Risk management is deeply ingrained in David Iverson, head of asset allocation at the A$20 billion New Zealand Superannuation Fund. Writing a book about it, however, proved to be more of an act of faith. David Chaplin finds out why.
In the beginning there was the statement of investment beliefs.
Or there should have been, according to David Iverson, New Zealand Superannuation Fund’s head of asset allocation, who argues in his recently-published book ‘Strategic Risk Management’ that investors have very few comforting certainties to cling to.
As the book title implies, it’s not a pot boiler, but Iverson says: “What we know about financial markets is surprisingly little, and we can have only low confidence in even the financial theories that currently exist.”
He’s not making a case for the financial equivalent of atheism. Instead, Iverson says investors need to make their underlying belief systems explicit rather than defer to unquestioning faith.
“It’s the implicit beliefs that are dangerous,” he says, as the Global Financial Crisis (GFC) revealed.
“The GFC was a real test of investment beliefs,” Iverson says, “some investors knew what they believed and responded appropriately, while some were surprised and reacted.”
He explains the fundamental difference between ‘reaction’ and ‘response’ in the ‘Strategic risk management’ preface like this: “… some funds have changed for change’s sake; others appear to have genuinely challenged the rationale upon which their investment approach rests and made sensible changes, or not.”
For example, Iverson says post-GFC many investors simply switched from active to passive management without clearly articulating why.
“But once you’ve made your investment beliefs explicit you can deal with them – and ask yourselves regularly whether you still believe them,” he says.
While researching for the book, however, Iverson discovered very few funds publish their investment beliefs but he cites three examples in ‘Strategic risk management’ – the Australian Future Fund, the Swedish government pension manager AP2, and the Dutch government pension fund ABP/APG.
Although Iverson deliberately avoided any specific reference to his employer in the book, NZ Super also publicly displays its investment beliefs.
For instance, under ‘manager and investment selection’, NZ Super says it believes: “True skill in generating excess returns versus a manager’s benchmark (i.e. pure alpha) is very rare. This makes it hard to identify and capture consistently.”
Iverson says this belief is clearly reflected in NZ Super’s significant allocation to passive investments via mandates with BlackRock and State Street.
But as the fund also believes that some “markets or strategies have characteristics that are conducive to a manager’s ability to generate excess return”, there are plenty of other actively-managed mandates across a wide range of assets in the NZ Super portfolio.
According to Iverson, sheeting investment decisions back to core beliefs leads to a more-disciplined approach to portfolio management and bottom-line benefits.
“Recent research into investors who have investment beliefs… shows that funds (pension funds in particular) with clear beliefs about asset pricing and risk diversification have better risk-return performance measures as well as lower costs,” he says in the book.
Despite its dissertation on investment beliefs, ‘Strategic risk management’ isn’t really a philosophical exercise, which the book’s subtitle – ‘A practical guide to portfolio risk management’ – indicates.
Iverson says he based the book on a risk-management hierarchy that encompasses all aspects of a fund’s operations ranging from governance (the most important in his model) to monitoring. While the book is pitched primarily at institutional investors, he says the principles can just as easily be applied by smaller funds or even in the retail market.
With over NZ$25 billion to play with, Iverson is responsible for asset allocation at New Zealand’s second-largest (the Accident Compensation Commission fund currently just pips it for FUM) but most diverse investment pool. However, Iverson says his book distills the risk-management knowledge acquired over a diverse career in the investment business.
“I’ve gone from broker to investment management to consulting to now asset owner,” he says.
Starting “at the bottom” as an equity and quantitative strategist in the New Zealand arm of stockbroking firm BZW (which was bought out by ABN Amro) before eventually rising to senior positions in a number of funds management firms, including a long stint with ING’s institutional arm in Sydney.
“Broking was more about trading markets than adding value for clients,” Iverson says. “You need to own the assets or be a fiduciary to really add value.”
His next career move, as Asia-Pacific regional risk manager for ING Investment Management, took him at least part of the way.
“I was doing business risk management mainly. I helped kick off a new business risk framework,” he says. “Risk was well-managed within business units but it wasn’t necessarily well-managed between units. I plugged a hole.”
While the ING job provided valuable insight into the operations of a global institutional fund manager, Iverson also took an interest in wider investment risk issues.
“The greatest risk for a client is the risk of a mis-match between the product they get and their investment objectives,” he says. “As intermediaries [fund managers] don’t necessarily take responsibility for managing that risk.”
After a brief soujourn with ING in Hong Kong, Iverson returned to New Zealand to take up a consulting role with Russell Investments, where he stayed for five years.
“Consulting is like taking a 20,000-feet view of the industry,” he says. “You really get to see how investment management works. It was a fantastic learning period.”
Iverson later spent about 18 months as head of institutional investment services and quantitative research at Goldman Sachs JB Were NZ before the gravitational pull of NZ Super lured him across five years ago.
“I saw a great opportunity to leverage my experience into the fund,” he says. “And I’ve been able to learn more – there’s only so much you can learn as part of the competitive industry. There’s a lot more knowledge-sharing [between sovereign wealth funds and the like].”
Currently, Iverson is busy implementing a new risk-budgeting framework for NZ Super.
“We’re just finalising the details now,” he says.
If Iverson had applied the same risk-budgeting techniques to his literary efforts, though, it’s unlikely he would’ve embarked on ‘Strategic risk management’.
He began to write the book over three years ago, just as his third child was due, in an optimistic frame of mind.
“It takes either ignorance or stupidity to write a book,” Iverson says. “Ignorance because you don’t realise how much time it will take or stupidity because you know how much time it will consume and you keep doing it.”
And while he’s pleased with the final product, Iverson isn’t holding out for any miracles from the first quarter ‘Strategic risk management’ sales figures.
“I don’t know how many books I’ve sold yet – I’m speaking to the publisher soon,” he says. “I didn’t write the book expecting to make a lot of money – people generally make more money out of working, especially in the investment business, than writing a book…. unless it’s ‘The Bible’ or something.”