due-diligence analysis focused on firm (stability of the firm and asset growth), investment personnel, investment process, historical stock attribution analysis, historical return analysis, expected return profile, etc. On-site visit with members of investment team, as needed, to check off any red flags 5. Write detailed memo outlining firm, people, process, performance and portfolio and outlining its use 6. Present the strategy at the Investment Committee for the Committee s approval 7. Maintain ongoing portfolio and performance monitoring PFM 19

20 Manager Due Diligence Review Process Firm Background Firm History/Ownership Infrastructure Client/Assets: Growth/Decline Investment Team/Management Experience/Education Tenure/Turnover Compensation Structure Investment Process Investment Process Review Portfolio Characteristics Buy/Sell Process Style Drift Performance Rolling 3 and 5 years Up/Down Mkt. and Economic Cycle Performance Trailing and Calendar Year Performance Distribution of Active Returns Risk/Volatility Standard Deviation/Sharpe Ratio/Info. Ratio Sector/Security Limits Included for illustrative purposes only. Steps followed in the process vary per client. PFM 20

21 Domestic Equity Utilize Passive Management in Efficient Markets Peer Group Analysis As of December 31, 2018 IM U.S. All Cap Equity (SA+CF+MF) 1 Year 3 Years 5 Years 7 Years 10 Years Russell 3000 Index (36) 8.97 (22) 7.91 (20) (23) (31) Median Population 1,862 1,637 1,414 1,263 1,040 Source: Investment Metrics. Returns are gross of manager fees; index is net of fees. PFM 21

22 Passive Management Has Outperformed Percentage of Active Funds Beaten By Index (as of 6/30/2018) Fund Category Benchmark 1-Year 3-Years 5-Years 10-Years 15-Years Large-Cap Equity S&P % 79% 76% 89% 92% Mid-Cap Equity S&P % 83% 82% 93% 95% Small-Cap Equity S&P % 94% 93% 93% 98% Multi-Cap Equity S&P % 82% 81% 89% 88% Source: S&P PFM 22

23 Active Manager Persistence is Weak None of Top Quartile Active Managers Remain in Top Quartile Top Quartile Funds # of Funds % of Funds Remaining Sep Year 2-Years 3-Years 4-Years Large-Cap Equity Mid-Cap Equity Small-Cap Equity Multi-Cap Equity Source: S&P, March PFM 23

24 International Equity Active Exposure Can Add Value Peer Group Analysis As of December 31, 2018 IM International Equity (SA+CF+MF) 1 Year 3 Years 5 Years 7 Years 10 Years MSCI AC World ex USA (Net) (34) 4.48 (44) 0.68 (57) 4.85 (62) 6.57 (64) Median Population 4,097 3,611 2,961 2,495 1,942 PFM Source: Investment Metrics. Returns are gross of manager fee; index is net of fees. 24

25 Fixed Income Utilize Active Management Due to Market Dislocations Peer Group Analysis As of December 31, 2018 IM U.S. Broad Market Fixed Income (SA+CF+MF) 1 Year 3 Years 5 Years 7 Years 10 Years Blmbg. Barc. U.S. Aggregate 0.01 (26) 2.06 (70) 2.52 (52) 2.10 (79) 3.48 (89) Median Population 1,461 1,280 1, PFM Source: Investment Metrics. Returns are gross of manager fee; index is net of fees. 25

26 Benefits of Alternatives Diversification relative to traditional asset classes Sources of risk and return that differ from traditional assets Benefit from alternative risk premium Access uncorrelated returns Tailor return characteristics to investor s needs Provide downside protection PFM 26

27 PFM s Approach to Alternatives Understand our client s willingness and ability to invest in alternatives Identify any unique restrictions or considerations Determine alternatives allocation percentage based on various factors including cash flows and size of the portfolio Create ideal mix of alternatives sub asset classes based on return objective, time horizon, and market outlook Project portfolio evolution by using PFM capital market assumptions Build out client alternatives portfolio one allocation at a time Make systematic allocations to alternatives vehicles on an ongoing basis to maintain target allocation PFM 27

28 Sub-Asset Classes of Alternatives Types of Alternatives Benefits Risks Private Credit Private Equity Diversifying (Hedge Funds) Real Assets Enhanced yield relative to public credit Decreases the portfolios exposure to rising rates Diversification J-curve mitigation Increase the portfolio s expected return Potential alpha generation by experienced fund managers Diversification Employ strategies that generate returns independent of traditional assets Potential alpha generation by experienced fund managers Diversification Stable cash flows Inflation protection Attractive long term returns Diversification Default Leverage Liquidity Valuation Borrower concentration Leverage Liquidity Market Funding Execution J-curve Liquidity Pricing Counterparty Short squeeze Financial Squeeze Leverage Political and regulatory Liquidity Market Funding J-curve PFM 28

29 II. PFM Discretionary Management PFM 29

30 PFM Multi-Manager Series Trust Can Enhance Portfolio Management PORTFOLIO LEVEL EXPOSURES UNDERLYING MANAGER HOLDINGS TRADING DETAILS MANAGER HOLDINGS LAG CASH DRAG Traditional Mutual Fund Lineup Quarterly Quarterly Quarterly Days For Redemption Multi Manager Fund Lineup Daily Daily Daily 1 day None PFM 30

31 PFM Multi-Manager Series Trust Funds PFM Multi-Manager Domestic Equity Fund Strategy Weight SSGA Russell % Vaughan Nelson Select 9.5% Sample 60/40 Portfolio 21% Nuance All Cap 9.5% Champlain Mid Cap Core 4.0% PFM Multi-Manager International Equity Fund Strategy Weight SSGA ACWI ex-us 45.0% Lazard International ACW ex-us 30.0% 39% 40% Aristotle International 10.0% JO Hambro International Small Cap 15.0% PFM Multi-Manager Fixed Income Fund Domestic Equity International Equity Fixed Income Strategy Weight PGIM 30.0% TIAA 30.0% PineBridge 15.0% BBH 15.0% Nomura 10.0% Sub-advisory fees and line-up are subject to change. Weightings are as of December 31, Weightings are subject to change. PFM 31

32 Ongoing Reporting and Communication We will maintain transparency & accountability through: Portfolio Alerts Updates on manager or allocation changes Updates on market events Reporting Consolidated monthly statement Monthly market updates Quarterly performance reporting Education Ongoing education for staff, board, and Trustees Educational workshops and seminars PFM 32

33 III. Industry Trend Toward Discretionary Management PFM 33

34 Balancing Time and Expertise Many boards and staff may not have... Time Expertise Structure As a result, institutions struggle with... Performance Risk management Cost Potential conflicts Working with PFM s asset management business as your discretionary manager would allow your Board to focus on governance, oversight, and strategic matters. PFM 34

35 Summary Traditional Consultant vs. OCIO PFM 35

36 Non-Discretionary vs. Discretionary Management Investment Policy Non-Discretionary (Traditional) Provide advice and work with client to implement Discretionary (Outsourced CIO) Same Responsibility of Advisor Limited Full Underlying Investment Managers Recommended Selected Fiduciary Responsibility Limited Full Performance Accountability Partial Full Client s Time and Responsibility Timeliness of Investment Actions Extensive Delayed Simplified Timely Typical Fee Structure Hard dollar Asset-based PFM 36

37 Discretionary Management can be More Efficient Replacing Managers Non-Discretionary Manager Change Process Our Discretionary Approach Need for a manager change is identified Trustees discuss problem and recommendations for a new manager and decide to replace manager Next Trustee meeting to interview possible replacement candidates days 90 days 90 days Investment Research Group identifies need for a manager change and recommends a replacement Multi-Asset Class Investment Committee reviews and approves recommendation Immediate 1-30 days Contract negotiated, signed assets transferred to new manager 60 days New manager retained and assets transitioned 1-7 days Total ~ days Total ~1-40 days Delays may result in lost opportunities and create drags on performance PFM 37

38 OCIO Growth in Assets & News Coverage HEADLINES Growth In OCIO Asset (Billions) Complex portfolios spur increased use of Outsourced CIOs More firms strive to become onestop shop OCIO managed assets leap 23% OCIO Market Expansion Reaching Public DBs Plans easing burdens by taking OCIO route $91 $537 $746 $873 $1,287 $1,651 $2, (expected) Source: The Skorina Letter, September 20, Retrieved from: September-2017-OCIO-List.pdf; Pensions and Investments; Cerulli Associates Please note sources for headlines listed on slide 29 PFM 38

39 Why Trustees are Moving to Discretionary Management Lack of internal resources 56% 34% 8% 0% 2% Better risk management 38% 48% 10% 1% Additional fiduciary oversight 38% 41% 11% 8% 2% Need to increase returns 31% 46% 13% 8% 2% Faster implementation/decisions 31% 36% 28% 2% 3% Cost savings 11% 36% 39% 11% 3% Desire for strategic partnership 18% 25% 26% 26% 5% Critical Important Not very important Not at all important Not applicable PFM Source: 2016 Outsourced Chief Investment Officer Survey. May not equal 100% due to rounding. 39

40 Debunking the Myths Concerning Discretionary Management Myth 1. Board abdicates fiduciary responsibility Fact Board fiduciary responsibilities are not abdicated, but simplified by delegating time-consuming tasks and focusing more on strategic oversight 2. Board gives up control 3. Discretionary is higher in cost 4. Risk of focusing decisions with one advisor Board retains 100% control through: investment policy, independent custody, and hiring/firing the advisor The consultant s fee itself may be higher, but overall costs with PFM s asset management business are typically much lower Risks are mitigated by selecting a conflict-free advisor, having a sound IPS and diversifying assets PFM 40

41 Disclosure This material is based on information obtained from sources generally believed to be reliable and available to the public, however PFM Asset Management LLC cannot guarantee its accuracy, completeness or suitability. This material is for general information purposes only and is not intended to provide specific advice or recommendation. All statements as to what will or may happen under certain circumstances are based on assumptions, some but not all of which are noted in the presentation. Assumptions may or may not be proven correct as actual events occur, and results may depend on events outside of your or our control. Changes in assumptions may have a material effect on results. Past performance does not necessarily reflect and is not a guaranty of future results. The information contained in this presentation is not an offer to purchase or sell any securities. PFM 41