It’s all boringly good at the NZ Superannuation Fund (NZS): another year of bumper returns; another $1 billion taxpayer top-up; and, another glowing independent assessment report, this time courtesy of Willis Towers Watson (WTW).
But after scraping back the thin veneer of investment outperformance, strong governance, operational excellence and best-in-show practices, WTW did reveal a few could-do-better pointers in its statutory review of the $43 billion NZS published last week.
WTW laid out just five formal recommendations in the wake of its three-month trawl through the sovereign wealth fund machine, calling on the NZS to: review investment and organisational beliefs; bolster the risk factor framework; add responsible investment (RI) resources; do more sophisticated portfolio stress-testing; develop a “stronger employee value proposition” for the, relative to global peers, underpaid staff.
In its response, NZS agreed with all but one of the five WTW recommendations, noting it either already had put the proposals in place, or was about to.
However, the NZS kicked back on the WTW call to shake up its portfolio risk-budgeting methodology that centres on exposure to equities.
“We note that the application of such an approach to the Guardians’ portfolio would most likely result in swapping equity risk for other types of risk (e.g. illiquidity risk, term risk, inflation risk, manager skill, etc.),” the WTW report says.
The review says while the current NZS risk-allocation mode has worked well “it is worth reiterating that the past decade has been a very good one for all asset classes, particularly for equities and equity-like assets. It is our view that the coming decade will not be nearly as positive for equities (or for other asset classes).”
WTW says a more diverse balance of risks in the portfolio construction phase could set NZS up for a “smoother” ride during uncertain times.
NZS says in its response: “We came to the conclusion that such frameworks did not greatly increase insight into the portfolio compared with our risk budgeting process.”
And that is pretty much the only sticking point among the entire list of five WTW recommendations and 13 ‘suggestions’ – at least from the NZS perspective.
WTW’s arguments that NZS staff are paid “below average in the peer group” might not hold much sway in the court of public opinion: 116 of the almost 127 NZS staff earned over $100,000 last year, according to the fund’s 2018 annual report.
The Labour-led government also drew NZS chief executive pay under tighter oversight – partly in response to the $1 million plus compensation doled out to previous CEO, Adrian Orr.
“These provisions are out of step with best practice governance, where a board’s primacy to set CEO compensation and contract terms are accepted norms,” the WTW report says. “This affects the CEO role and has follow-on effects for compensation for other staff, and qualifies the operational independence that has always been a positive attribute of the Guardians’ framework.”
NZS currently employs 133 full-time equivalent staff, well below the budget target of 163.
Aside from paying people more, the WTW report says the NZS could improve staff morale by easing back on the bureaucracy in the, necessarily, compliance-heavy government fund culture.
The NZS review of the ‘employee value proposition’ could consider “whether the current level of rigour in the compliance process is having an undesired side effect of stifling creativity”, WTW says
In reply, the NZS notes: “… there is an important balance between rigour, efficiency and innovation. As part of the current Risk Culture work programme we are reviewing our approach to compliance and periodic attestation.”
WTW also highlighted a few other potential risks ahead for the NZS, including the fund’s imminent role in administering a new $300 million venture capital fund. This June the government agreed to create a venture capital fund to invest in local start-ups using money originally destined for NZS coffers.
Under the proposed legislation, currently coasting through parliament, the NZS will both administer and advise the venture capital fund.
“We observe the experiences of other sovereign wealth fund peers that have to manage multiple mandates and roles and issues of operational independence. It is fair to describe these experiences as mixed,” the WTW report says. “We emphasise that these are challenging areas for stakeholder management which will require the Guardians to commit significant CEO and Board time in order to produce successful outcomes.”
WTW has a few other investment suggestions for the NZS, too, such as reviewing the 100 per cent hedging ratio and risk-free return assumptions used to create the reference portfolio. The NZS reference portfolio is under review with a final report due back by June next year.
The report also questions whether the ‘mean reversion’ assumptions behind the, to date very successful, NZS “strategic tilting” process will stack up in the future.
According to the NZS, the strategic tilting “programme performance is monitored at both the aggregate and asset class level against our expectations”.
“We believe the performance to date, which is greater than our return expectation, provides endorsement of the reliability of mean reversion across the program,” the NZS reply says.
The WTW review says that both strategic tilting and the reference portfolio approach are “unusual amongst asset owners”.
But these are minor niggles in the context of a report that rated NZS at, or just below, the top end of the WTW rating scale across the three main review areas of governance, people and investment.
Post publication, NZ Super reappointed Board of Guardians chair, Catherine Savage, for a further two years while handing fellow incumbent member, Stephen Moir, another year in the role.
The report, signed by WTW big guns Roger Urwin (global head of investment content) and Tim Unger (head of advisory portfolio group Australia), follows on from the three previous NZS reviews carried out by Eriksens Global, Mercer and the Promontory Group – all of them good.
Like all good statutory reports, though, the WTW review ends in a note of dull compliance: “This document is not intended by Willis Towers Watson to form a basis of any decision by a third party to do or omit to do anything.”
– David Chaplin, Investment News NZ