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.
Hostplus: In a changing market environment, don’t just do something – stand there!
BlackRock, the Future Fund, Bridgewater Associates and a bevy of other big institutions are all part of a growing choir singing from the same hymn sheet: what worked for investors yesterday will not work tomorrow.
Or, in the words of Aaron Costello, head of Asia at Cambridge Associates, “the market environment has changed and long-term investing is not static investing”.
“It’s about making sure your portfolio is adapted and prepared to generate returns going forward,” Costello told the Milken Institute’s Asia Summit on Wednesday. “So the predominant trend of the past 40 years has been globalisation, disinflation and lower interest rates. But the decade to come, I think it’s quite safe to say, is going to be one of deglobalisation, higher inflation, higher bond yields, climate change – and that’s regardless of who wins the US election and it’s regardless of how many basis points the Fed cuts.”
But Hostplus abides by the principle laid down by Vanguard founder Jack Bogle: don’t just do something – stand there.
“I do remind people that – jokingly I say – during the GFC, my CIO and I did nothing,” Hostplus CEO David Elia told the same session. “We actually did nothing. We had an asset allocation that we believed in. Unless you believed that the entire world was going to implode, in which case it didn’t matter because everybody else was going to be in the same boat, we accepted the proposition that the asset allocation decisions we’d made were the right ones. And those that ran to the hills and started cashing out at the bottom of the market – there were many institutional investors that did that.
“We talk about this concept of action bias and we’ve got to be careful we don’t overreact to what we read in the newspapers. We need to be alert to it, but we need to be considered in the context of long-term strategic thinking, and Hostplus has strong discipline around it. But the cashflows allow us to take advantage of, I hate using the words tactical asset allocation, but the reality is that we can overweight or underweight by virtues of the strong cashflows.”
Elia and Hostplus always “come back to the basics” in investing; super funds are by and large managing pre-mixed investment options where the focus is on asset allocation bets.
“People forget that,” Elia said. “We’re always looking for the new fad, the new bet we intend to take, but the asset allocation decisions we ultimately make are going to be critical in terms of the total return generated by the funds.
“We believe in active asset management – we’re not an index hugger, otherwise we should just give the keys to the government and walk away… The whole concept has always been about net outcomes: our tool kit is asset allocation decisions and remaining quite disciplined, active asset management is critical to our philosophy, the only free lunch is diversification – diversification across asset classes but also within asset classes.”
Hostplus now manages around $120 billion, and Elia expects that number to double every three to four years depending on the direction of markets. Guaranteed inflows from a young member base mean about half its FUM can be locked up in illiquid investments.
“The fund can afford to take an illiquidity bet that very few pension funds in the world can take,” Elia said. “Australian pension funds have been pioneer investors in infrastructure – in fact I’d almost argue that there’s nothing left to own in Australia. There’s no major piece of infrastructure – we own all the airports, the toll roads, the ports. We’re trying to buy stadiums. Governments are broke all over the world. There’s much needed infrastructure. The energy transition requires an enormous amount of investment, and its pension funds and sovereign wealth funds that will have to step up.”
