Since the emergence of “Modern Portfolio Theory” and the “Capital Asset Pricing Model” in the late 1960s, institutional investors have taken a quantitatively driven approach to portfolio construction, looking to create portfolio diversification and obtain better risk-adjusted returns by balancing their asset-class exposures. This journey has seen several important advancements in thinking about how to optimally achieve desired results.
Funds that want to take the total portfolio approach first need to get the total portfolio view. To do that they not only need data – and lots of it – but a rock-solid understanding of exactly how they’re going to use it.
NZ scheme presents a case study for all
The Police Superannuation Scheme in NZ will tweak its asset allocation model and launch a new high-growth option after some outsourced soul-searching. The exercise is a case study in matching member expectations.
In its latest newsletter, the almost NZ$2.4 billion (A$2.2 billion) PSS says the changes follow the findings of an investment review and member survey carried out by consultancy firm Melville Jessup Weaver (MJW) and pollster NielsenIQ, respectively.
Hired late last year in the wake of a Police Association AGM remit “expressing concerns about the scheme’s investment performance compared to KiwiSaver schemes”, MJW found while the PSS scheme was well-run, a few anomalies skewed returns compared to peers.
The MJW report “notes that the scheme’s balanced option, which is split 50/50 between growth and income assets, is more conservative than comparable funds”.
“In addition, it finds that the scheme’s investments in commodities and a fund of hedge funds has contributed to the scheme’s relative underperformance over the medium term,” the PSS newsletter says.
The MJW conclusions echoed those of a parallel strategic asset allocation conducted by the PSS investment consultant, Russell Investments.
Recommendations post the reviews include “moving to a 60/40 split for Balanced and removing the fund of hedge funds from the portfolio in favour of a higher weighting in global and New Zealand equities”, PSS says.
However, we have elected to retain some exposure to commodities, which helps diversify the portfolio,” the newsletter says. “Our modelling shows this asset class has the potential to reduce volatility for only a very slight reduction in expected returns over equities.”
PSS, the biggest stand-alone employer super scheme in NZ, invests via a Mercer portfolio that features over 20 underlying managers including Janus Henderson for commodity futures exposure and a Mercer-selected fund-of-hedge-funds.
The MJW review says the PSS scheme had robust investment controls and outperformed compared to targets despite falling behind peers of late.
“Performance relative to peers is less important than helping members achieve their retirement savings goals. However, significant underperformance, even if cyclical, risks damaging the reputation of the Scheme,” the MJW report says.
“Moreover, poor relative performance may lead to pressure to change the Scheme’s investment approach to ‘follow the crowd’. This means that relative losses will be locked in and, if the factors that differentiate the Scheme do come back into favour, members will not benefit from this rebound.”
The asset allocation changes will come in by August, the newsletter says.
At the same time, the police fund – representing over 11,100 members as at end of March this year – will add a new high-growth option to meet demand uncovered in the NielsenIQ survey by “members who are prepared to tolerate higher volatility in returns in exchange for higher long-term expected returns”.
“This is something that we’ve been working on and have decided to introduce later this year,” PSS says. “The new option called High Growth will comprise 95 per cent growth assets with a small allocation to cash for liquidity management purposes only.”
The NielsenIQ survey found most PSS members were happy with the fund bar a “small but vocal number of disgruntled members”.
“They believe the fund is underperforming and they feel they could do better elsewhere,” the survey report says. “They resent lack of government contribution given to KiwiSaver members.”
On top of Mercer as investment manager (and administrator) and Russell as strategic consultant the PSS uses Australian firm Chant West as ‘multi-manager consultant’.
The PSS trustee board includes professional directors Charlie Cahn (chair) along with Ian Russon (licensed independent trustee) and Graham Ansell. Greg Fleming, Sarah Graydon and Sandra Venables service as Police-appointed trustees.
- Investment News NZ
