2018 PUBLIC EQUITY ASSET CLASS REVIEW CITY OF FRESNO RETIREMENT SYSTEMS

Transcription

1 Agenda Item: D-2 Joint Meeting of the Retirement Boards Meeting Date: June 27, PUBLIC EQUITY ASSET CLASS REVIEW CITY OF FRESNO RETIREMENT SYSTEMS June 26, 2018 Tony Ferrara, CAIA, Consultant Don Stracke, CFA, CAIA, Senior Consultant Michael Miranda, CFA, Senior Analyst BOSTON ATLANTA CHARLOTTE CHICAGO DETROIT LAS VEGAS PORTLAND SAN FRANCISCO

2 NEPC, LLC GLOBAL EQUITY ENVIRONMENT 2018

3 CURRENT OPPORTUNITIES Trim US Equity Gains US stocks have posted strong returns over the last 9 years US stocks are priced for perfection with valuations and profit margins hovering near secular highs despite the recent earnings growth improvement However, a prolonged US economic expansion can continue to support a rally in US equities, specifically small-cap stocks that may benefit from corporate tax cuts Opportunity for alpha generation and total return is greater outside the US US equities are also a viable funding source for private market commitments Should US equity markets decline materially, look to rebalance to exploit market volatility Source: (Top) Federal Reserve Bank of St. Louis Source: (Bottom) S&P, MSCI, Bloomberg 3

4 CURRENT OPPORTUNITIES Overweight Non-US Developed Market Equities A multi-year earnings recovery in EAFE markets offers the potential for an elevated return Catalysts for outperformance are present with improving economic conditions in Europe and continued corporate governance improvements in Japan Earnings recovery appears to be taking hold in Europe where an uncertain political outlook has gained clarity Non-US small cap and global equity are preferred for implementation These strategies offer the best opportunity to exploit valuation discrepancies among stocks across countries and sectors Hedging a portion of non-us developed currency exposure remains a strategic recommendation Source: (Top) Bloomberg, NEPC Source: (Bottom) S&P, MSCI, Bloomberg, NEPC 4

5 CURRENT OPPORTUNITIES Maintain Overweight to Emerging Market Equities Emerging equities offer the highest total return potential for investors Valuation levels and fundamentals suggest an overweight relative to global equity market cap weights (e.g. 15% to 20%) Growth premium relative to the developed world persists as economic conditions in EM improve due to synchronized global growth High tracking error strategies offer greater flexibility to invest across emerging countries and are preferred to benchmark focused mandates Opportunity set for excess return appears more abundant in EM versus developed markets Emerging Growth Higher Strategies that invest down the market cap spectrum can offer investors more pure local growth exposure Developed Growth Higher Source: (Top) MSCI, Bloomberg Source: (Bottom) IMF 5

6 EQUITY INDEX PERFORMANCE Source: Russell, Bloomberg Source: MSCI, Bloomberg Source: MSCI, Bloomberg Represents returns in USD 6

7 INDEX COMPOSITION MTD QTD YTD Index Weight S&P % 2.8% 2.0% 100% Cons Disc 2.0% 4.3% 7.5% 12.9% Cons Staples -1.6% -5.9% -12.8% 6.8% Energy 2.9% 12.5% 5.6% 6.4% Financials -1.0% -1.4% -2.4% 13.7% Health Care 0.2% 1.4% 0.0% 14.1% Industrials 2.9% 0.0% -1.7% 10.0% Info Tech 7.3% 7.4% 11.1% 25.7% Materials 2.0% 2.1% -3.6% 2.9% Real Estate 2.2% 1.5% -3.8% 2.8% Telecom -2.3% -3.6% -11.2% 1.8% Utilities -1.3% 0.8% -2.8% 2.9% MTD QTD YTD Index Weight MSCI ACWI 0.2% 1.2% 0.4% 100% Cons Disc -0.1% 2.2% 3.2% 12.2% Cons Staples -1.6% -3.4% -8.1% 7.8% Energy 1.2% 9.5% 5.4% 6.8% Financials -3.9% -3.4% -4.3% 17.7% Health Care 0.5% 1.3% 0.3% 10.7% Industrials 0.8% 0.1% -1.5% 11.0% Info Tech 5.4% 5.0% 8.4% 19.7% Materials 0.4% 2.3% -1.5% 5.4% Real Estate 0.0% 0.9% -2.7% 3.0% Telecom -6.0% -4.3% -9.5% 2.9% Utilities -2.4% 0.0% -1.3% 2.9% Source: S&P, MSCI, Bloomberg Source: MSCI, Bloomberg 7

8 EARNINGS Source: S&P, MSCI, Bloomberg 8

9 US EQUITY VALUATIONS Source: S&P, Bloomberg Medians calculated as of 01/31/1990 9

10 GLOBAL EQUITY VALUATIONS 10 Source: S&P, Russell, MSCI, Bloomberg, NEPC *Denotes the use of index-adjusted positive PE ratio Ranges calculated using trailing 10-year figures

11 BETA GROUP SUMMARY SLIDE General Market Thoughts US Equities Valuations appear stretched; earnings growth needed to sustain rally Small caps may benefit from tax reform and GDP growth International Equities Trading at discount to US; slight premium to own history; earnings growth turned in 2017; currency devaluation a concern so consider half-hedged exposure Emerging Markets Passive still not Preferred but costs getting better; small cap valuations appear slightly expensive relative to short history; bet is on earnings growth and market expansion Equity Implementation Views Strategy Outlook Commentary Global Positive Implementation tool for Large Cap allocations; provide higher alpha potential compared to US Active mandates; need to complement with small cap satellites Liquid US Neutral Passive option for core exposure; Small caps over large caps; For noncore exposure consider concentrated, flexible or defensive strategies; special situations or short exposure International Strong Positive Consider 50% hedged exposure as baseline; small cap complements global implementation Emerging Markets Positive Consumption theme still exists both in liquid and illiquid markets; EM Small is more expensive so betting on growth 11

12 BETA GROUP SUMMARY SLIDE- INT L General Market Thoughts Europe and Japan carry risks but offer a meaningful return opportunity even after recent strong performance Earnings growth has outpaced multiple expansion in Europe Catalysts for outperformance are present with shareholder friendly actions in Japan and macroeconomic improvement in Europe Small-cap equity and global equity are preferred implementation approaches These strategies offer the best opportunity to exploit valuation discrepancies among stocks across countries and sectors Hedging a portion of non-us developed currency exposure remains a strategic goal Equity Implementation Views Strategy Outlook Commentary Passive Positive Option to complement active exposure with currency hedge; Global equity preferred implementation Liquid Large Cap Positive Consider 50% hedged exposure as baseline; Small Cap Positive small cap complements global implementation; Europe Positive More targeted approach available via passive, hedge fund or private equity 12

13 EMERGING MARKETS General Market Thoughts Emerging equities offer the highest total return potential for investors Valuation levels and long-term fundamentals suggest an overweight relative to global market cap weights (e.g. 15% to 20%) China s depreciating currency, broad US dollar strength and US-Asia trade policy concerns temper our excitement Growth premium relative to the developed world is advancing as emerging market economic conditions improve off fiscal and currency adjustments of recent years Overweight small-cap and consumer focused strategies relative to broad benchmark mandates Small-cap and emerging market consumer strategies offer a structural bias away from commodity exposures and state owned enterprises Equity Implementation Views Strategy Outlook Commentary Passive Negative SOE exposure and cost/ tracking error make passive expensive EM Large Cap Positive May gain most of exposure in true global mandate Small Cap Positive Small-cap and emerging market consumer strategies offer a structural bias away from commodity exposures and state owned enterprises 13

14 NEPC, LLC CFRS US EQUITY PORTFOLIO

15 US EQUITY ASSET CLASS OVERVIEW AS OF MARCH 31, 2018 US Equity Market Value: $812 Million US Equity Passive Allocation: 71% (currently all in large cap) Total Fund: $ 2.9 B Policy: 25% Actual: 27.7% Strategies: 3 15

16 EXISTING US EQUITY STRUCTURE MARCH 31, 2018 Existing US Equity Structure June 30, 2016 US Equity Portfolio 25% Target 27.7% Actual, $812 Million Large Cap Equity 17.0% Target 19.8% Actual ($579 M) Small Cap Equity 8.0% Target 8.0% Actual ($233 M) NTAM Russell 1000 Index $579 Million Eagle Asset Management (Growth) $119 Million US Large Cap Equity is passively managed as finding managers who can consistently add alpha net of Kennedy Capital (Value) $114 Million fees is very difficult. US Small Cap Equity is actively managed and divided evenly between growth and value. 16

17 US EQUITY ASSET CLASS MANDATES MARCH 31, 2018 Investment Firm Investment Product Primary Benchmark Asset Value Actual Allocation Northern Trust Asset Management Russell 1000 Index Fund Russell ,816, % Eagle Asset Management Small Cap Growth Russell 2000 Growth 118,658, % Kennedy Capital Mgmt Small Cap Value Russell 2000 Value 114,454, % 17

18 US Equity US EQUITY Characteristics CHARACTERISTICS As of June 30, 2016 MARCH 31,

19 US Equity US EQUITY Performance PERFORMANCE Net of Fees as of June 30, MARCH ,

20 NEPC, LLC CFRS NON-US EQUITY PORTFOLIO

21 NON-US EQUITY OVERVIEW AS OF MARCH 31, 2018 Non-US Equity Market Value: $962 Million Non-US Equity Passive Allocation: 30.6% Strategies: 5 Total Fund: $ 2.93 B Policy: 27% (Developed + Emerging Markets) Actual: 32.8% EM % Of Total Equity: 13.1% 21

22 EXISTING NON-US EQUITY STRUCTURE March 31, 2018 Non-US Equity Portfolio 27% Target 32.8% Actual, $962 Million Non-US Developed Markets 20% Target 28.9% Actual ($847 M) Emerging Market Equity 7% Target 3.9% Actual ($115 M) MSCI EAFE Strategies Internally Managed 10% Target 7.6% Actual $222 M MSCI ACWI ex US Strategies 10% Target 21.3% Actual $625 M Principal Global $222 Million Baillie Gifford $331 Million Axiom $57 Million BlackRock Index Fund $294 Million Acadian $58 Million The Non-US Developed Markets allocation is about one-third passively managed and two-thirds actively managed as the active managers in the allocation have proven to add value net of fees. Emerging Markets is 100% actively managed as it is a less efficient market and active management has shown to add value. The dedicated allocation is underweight because the MSCI ACWI ex US managers have Emerging Markets exposure as well. 22

23 NON-US EQUITY ASSET CLASS MANDATES MARCH 31, 2018 Investment Firm Investment Product Primary Benchmark Asset Value Actual Allocation Acadian Asset Management LLC Acadian Emerging Markets Equity MSCI Emerging Markets $57,737, % Axiom International Investors LLC Axiom Int'l. Investors EME MSCI Emerging Markets $56,798, % Baillie Gifford & Co Baillie Gifford Int'l. Equity MSCI ACWI ex USA $330,601, % BlackRock BlackRock ACWI ex US MSCI ACWI ex USA $294,382, % Principal Global Equities Principal Global Int'l. Equity MSCI EAFE $222,181, % 23

24 NON-US EQUITY PEER COMPARISON Non-US Equity Allocation Comparison Client Target Non-US Equity Allocation* Target Total Public Equity Allocation* Non-US Equity to Public Equity Ratio City of Fresno Retirement Systems 27% 52% 51.9% Arizona State Retirement System 18% 40% 44.8% Arizona Public Safety Personnel Retirement System 14% 30% 46.7% Los Angeles City Employees' Retirement System 27% 46% 58.7% New Mexico Educational Retirement Board 14% 33% 42.4% San Bernadino County Employees' Retirement Association 15% 28% 53.6% Seattle City Employees' Retirement System 22% 48% 44.8% Ventura County Employees' Retirement Association 18% 43% 41.9% Average 19% 40% 48% * Includes Emerging Market Equity allocation but excludes Global Equity allocation. 24

25 Non-US NON-US Equity Allocation EQUITY Comparison CHARACTERISTICS As of March 31, 2016 MARCH 31,

26 Non-US NON-US Equity Country EQUITY Allocations COUNTRY and 1Q Attribution ALLOCATION MARCH 31,

27 Non-US NON-US Equity Performance EQUITY Net PERFORMANCE of Fees March 31, 2016 MARCH 31,

28 Non-US NON-US Equity Performance EQUITY Net PERFORMANCE of Fees March 31, 2016 MARCH 31,

29 NEPC, LLC APPENDIX

30 MANAGER ASSESSMENT (NEPC) Investment Firm Investment Product On FPL NEPC Due Diligence Rating NEPC Due Diligence Status Northern Trust Asset Management Russell 1000 Index Fund N/A Preferred No Action Eagle Asset Management Small Cap Growth Yes Preferred No Action Kennedy Capital Mgmt Small Cap Value No Neutral Neutral 30

31 MANAGER ASSESSMENT (NEPC) Investment Firm Acadian Asset Management LLC Axiom International Investors LLC Baillie Gifford & Co BlackRock Principal Global Equities Investment Product Emerging Markets Equity Axiom Emerging Markets Equity Strategy ACWI ex US Alpha Equities All Country World Ex-US Index International Core Equity On FPL NEPC Due Diligence Rating NEPC Due Diligence Status Yes Preferred No Action Yes Preferred No Action No Neutral No Action N/A Preferred No Action No Neutral No Action 31