Speaker 1Capital Allocators is brought to you by AlphaSense. Here's something for you. Most AI tools today are very good at sounding right. But can you actually trace it back to a filing, transcript, or specific passage that drove the answer? Or are you just trusting the confidence of the output? For allocators, that's not a minor concern. A missed filing, incorrect source, or context that gets lost somewhere in a retrieval chain aren't edge cases. They're how decisions go wrong. AlphaSense is the AI platform built specifically for this. They own the content. Over 500 million curated documents from broker research and expert transcripts to filings and earnings calls. And they own the retrieval layer on top of it. That means every answer can link back. Back to an exact, verifiable source. Because the answer is only as good as what's underneath it. And with AlphaSense, you know exactly what that is. See it for yourself. Try a free trial at alpha-sense.com slash capital. That's alpha-sense.com with a hyphen in the middle slash capital. Capital Allocators is also brought to you by Morningstar. In a sea of data, you need to know. What you can trust. Morningstar's data, analytics, and research helps bring clarity across public and private markets. Connecting independent research and data into the tools and AI platforms you use every day. So insights are easier to spot and act on. Morningstar. Nothing in your way. Visit morningstar.com slash game on to learn more. Hello, I'm Ted Seides, and this is Capital Allocators. This show is an open exploration of the people and process behind capital allocation. Through conversations with leaders in the money game, we learn how these holders of the keys to the kingdom allocate their time and their capital. You can keep up to date by visiting capitalallocatorspodcast.com. My guest on today's show is Matt Winneray, the CEO of New Zealand's Superannuation Fund, or Superfund, one of the highest performing, most innovative, and well-regarded large-scale investment allocators in the world. The New Zealand government created the Superfund in 2001 to help defray the costs of retirees in the country in the decades to come. Matt joined the organization in 2008 and became its CEO in 2018, where today he oversees 42 billion Kiwi dollars. Our conversation starts with Matt's background and the creation and objectives of the Superfund. We then walk through the Superfund's investment philosophy, which is guided by four competitive advantages, or endowments as he calls them, and nine investment beliefs. From there, we dive into the implementation of the strategy, covering the risk allocation process, reference portfolio, or benchmark using liquid assets, long-term risk budget, and medium-term tactical targets, across the five risk baskets. We discuss the difference between these risk allocations and a traditional asset class structure, the hybrid structure employing both internal and external managers, internal strategic tilting program, the structure of the team, his current perspectives on asset classes, ESG, scaling activities to support upcoming inflows, and culture. Before we get going, you can sign up at capitalallocatorspodcast.com. to receive three different sources of information. Using the buttons on the homepage or the email list tab, you can receive an email from me once a month with the best things I've read and listened to over the month. While on that page, you can also sign up to receive our blog of industry news. Lastly, hop on the premium tab and subscribe to get access to the library of transcripts of podcast shows. Feel free to forward the email to capitalallocatorspodcast.com. And you can also send the emails you receive to friends to help spread the word. Please enjoy my conversation with Matt Winneray. Matt, thanks so much for joining me.
Speaker 2No trouble, Ted. Great to be here.
Speaker 1Well, let's just start with your background and how you got to this lofty seat in the first place.
Speaker 2So I started life originally as a lawyer. I was at university. I did law and commerce. I came out of that. I worked as a lawyer for a few years. But I always wanted to go and work in New York. And so at that stage, it was harder to do it as a lawyer. You had to go and study in the US. So I had a good mate who was in investment banking. I knew that team well. And when he went to New York, I essentially took his job here at Credit Suisse in New Zealand. And then a couple of years later, got myself up to New York. So I worked in investment banking for about 13 years altogether between here, New York, back here, and then up in Hong Kong. And then got a call one day. About a role at the Superfund on the private market side. So that was in about 2007. And thought that would be an interesting time to switch from the sell side to the buy side. And was looking for something different. And met Adrian and thought this would be the place. So then I ended up at Superfund, originally in the private markets role. And then subsequently in the GM investments role and then the CIO role. And then when Adrian went off to the Reserve Bank, I was lucky enough to get the big one.
Speaker 1Great. So why don't we circle back a little bit to the creation of the Superfund?
Speaker 2The legislation was passed in 2001 and then there was a set up period. So our first monies invested were in September, 2003. And it came about because the government at the time could see that we were going to have this increase in the cost of the universal pension in New Zealand, because New Zealand, like many other. Developed countries had an aging population. You had a bigger ratio of retirees to workers or taxpayers, and they could see that that cost was going to increase. And the Minister of Finance at the time, whose name was Michael Cullen, now Sir Michael Cullen, promoted the creation of a fund, which would see money put away along the way and invested and then used later on to smooth out the cost of that universal pension. So this is not a total pre-fund. This is a way of. Just smoothing it out. So put some aside today, harvest it later and smooth the whole cost out.
Speaker 1So that structure, there was no capital in that then. And let's just circle forward to 2003, 16 years. How much is there today?
Speaker 2About 42 billion today. It started with no money. And then the way the legislation worked is we would get some money every two weeks. We get a check from the government every two weeks and that would add up to roughly two billion dollars a year. And so we start getting. That money in 2003, start investing it, and then and then through to 2009, where our contributions got cut off, we received contributions. And then from then until a year before last, where contributions got started again, we just invested the money that we had. So now we've got roughly 42 billion.
Speaker 1And so let's frame out the rest of the other side of this, the investment equation, which is the purpose this serves. When do you expect to start seeing money coming out?
Speaker 2So what the legislation does. It has a formula in the legislation which is aiming to smooth out the cost of national superannuation over a 40 year period. So it makes a bunch of assumptions around what our returns will be, what GDP growth will be, this type of thing. And then it produces a cash flow model that sees the government needs to contribute to us at a certain rate. And then at some point we will start contributing back to the government. And so at the moment, that model shows some withdrawals from the fund in the mid 2030s, but it's a function of the way that model is working that there are some withdrawals then, but really the big withdrawals start in the mid 2050s. But even after those big withdrawals start, the fund is still forecast to continue to grow through the end of the century.
Speaker 1So a long horizon with absolutely no liquidity needs for a long time.
Speaker 2That's right. Yeah, really key part of our investment approach.
Speaker 1So we take that as the problem. How do you approach it?
Speaker 2So we start by saying, let's have a look at the mandate. So what the mandate says. Is we need to maximise return without undue risk. We need to use best practice portfolio management and we need to not prejudice New Zealand's position as a responsible member of the world community. So those are the three parts of our mandate. And then we say, OK, what is it about us? What's special about us? And we call that our endowments and others might call those advantages. But what's innate to us? And so the things that we think are our endowments are our long horizon. So we talk about that. And then we've got the common liquidity profile. So we're not going to have the government ringing up tomorrow and saying we need a big withdrawal. So we know what the liquidity profile looks like. Our operational independence really fundamental. And our sovereign status. So we're related to the Crown. That gives us some advantages in some places. So we spend a bit of time saying those are our endowments. And then we say, well, what are our investment beliefs? How do we think markets work? And so we've got a set of investment beliefs. I think there are there are nine. These cover things like asset allocation. They cover things like mean reversion, governance, the importance of governance. Beliefs around manager skill. beliefs around life cycles around the importance of esg that type of thing and those investment beliefs are really important because they have to ultimately underpin any of our strategies so we have a set of endowments we have a set of beliefs and then we say okay this is how we do it in the beginning we started with a strategic asset allocation from 2010 we switched to a portfolio construction approach where we use a reference portfolio and so we say all right we want a core portfolio which is something that we can get on a low-cost passive basis that represents a genuine risk benchmark for us and that is a decision for the board and we're just going through the process this year to review that again do it every five years and we come up and that is the view of the board's risk tolerance so how much risk does the board want to take over time but really importantly that our belief is that that reference portfolio would meet our mandate those three things i talked about that's the starting point so that's an expression of the board's risk tolerance the board then gives us a bit of active risk so the ability to depart from that reference portfolio a bit to create the actual portfolio and then the actual portfolio is the difference between those two is the management team are accountable for that
Speaker 1so we've pretty much covered everything so we just have endowments and beliefs and a reference portfolio why don't we walk through a little bit more granular detail start with these what you're calling endowments and how you think about each one so long
Speaker 2horizon so what does a long horizon mean this is this is quite interesting we've published a bunch of white papers which are the outputs of of the debates that we have internally and we publish one on what it means to be a long-term investor because when you ask people that what does it mean to you to be a long-term investment and people leap straight to oh it means that i can invest in private equity we're like well actually let's sort of unpick this a little bit and say what does it really mean ultimately it means that i can invest in private you never forced to sell something your long horizon allows you to hold things through cycles and allows you to withstand volatility as long as it's combined with that liquidity the liquidity profile allows you to do that so you can do those things and you can hold things for a long time but you don't have to hold things for a long time so that long horizon is important because that underpins some of our decisions around the level of risk that we take and then some of the other strategies that we take and then some of the other strategies that we take and then some of the other we use like strategic tilting which which rests on our belief in mean reversion and if you've got a belief in mean reversion things might not mean revert for a long time and actually you might be wrong about what the mean is so you've got to be able to hold these positions for a while so the long horizon is a really important one for us it's the combination of the long horizon and the known liquidity profile that allows you to invest in illiquid assets if they're more attractive because we think you bring illiquid assets in that bring just other risks in they bring your liquidity risk in you can't you can't rebalance illiquid assets you know that type of thing so they might be attractive but they're not per se attractive so that's why they don't exist in the in the reference portfolio the reference portfolio is just a pure passive listed expression those two can interact the long horizon and the known liquidity profile and become really important to a few of the strategies that i'll talk about in a bit operational independence is probably the most important thing for us to be able to do and that's why we've got to be able to be able to do that and we've got to be able to do that and that's why we've got to be able to do that the most fundamental of all of them and so that's related to our investment belief that good governance is a critical part of investment performance and that operational impedance so our separation from the crown our board and management's ownership of all of those investment decisions is really probably the most fundamental belief and where you see investors struggle is where that operational independence is being compromised somehow and other people are making the investment decisions for them and then finally the second thing is that we've got to be able to we've got to be able to make the investment decisions for them and then finally the second thing is that we've got to be able to sovereign status one what does that do well it means that sometimes we're a really interesting counter party for people it also means that in some jurisdictions we get sovereign immunity in terms of tax so that's a slight advantage that accrues to the crown that sovereign status is a smaller one but it does mean it is important when it comes to partnering because we have a restriction in our legislation that sees that we can't control any entity so we can't own a hundred percent of a private business we have to have partners and so that sovereign status one is important to that partnering because people look at us and say okay well they're part of the new zealand crown that makes them attractive sometimes people might think that makes us unattractive but that is a benefit so we have spent particularly around the horizon and the liquidity quite a lot of time debating what does that actually mean so because when we come to our strategies our strategies have to rest on what we want to do with strategies is exploit those endowments and make sure that we're able to do that and so that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and that's what we're doing and so it's really important to have a decent debate about what it actually means because it's really interesting when you first throw that one open about you know if you go to a conference and you say what do you think it means to be long horizon you're going to have a lot of really different some people think it makes you can take massive amounts of risk something that peaks that means you can be completely illiquid really different perspectives on the thing so i know we're going
Speaker 1to overlap with these you said there were nine investment beliefs why don't you just list them out and then maybe we'll pick out a few to talk more depth about
Speaker 2so there's one about governance good governance is important and that relates to that operational independence there's a statement that asset allocation is the key investment decision so the bulk of the outcomes are determined by what your asset allocation is there's a belief that an investor that has a long horizon can outperform an investor with a short horizon over the long term period there's a belief that asset class returns are partly predictable and revert to a mean now of course there's a lot in that right so what how do you predict them and and what the mean is there's an important belief that manager skill is rare so the ability to consistently beat a benchmark it's really hard to identify in advance sometimes it's often hard to identify after the fact right so the fact that someone's beaten the benchmark was that because they were good or because they were lucky good is good lucky is not necessarily repeatable there's another belief that says that some markets are conducive to managers being able to generate active returns and there are some features of those markets that make them more conducive it might be you know less information or more illiquid or it's inefficiency there's a belief that asset classes have a life cycle and that as more institutional investors go through that get into an asset class then perhaps the excess returns decline over time to possibly zero or worse less than that because of fees and then lastly there's one which is that investors need to have regard to esg factors because they're material to long-term returns so a few years ago we had more beliefs than this and we went through we see actually some of these are just facts right because beliefs are beliefs are not facts they're things that we believe that are supported by empirical research and data the mean reversion belief is it's a belief it's not an absolute fact whereas often you'll see in people's beliefs costs matter well that's just a fact right i mean if you have less cost from an investment perspective you have better outcomes that's not a belief that's a fact so we went through and said okay let's just sort of break these down a little bit so that we can be really clear about the ones that we're resting these strategies on and we'll call those our investment beliefs and that's what
Speaker 1they are so we turn then to the beginning of the strategy of how to implement on these endowments and beliefs and you mentioned the reference portfolio you mentioned having a very long time horizon reference portfolio you're saying is low cost easy to implement what does that look like in terms of the underlying assets so low
Speaker 2cost easy to implement passive is the other one means it's liquid listed assets so that means for us global equities global fixed income and new zealand equities and the global equities we split into developed market and emerging market so we have three bits of equity risk in there developed market equities global emerging market equities new zealand equities and then global fixed income and
Speaker 1what's the mix of equity and
Speaker 2fixed income 80 20 so it's a pretty growthy portfolio so there's 65 developed market equities 10 emerging market 5 new zealand equities that adds up to 80 and then 20 fixed income why would
Speaker 1you have as much equity as you have as a global equity and what's the mix of equity and fixed income how much is 20 and fixed income when you have such a long duration liability
Speaker 2because we don't have a bunch of explicit liabilities against us i think that what that does is it provides a bit of a buffer that allows us to rebalance that portfolio it provides some diversification benefit so it is not obviously as volatile as a for example 100 equity case when we talked with the board about the reference portfolio last time we did show them different mixes of equity and fixed income so it's a little bit different but it's a little bit different so it's a little bit different for those which included 90 equity 100 equity and really ultimately it comes down to a desire for the institution to be able to survive through the long term you want to be able to control those drawdowns a little bit so we want to have exposure to that equity risk premium because we think that's the big driver over time but the fixed income provides us some diversification as well as some liquidity provision for rebalancing the board says okay let's do this let's do this let's land on the reference portfolio and then what the board is wanting to know is how's our actual portfolio performing versus that reference portfolio because that's the decisions that management are making in order to try and improve it and for the large part we've added value i think we've had 11 positive value years over the last 15 we've added nearly one and a half percent a year which is worth sort of eight billion to the new zealand taxpayer so that's been good but that's by looking at the reference portfolio when we go into the process we're doing at the moment where we think about the reference portfolio itself then you start thinking about what are the alternative risk profiles that you could take and how would they have gone and of course if you're going to say okay well let's look at it versus what a hundred percent portfolio would have done over the last period where where equities have been strong then you know whatever your ratio of equity is going to be is going to determine that outcome
Speaker 1so let's dive into this operating model of how you have gone about competing against your reference portfolio and beating it over time
Speaker 2like most institutional investors actually we love acronyms we've used far too many of them so we call it the tom which is the target operating model and that was a bit of work that we did a number of years ago which said okay let's be clear about the principles on which we will do it internally or where we will use other people to provide those services for us what the target operating model says is we want to have sort of simpler processes we've got want to have more control over the allocation so that is the risk allocation that as opposed to the individual investment decisions but the risk allocation we want to have fewer manager relationships which are bigger where so we become a bit more important to those managers and we get a bit more over time so we created this reference portfolio in 2010 and that was quite a big change for the organisation because we went from a strategic asset allocation to a reference portfolio okay so in the saa there's you know five percent for timber or five percent for infrastructure or five percent for private equity or whatever and the people who are looking after those in the investment teams know i can you know take the total portfolio and times that by five percent and this is what i've got to go and invest when you go to the reference portfolio there's none of that in there it's a total notional listed low-cost portfolio and then you've got to build an actual portfolio and so we had to build something in the middle to help us be systematic in that active risk and that's where we said okay we have this operating model which helps us make the decisions about who's doing it but really we've got a decision before that which is where are we most confident that we can improve on the reference portfolio and so we said okay we took the investment committee away for a couple of days and we talked about this and we said all right we're most confident where we can see and articulate the drivers of the opportunity where we can change our risk allocation to that over time so they then said all right so let's look at all of the things that we could put in there's forestry there's global macro there's life settlements there's our strategic tilting program which is like dynamic asset there's all these things we need to have some confidence ranking of those things we've got to have some way of of being able to compare them say you know do we want three lots of forestry and one lot of global macro or do we want seven lots of life settlements and one cat bond or whatever we created a thing that we call the risk allocation process which says okay what are the expected risk adjusted confidence adjusted returns from these different things and then we can start allocating risk to them and so that was the sort of the genesis of our risk budgeting process so the risk budgeting process says all right we've got a bunch of opportunities we've put them into these five different baskets is what we call them and then we'll allocate some risk through time to those things and then the teams are then tasked with going and getting that exposure what we call finding the access point that's the process by which you go from reference portfolio to actual portfolio because you've got to have some structure for for working out where you're going to place your active bits
Speaker 1and what are those five baskets
Speaker 2that you mentioned so what we do is we've got a bunch of opportunities investment opportunities some of them are sort of like asset classes but they're slightly different perhaps slightly more granular and then we aggregate them into those five baskets by saying what are the sort of the similar type of opportunities so we've got the first basket is called structural and that used to be called diversification so that's got things in it like timber farming life settlements cat bonds or our factors our equity factors programs things that are driven by structural impacts on the markets that's the one risk basket where we think we'll have some exposure through time always so that's the structural basket then we have a three we call market pricing we've got a real assets basket we've got a broad markets basket and we've got an our credit and funding basket and those have different opportunities in them that that relate to those so real assets has things like infrastructure and real estate the broad markets basket has things like our strategic tilting program mostly things like global macro and then our credit and funding is where we do our internal credit mandates we also have our internal credit mandates we also have our distressed credit we have a couple of other more credit related funding related opportunities and then finally our last basket is one called asset selection so that's one where essentially the basis for those opportunities is manager skill in that thing we've got active equities in new zealand active emerging market equities some private equity so what we've done is we chunk up those baskets and then we allocate risk to each of those baskets and within the baskets to the opportunities and then we allocate risk to each of those baskets and within the baskets to the and then say to the teams the investment teams okay we want a bit of risk in farming go and find some exposure to that we want a bit of risk in forestry you go and find some exposure to that we want some merger arbitrage or we want some global macro go and find those and then that's the construction of the portfolio so there's a there's a risk allocation process first which has us all thinking what's our confidence in the relative merits of these different opportunities and then there's the second decision which is okay well how are we going to get that and that's what that's where the target operating model comes in do we do that ourselves do we have someone else do it so you know strategic tilting biggest chunk of active risk in the fund we do that ourselves we just don't think that we can we can structure the relationship with the manager to make that work other things like distress credit we'll use canyon or bain because we're not going to be able to have that expertise in-house but some things we will do ourselves some things we'll do externally
Speaker 1how dynamic are the changes in the risk allocation across these five groups
Speaker 2so we have this concept of of budget and target and actual so the budget is the long run kind of through the cycle that we say we want to have x basis points of active risk for merger arbitrage for example for each of those baskets we have a team and the team is drawn from people across the investment group and the portfolio completion group and there's those small teams and they are the ones who are the subject matter experts for those opportunities they get together frequently every so often maybe month sometimes monthly sometimes quarterly and say what's happened in terms of the attractiveness of this is merger are more attractive or less attractive as timber more attractive or whatever it happens to be and then those teams then make a recommendation about a target so that's the right now how much risk do we want in that and then the actual is how much we've actually got in it so then the investment team's job is to get the actual as close to target as they can so the target does move around the budget doesn't budget we should be looking at every few years because that shouldn't be changing much i mean what's your relative confidence in timber versus global macro versus distress or whatever it happens to be that shouldn't change but on a month-to-month basis some of these things will move a bit more and that's where we're changing that target and then the actual is is responding to that so some of them are slow moving structural is slow moving you don't expect that to change a lot from a target perspective some of them like broad markets market pricing that's going to move around a bit asset selection again that's not going to change a lot because is the market structure changing in new zealand active equities slowly it's the one in the middle the market pricing ones that move around a bit
Speaker 1more and then when you add up the current portfolio let's say using the framework you're using with risk allocation and budgets and then if you compared that to the older way of doing it with strategic asset allocation and assets and maybe you have like a absolute return bucket for the things that you might have in structural now how different are those two portfolios we
Speaker 2moved nine years ago to the reference portfolio 2010 and since then what it means is that we can be a bit more dynamic with opportunities so we don't have to try and jam it into one of the saa categories and when we had the saa last we had things like timber and infrastructure and private equity and we had this thing called other private markets which was like just a whatever else you got kind of chuckling that this one is a more granular approach doesn't require us to go and change the whole saa construct to add an opportunity so an opportunity can be added on the on the recommendation of the investment committee and the approval of the cio we can then allocate risk to it the board has given us the overall umbrella of how much active risk we can have but then that the job of allocating that across the vast opportunities is sits with management and so i would say always you're going to be anchored a little bit from where you started with but we have moved that quite a way so what i guess we wanted to get away from with the saa was the saa says you're going to have five percent infrastructure whether you think it's attractive or not you're going to have five percent timber whether you think it's attractive at the time or not we wanted that to be a little bit more dynamic and a little bit more responsive and not just put it in just because we've made an saa call to do that and then also you're able to much better attribute accountability for decisions because in an saa world you can never actually be at five percent infrastructure so why are you not there are you not there because management has chosen not to be there because they don't really like the asset that much or because they just can't get there and this one it's really clear you got a reference portfolio when we add a new asset to the portfolio we sell a chunk of that reference portfolio to fund it and we can measure the difference between those two things the returns we would have made versus the returns we actually made and it's really clear who owns that management owns that in
Speaker 1a fair amount of the implementation you've touched on things like strategic tilting there's a blend of what you're choosing to do internally and what you're choosing to outsource to external managers what questions are you asking to determine whether you're going to try to bring the resources in-house or hire externally we start
Speaker 2with a few questions like can we get satisfactory alignment and that probably is one of the biggest drivers not so much a cost one because while you can get some cost improvements i think the bigger driver of our decisions especially where we are down in the bottom of the pacific it's going to be very hard for us to build teams in the us or in europe or whatever and replicate what we might get from managers so the cost one is less of a thing a lot of it is alignment or we can't get some sort of critical risk control that we might want or the ability to move it so strategic tilting is a good example strategic tilting is entirely managed through derivatives it benefits from the liquidity management that our portfolio completion team runs and the counterparty risk that we represent as a fund as a whole so but also the thing about strategic tilting is that you can be for a long time underwater and because you're waiting for these markets to mean reverted they might be slow or they might move further away from whatever you want and so that's one of the things that we've looked at and we've looked at a number of things and we've looked at a number of things and we've looked at a number of things and we've looked at a number of things and we've looked at a number of things and we've looked at a number of things and also what we've seen is where managers are running those types of programs sometimes they have a pooled program and other clients in that program start to lose their nerve and want them to take the risk off and that's exactly the wrong time to do it and so this allows us to control that and we're responsible for it we manage it and that feels like a happier place to be when it comes to other things like for example merger arbitrage or cat bonds or life settlements or you know that stuff there's expertise externally that we don't want to build internally it gives you more flexibility if you're using those externals and sure you're going to pay for that but in a construct like ours where through time we might be in those we might not be in those it's very hard if you've built the team internally to say actually we just don't want to invest anything in this opportunity because then you've got a team who's sitting there going twiddling their thumbs and going well what am i doing it's really around alignment ability to manage risk in a way that is critical to us a bit of cost and also just being clear-eyed about who's got the expertise can we actually get the expertise here in new zealand versus what we
Speaker 1need and that strategic tilting effort what different asset classes are in that mean reverting
Speaker 2strategy it's got global equities global bonds currency it's got some credit so it's sovereign and credit we've just recently introduced a small bit of risk in we're starting to tilt those as well so the big global equity markets big global bond markets large currency markets so these are all liquid things that we can we can use either futures or trs's on and can trade and that team will trade pretty much every day and are
Speaker 1you going down to the security level so you could do mean reversion across markets you could do it tilt to value and growth you could get into sectors you could get into securities within sectors how far down are
Speaker 2you going the genesis of it was it started with basically two levers it was either a view on global equities versus global bonds and it was a view on the kiwi versus the basket of currencies so those are two things and then over time we've significantly increased the breadth of it so now now we've got global equity markets like japan canada us europe uk emerging markets we've got the same bond markets we've got about four different credit markets australia japan us europe we've got all the major currencies so we haven't gone down below to sector or individual securities because we're more confident at the whole of market level of being able to say what do we think the long one run equilibrium prices of value is and then compare that to the current price when you get to individual sectors and individual securities we're just much much less confident in that so you can increase breadth but i think you reduce confidence and so we probably don't improve the performance of that by doing that i think that's the key is to have breadth of non hopefully uncorrelated positions but without destroying the confidence by just getting to a point where we just can't have a view and
Speaker 1what metrics are you using to determine equilibrium and markets that move away from equilibrium
Speaker 2yeah so the team builds dcf models for all of these markets we have long run views on on the big drivers so growth inflation real interest rates and then that's which come from our internal economics teams as well as gathering data externally and then with those we form views on what the long run equilibrium values are we use particularly in the rates and the impacts on the currency as well we use the sort of the near-term market pricing because what we're not trying to do is is forecast where things are going over the next couple of years what we're trying to say is is there some sort of reasonable difference from the long-run equilibrium value and then if we think it's a little bit lower then we'll buy it you know if it goes down at that point we'll buy some more and we'll do that incrementally and then if it starts to go up then we'll start to sell it so long run economic drivers try to have economic identities so that you don't have these sort of divergent models but they are all ultimately consistent
Speaker 1with each other and how do you think about sizing the strategic tilting effort as a percentage of
Speaker 2the whole we have a view on what we think the overall information ratio is what we can make in terms of active return versus the risk that we take then we have individual views on the different markets how confident we are so there's a there's a sizing thing going on within tilting about how much we allocate to equities versus bonds or currencies versus each other's or whatever for strategic tilting itself strategic tilting is the biggest chunk of our active risk budget and that comes from being really consistent with our beliefs and our endowments and us having a lot of confidence in our ability to execute that which is sort of developed over time so we look at what we expect to make on that so our confidence and our risk adjusted return expectations we adjust that by our confidence versus every other thing that we'd allocate active risk to and that gets the biggest chunk of active risk and where do you end up the budget for tilting at the moment is about two and a half percent active risk at the at the fund level within a total active risk budget of of four percent but of course things don't add up because they're not necessarily correlated with each other so it is definitely the biggest chunk of active risk that we've got the other
Speaker 1internal effort you mentioned was the completion strategy so how does that fit into the puzzle
Speaker 2the portfolio completion team is what a lot of other organizations might call their treasury function and so they're the team that do all of the market trading so all of our derivative trading all of our fx hedging all of our transitions or rebalancing so their job is to is to basically take the actual portfolio and do all of the market trading and do all of the portfolio compare it with where we want to be from a risk perspective and then rebalance to get back to that by using those liquid ones as well as execute the strategic tilting trades as well as do the fx hedging as well as trade the new zealand equities that we might trade internally so that's a really important team we created that after the gfc so going into the gfc all of our stuff was outsourced and we didn't have great views of almost anything liquidity or risk or any of that so it's a big program to create some critical functions which allows us to have visibility and control over our liquidity management and then also you know a window into where markets are so that team is a team that is doing all the market facing activity we talk
Speaker 1a little bit about the external manager relationships and you did mention you'd like to have fewer of them and deeper relationships and aligned how do you go about and how does the team go about picking those managers
Speaker 2that fewer deeper came from go right back to when you're an saa and you're saying okay we've got five percent of pe so then we want to have a whole bunch of different managers to give us some sort of broad exposure to a world where we said okay under the reference portfolio we're going to allocate to something if we think that there's really something about that market or that manager that gives us great confidence that we're going to beat the reference portfolio in doing that we necessarily become a bit more concentrated we want to allocate more but also what we want to do because we're i talked about the confidence we've got more confidence if we can change that risk allocation so that fewer deeper one said okay we want to try and make these flexible mandates and so what that means is you go to a manager like bane and you say i'd like a european distressed mandate and they say oh we've got a fund and say okay well yeah that's great but actually we'd like it to be a bit more flexible so we can allocate capital to it according to our budget and then we can move the attractiveness of that opportunity over time and so you can't do that million dollar check what we found is actually around about 200 you start to have the ability to create a flexible mandate you can say okay we will we'll set this up so that you can draw it down but periodically we will reassess the attractiveness of the market and if we say if we really like it we can allocate more if we don't like it we can just rule it off it wherever it is it's more intensive to manage so you need fewer of them and you want to be closer to those managers so that you're getting a feedback loop as to attractiveness that's something that we worked on but also what we want to get out of those manager relationships is a bit more ip a bit more input into our teams that we can use for just getting our people smarter and our processes better and as you
Speaker 1filter through those manager relationships do you tend to find that larger managers are more conducive to being able to help you the way you're looking to
Speaker 2yeah it tends to be like that if you think about it from a manager's perspective to be able to manage the allocation process that you've got to go through if you if you've got a bunch of different mandates and you've got a fund for example and you find an asset you've then got to say okay well i'm going to give three bits to the fund and one bit to this mandate you know that sort of allocation infrastructure i think means that they have to be bigger and more sophisticated generally speaking that probably pushes you more up this size you mentioned that
Speaker 1you want these managers to be able to help you with the flexibility and shifts in asset allocation and strategies how much do you come to those judgments on your own and how much are those inevitably informed by the very managers you're giving the money to
Speaker 2often they are at least but also you get quite a bit of information by their activity because generally speaking if a manager is slow from allocation perspective in terms of well slow versus what but you know not seeing lots of opportunities that's pretty useful information for us because that says well actually maybe this isn't that attractive so so you're often probably if you really looked at it you'd say there's a reasonable correlation between the pace at which managers are allocating risk and our view on attractiveness as you'd expect because they're close to it and if they're not seeing opportunities in then our other indicators would probably tell us that we don't think it's that attractive either right
Speaker 1do you run the risk that the managers as a group sort of form a consensus and as a result you're tilting towards a market consensus instead of as you want a mean reverting kind of contrarian approach
Speaker 2possibly but that's where having a bunch of them and particularly a bunch of them who think in sort of different ways is quite useful because then you're you're not totally driven by a single information source or data source you can talk to them and what's really useful from some managers is that they're not totally driven by a single information source or data source you can talk to them and what's really useful from some managers is notwithstanding that they might not be in a particular asset class they'll they've got sort of frameworks and structures for thinking about how they would view the retractiveness so they can be really helpful outside of their immediate area for us for thinking about that and the other way we try to deal with that is those risk basket teams have got a bunch of different people in them so that it's not just the person who is dealing with the manager at the access point level who is doing the target allocation it's that team that's doing it so you get a bit of protection against them against capture if you like through that process what does
Speaker 1the structure of your team look like across the investment side of the
Speaker 2organization yeah so we've got two gms involved so steven gilmore is the chief investment officer and he looks after the investment group and within the investment group there are four teams there's responsible investment team there is a team called external investments and partnerships and that's our external manager team in large part there is a direct investment team and there's a direct investment team and there's a direct investment team and there's an asset allocation team so we've got what we tend to call them as access point teams our access point teams are the external investments and partnerships team and the direct team and then so outside of steven's group there's a group called the portfolio completion group so that's headed up by mark for now who is the gm of portfolio completion and that has within the portfolio completion team that does all the market trading and another team called portfolio investments which is generally running our internal credit mandates and a strategy we call the direct arbitrage strategy which just looks to take advantage of dislocations and markets so yeah four teams under steven two teams under mark and the whole lot represents our investment function how
Speaker 1many people are in each of those teams
Speaker 2so there's about 50 in the investment group there's about 10 i think in the portfolio the overall portfolio completion so maybe we're in the sort of the 55 60 somewhere around there so i'm going to
Speaker 1circle back to two of the beliefs you talked about in the portfolio completion so i'm going to circle back to two of the beliefs and really bring them into the present market so one is the notion of markets that are conducive to active management and the ability to generate alpha where are you seeing those markets today
Speaker 2we don't see that many to be honest so we do think that in new zealand so the new zealand active equity market is an interesting one in the sense that the median manager has been able to generate alpha or you know excess returns over time and you say why is that is that because there's a bunch of real special managers or is that because there's something about the benchmark or is there something about the structure of that market so we think that the new zealand market is one of those that's conducive to it so so as a result of that we have actually relatively few listed market active managers so i could count them on pretty much one hand we've got two managers in new zealand that run active equities we've got one global emerging markets active manager and we've got two managers in new zealand that run active equities we've got one that's it right so we don't have any developed markets active managers we don't have any fixed income market active managers in those listed spaces and that's really because we look at those and we say in those really large developed markets there are lots of really smart people trading with each other and we don't think that there's a persistent production of excess return contrast that with the new zealand market where we think there is although that that might also be declining over time and we think what's happening in the new zealand market is that the new zealand market is going to be declining over time and we think what's happening in the new zealand market is made up of retail investors international institutional investors some international strategic stakes and the new zealand active month and the relative proportions of those mean that generally speaking we think the new zealand active equity managers manage to trade off those other groups and get their alpha off them whereas you go to the u.s market there's a lot of active managers in there and on average the whole market is paying fees but not generating alpha so yeah
Speaker 1yeah this may be tied to a bit this belief about understanding that there's a life cycle of asset classes as you look at the markets today where do you think we are in a variety of different asset classes in their life cycle
Speaker 2i think that's sort of forestry forestry i think is you go back from an institutional investor perspective maybe 10 15 years started the team i started uh and institutional investors started to allocate the timber and then you had all this big trade where all of the timber assets went from the integrated forest product companies to investors who had lower cost of capital and then now there's just a lot fewer of those big things so i would look at forestry and say i think there's been a that has moved through the life cycle i think of other ones i think life settlements probably a little bit like that you know so life settlements is a shorter time frame but a lot of capital allocated to it and the big trade was large insurance companies selling these books to most of these private managers and those big tertiary books are kind of done right so so now there's there's just sort of less there where are the ones where it's sort of a little bit you know i think farming is and agriculture is still earlier in the life cycle one i think that because it's just hard to get scale in that right so whereas in a you might be able to buy a billion dollar forest you can't buy a billion dollar farm you come to new zealand you want to do dairy farms you're so i think that one still there's barriers to getting into it for the large institutional investors you think about others like private equity just feels like there's just more and more allocation to that and and that market which might have been much more inefficient for unlisted companies you know in the two to three to four hundred million dollar range a few years ago just feels like it's much more intermediated now and there's competitive bids for everything and that just feels like the excess returns in that space have compressed as well so that's the thing is for us to be a bit realistic when we're allocating to these things to say well where is the real source of excess return what is it is it a manager skill thing is it a leverage is it a luck is it a something that there's just inefficiencies in the market that mean that managers are able to find these things we have to be reasonably honest with ourselves about what the source of that return actually is so i know
Speaker 1that in addition to starting with a reference portfolio and creating these risk allocation and budgets and balancing what's internal and external and all these different levers of return you also think of themes and pursue themes in the portfolio so talk a little bit about how you develop the themes and how you implement them in the
Speaker 2portfolio yeah things are hard i would say and actually in the last few years we haven't done nearly as much with those things so where we started with themes was we said all right so we think there are some themes which are sort of long happening and things like resource scarcity and things like the development of emerging markets those types of things and what i guess you find with themes is that we were using them to say okay let's try and help the teams with finding the most sort of fruitful areas of opportunity where are those spaces which we think have a tailwind from a theme and therefore are sort of conducive to us finding opportunities that will get paid more for the risk than the risk that we're taking would imply and what you find i think a little bit is that you can almost back any investment you like into whatever theme you've defined because the other danger is that you set the whole portfolio up on the basis of a theme and then some other theme overtakes it so we haven't really applied those themes that much of like probably the biggest one that we've now picked up as an investment strategy is around climate change it's a very long run change in markets but it didn't come out of that theme activity if you like but the emphasis on themes has declined a bit because i think in practice it's quite hard to to really implement them and you go and you look at thematic managers around the place and the records aren't necessarily fantastic right
Speaker 1i know you spent a bunch of time on esg efforts yeah and why don't you walk through a little bit of the history and then certainly there's been a more recent one with the tragedies that happen locally and the impact from social
Speaker 2media so esg breaks down into two big chunks that the integration piece and the ownership piece and and so integration is about understanding what the esg implications of risk allocations are right from the start so when we're doing that risk budget work what the ri implications of a particular opportunity are so we'll factor that into that risk allocation process then thinking about where what happens at the access point and making those decisions where you're choosing either we're investing directly or we're using a manager what are the ri implications so that integration is really important at that end and then the ownership chunk is about voting and engagement and just being an active owner in relation to those things so so that's how we sort of think about the two big bits of work and there's another bit that comes out of really the integration i guess which is exclusions and that's a really small part of of esg but it's the bit that gets the most attention because people look at and go oh you've excluded this company why and or you haven't excluded this company and the norwegians have so you must be evil you know and i think that's a really big part of the integration you know that kind of stuff but actually the exclusions are a relatively small part of what we do in esg on the ownership side of things yeah we've got a an active voting program we brought that in house last year we vote all of our all of our shares globally and then we also have an active engagement program we do that directly with companies domestically and we use a bmo to help us on the global engagements but the most the notable one that you mentioned was post the tragedy in which we together with another group of the new zealand crown investors we got together to lead an engagement with the social media companies about the well aimed at preventing the live streaming of objectionable content and subsequent distribution and so that's a program that's underway at the moment we have i think at last count like 81 investors from around the world a big chunk from new zealand a big chunk slightly more from offshore than domestically and those investors between them manage assets of about 10 trillion dollars so a big group of investors who are concerned about this issue where and so that engagement is with the likes of facebook and google and twitter aimed specifically at preventing that distribution and live streaming of those
Speaker 1things and how has that played out in in the engagement so far that's
Speaker 2early days in that engagement we're in touch with the local entities what we've been doing through this first few months is getting that group of investors who want to be involved to find out what they're doing and what they're doing and what they're doing and what they're doing and what they're doing and what they're doing and what they're doing and what they're doing the work from our perspective on what the potential solutions might be so that we're in a good position to to sit down and have these discussions and that's the next phase and we'll be getting that into that
Speaker 1shortly what are your priorities for the coming year as you look at the things you're working on and how you're going to continue to try to
Speaker 2evolve this model so the government announces its budget in may every year and so in this new budget the government announced a new mandate and it's going to be a new budget and it's going to be a new budget and it's going to for the guardians to manage and that is a mandate for the development of domestic venture capital domestic venture capital market and there's quite a chunk of work at the moment going on okay well let's define what that mandate is going to look like let's help with the drafting of the legislation let's deal with the entity that's going to manage that for us which is a crown entity called the new zealand venture investment fund and define what the terms of that mandate are and so there's quite a lot of work across the organization to figure out how to do that because to date we've got the guardians which is us that's our investment management company and then we've got the fund and the guardians had one mandate and one purpose and that was fantastic we've now got an additional mandate which we've been given because government regards us as competent investors so they've said right you can do this as well so now we're going to run these two mandates the new mandates you can do this as well so now we're going to run these two mandates the new mandates small comparatively it's only going to be about 300 million compared to 42 billion so you've got a lot of disparity but actually it's going to take quite a bit of work to set that up that's a big one is getting that going we've got within the investment teams and then more broadly within the support functions as well started last year a bit of work called focused on our long-term target state and that's because go back to december's 17 the government restarted the contributions and the restart of the contributions means we're going to grow faster so we'll get a couple of billion dollars a year and touch wood we'll get some investment returns on top of that and so we'll grow quite a lot faster so fast forward six seven years we could be 80 billion dollars so then we've got a question which is okay what does that mean for our active investment strategies at the moment what does it mean for the likes of portfolio completion can we scale these things because not all these things scale well direct investment is a challenge to scale some things are strategic tilting is easy to scale but some things are strategic tilting is easy to scale but some things aren't and so we've been working a lot on that and that's that's leading to a discussion with the board which is around investing in our strengths where do we want to add resources in the next two to three years which will support that growth in assets under management and allow us to continue to generate the active returns that we've enjoyed in the past and then of course with that growth comes the impact on the support functions on operations on it on finance and all that kind of stuff so it's a really interesting conversation going on around that at the moment the other bit of work that we've been doing that we've been active on for a long time is around culture but more recently since i took over we've run a values project to i guess be clear about what our values are as an investment organization which was quite a neat project where we got we just gathered stories we said to everyone give us a story about a time when you've been proud to work for the organization or you haven't been proud to work for the organization or you've you've had some difficult decision to make and how you've been able to make that decision we've done that we got this really great set of stories 120 120 stories out of 130 people 100 something like that and we were then able to go through that and pull out the themes from those which which revealed the value so you're not going to someone saying oh what are you value you're going to someone say tell us a story and those stories are really powerful and we got great engagement with it and came up with a new set of values for the organization because ultimately we rely on being able to attract really good people into new zealand which is a long way away from the big global financial markets and and we've got to provide a really good proposition for people to come here and so that culture is fundamental and is an ongoing part of what i'm looking to
Speaker 1do what are those values the
Speaker 2values are we stand strong and that goes a little bit to the way we use frameworks the basis of our approach our long horizon our ability to withstand the swings of markets our decisions are principle based we support each other which is just a humanistic more value we're future focused which is really focusing on the long run and again the swings and roundabouts of markets and team not hero is the final one so that our focus is on the broader team and not heroes and actually what we've done is we've created a set of cartoons that go with those because those cartoons are evocative and so also what those cartoons do is provide a little bit of construction so that's a little bit of ambiguity because these things mean slightly different things to different people but ultimately are really important to how we all operate so that was quite a neat part of the continued development of our culture that we went through last year yeah
Speaker 1well let's turn to some closing questions what's your favorite hobby or activity outside of work and family snowboarding
Speaker 2the deeper the better yeah definitely snowboarding when you get some deep snow and i have done a But when you get left at the top of a ridge and the helicopter goes away and it's all silent and you've got this completely untouched pitch in front of you, it's just fantastic. It really is marvellous. What's your biggest pet peeve? This is funny. I was talking to my wife about this and she pointed out that my biggest one is the absence of the keys from where they ought to be. So the keys not being in a consistent place when you go looking for them.
Speaker 1How about your biggest investment pet peeve?
Speaker 2I think it probably comes down to when you're receiving pitches, people have what I think of as kind of imaginitis around them. around the lack of volatility of private market assets. So, you know, you get this bit which is, "Oh, these things aren't volatile." It's like, "Okay, well, why is that?" Well, the best evocation of that I've seen is, you know, if you imagine a bat flying and the bat is quite jerky and it's flying all over the place, then it flies into a pipe. And then it flies out of the other end of the pipe. And what these people who think about this volatility of illiquid assets would have is that the bat is actually flying on a straight line from one end to the other, because that's where they've measured it at the start. I think you'll really find out how volatile those things are when you're gonna try to sell them in a difficult market. And that's probably my biggest one. -
Speaker 1What reading do you almost never miss? -
Speaker 2I am always smarter for having read something from Cliff Asness. And I think he, especially he's been, that over the last year or so, his values had a hard time. In fact, he's had a difficult time. And he's written some really good stuff that has been quite pithy. That's quite useful for dealing with the board. I find, you know, some good ones, which are around how do you assess strategies which aren't performing well? What's the process you go through? What are you trying to achieve? You're trying to achieve resilience. You're not trying to achieve some level of sort of disinterest. And how do you do that? -
Speaker 1What teaching from your parents has most stayed with you? -
Speaker 2Destroy the evidence. If you're gonna take the last biscuit in the packet, get rid of the packet. And then no one will know that the packet was even there. So that was, just be careful. -
Speaker 1Last one. What life lesson have you learned that you wish you knew a lot earlier in life? -
Speaker 2The first year of work after you get out of uni is really not that important for where you end up. So don't feel that you've got to rush into, you know, whatever is the first job that you managed to get. Go and spend some time overseas and get some life experience. And I would strongly recommend that to my kids. And anyone else, just get out there and live a little because you'll find 10 or 20 years down the track that actually, whether you've done that or not, doesn't make any difference. And in fact, might enhance where you've ended up 'cause you've learned a bit more about yourself. -
Speaker 1Terrific. Well, Matt, thanks so much for taking the time. Really appreciate it. -
Speaker 2No worries, Ted. -
Speaker 1Thanks for listening to this episode. I hope you found a nugget or two to take away and apply in your investing and your life. If you'd like what you heard, please tell a friend and maybe even write a review on iTunes. You'll help others discover the show. And I thank you for it. Have a good one and see you next time.
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