Investment and Economic Outlook for Public Entity Pools Webinar Daniel Smereck Managing Director November 5 th, 2014
Table of Contents I. Capital Markets Review II. Public Entity Pool Investment Program Peer Analysis III. Looking Ahead to 2015 1
FIXED INCOME MARKET REVIEW 2
Current Yield Environment Barclays Credit Index 10yr U.S. Treasury Barclays Aggregate Index With the new year, none of the major investment firms predicted rates would actually fall during 2014. While higher than March 2013, fixed income market yields continue to stress portfolio earnings for public entity risk pools. 3
Fixed Income Sector Yields & Returns While rates for the majority of fixed income spread sectors increased during the quarter, municipal credit spreads tightened in the third quarter as credit conditions improved generally across state-issued general obligations bonds and fundamentals continue to remain positive across essential service revenue bonds. Over 80% of the world s bond markets have yields below 4%. BlackRock Research The long period of low interest rates has led to some search for yield, and financial markets may be too complacent about the future Olivier Blanchard Chief Economist at the IMF 4
Credit Market Performance Trends Latest 10 Years 5
Fixed Income Market Focus: Who Owns U.S. Treasuries? As the Fed tapering programs ends, how long will the cost of U.S. government debt service continue to benefit from low world government yields and the appetite of foreign buyers? 6
EQUITY & OTHER RISKY ASSETS 7
Did Risk Taking Payoff Last Year? 8
Broad Market Performance Trends Latest 10 Years 9
U.S. Equity Market Focus: Earnings vs. Revenue Growth How much more market appreciation is there with limited revenue growth? Dividend yield and dividend growth strategies pose a better value proposition in this type of environment. Source: The Economist 10
PUBLIC ENTITY POOL PEER ANALYSIS AS OF 6/30/2014
Peer Analysis Overview SAA Governmental Pooling Clients 15 Clients (12 Primary / 3 Reinsurers) 25 Portfolios $2.6B In Assets $2.2B Core Fixed Income (85%) $0.4B Risk Assets (15%) 12
RISK ASSET ALLOCATION 13
Risk Asset Allocation - % of Total Portfolio Risk Assets % Max 39.9% Median 10.7% Average 13.3% 14
Risk Asset Allocation - % of Surplus RA % of Surplus Max 66.1% Median 21.5% Average 21.8% 15
Risk Asset Allocation Sorted by Largest Risk Asset Allocation U.S. Equity % Intl. Equity % HY % Other % Max 100.0% 30.0% 39.8% 39.5% Median 70.0% 11.6% 9.8% 0.0% Average 69.4% 11.1% 13.8% 5.7% 16
CORE FIXED INCOME ALLOCATION 17
Fixed Income Portfolio Book Yield & Duration Duration (Yrs) Book Yield (%) Max 5.77 3.77 Median 4.01 2.54 Average 3.96 2.49 18
Risk Asset Allocation & Fixed Income Portfolio Duration Duration (Yrs) RA % of Surplus Max 5.77 66.1% Median 4.01 21.5% Average 3.96 21.8% 19
Invested Assets / Surplus or Net Assets = INVESTMENT LEVERAGE 20
Investment Leverage Inv Assts/Surplus Max 439.0% Median 135.1% Average 162.8% 21
Investment Leverage & Risk Assets-to-Surplus Ratio RA % of Surplus Inv Assts/Surplus Max 66.1% 439.0% Median 21.5% 135.1% Average 21.8% 162.8% 22
FIXED INCOME PORTFOLIO PERFORMANCE REVIEW 23
Fixed Income Performance 1 Year Ending 6/30/2014 24
Fixed Income Performance 3 Years Ending 6/30/2014 25
RISK ASSET PORTFOLIO PERFORMANCE REVIEW 26
Risk Assets Performance 1 Year Ending 6/30/2014 27
Risk Assets Performance 3 Years Ending 6/30/2014 28
TOTAL PORTFOLIO PERFORMANCE REVIEW 29
Total Portfolio Performance - 1 Year Ending 6/30/2014 30
Total Portfolio Performance - 3 Years Ending 6/30/2014 31
Fixed Income Investment Management Fees If applicable, where is your pool on the fixed income manager fee scale? 32
Fixed Income Investment Management Fees As % of 6/30/2014 Book Yield 33
Public Entity Risk Pooling Mechanisms Investment Opportunities Highly Constrained Investing U.S. Treasury Bonds/Notes U.S. Agency Bonds FDIC Insured CDs Flexible Investing All highly constrained items plus: Investment Grade Corporate Bonds Mortgage Bonds Asset-Backed Bonds High Yield Bonds Equities Considerations Duration Extension Agency MBS Subordinated Agency Debt Brokered CD Program Considerations Increase Non-Treasury Allocation Duration Extension Emerging Market Debt/Equity High Yield Fixed Income High Dividend Equity Strategic Asset Allocation Changes Risk Asset Allocation to Surplus Alternative Asset Classes Tactical Risk Asset Allocation Changes 34
LOOKING AHEAD 35
World Economic Issues Slowing China Growth? Falling Oil Prices? Ebola? Inflation, Disinflation or Deflation? 36
World Inflation & Expectations Source: The Economist 37
U.S. Corporate Bond Market Liquidity Source: The Economist 38
Bond Price Volatility vs. Coupon Income 39
Yield & Price Return Over the long-term, yield is the largest contributor to fixed income performance. 40
The WHAT KEEPS YOU UP AT NIGHT Slide Where is your pool s comfort level? 41
Key Pool Boardroom Themes 2013/2014 INVESTMENT POLICY COMPLIANCE & FLEXIBILITY Roles & Responsibilities Changing Bond Markets STRATEGIC ASSET ALLOCATION How to best support public entity pooling mandate? How to combat low yields? Changes in risk appetite? Risky assets as % of surplus? INVESTMENT RISK MANAGEMENT & COMMUNICATON Manager risk management systems and monitoring Performance interpretation and evaluation 42
The Quest for Prudent Yield Increase Non-Treasury Allocation Duration Extension Credit Risk - Corporates/High Yield Corporates/Bank Loans World Debt REITs High Dividend Equity Alternatives Investments Underwriting Improvement via Risk Management Initiatives Investment Management Fee Reductions Strategic Asset Allocation Changes Risk Asset Allocation to Surplus Ratio Active vs. Passive Management of Risk Assets Global Portfolio Positioning 43