After two years establishing the investment division for Nambawan Super, Papua New Guinea’s largest pension fund, Michael Block has returned to Australia as the chief investment officer of the $7 billion Australian Catholic Superannuation and Retirement Fund.
Australian Catholic Super had good performance for many years but a more conservative asset allocation than some others of late has led to slightly lower returns than average.
Two factors that have hindered the fund have been a surfeit of investment managers, the result of numerous past mergers, and a small investment team. “When a fund has not done as well as others it provides a good opportunity for the fund to reassess its strategy,” says Michael Block, who was appointed chief investment officer in December. “A small increase may come about from mean reversion, but we hope that the major contribution will come from a very experienced investment committee that is willing to adapt to current market conditions.”
He acknowledges, the fund’s investment strategy will also have to reposition for what appears to be a low-return environment in the next few years. Block’s candid acknowledgement of the recent performance of Australian Catholic Super is all part of an honesty and directness that makes him appear a good fit for the fund.
One of his first changes will be to build a team. Anne Whittaker was on the verge of recruiting more staff before she retired in December 2014. The fund made its first appointments in June, John Phokos, portfolio manager for private markets, covering fixed interest, private debt, hedge funds and listed and unlisted property and Chris Drew, portfolio manager for public markets, covering equities, listed and unlisted infrastructure and private equity. The small team, which for six months consisted of only two investment professionals, Block and Paul Coenraads, manager investment operations, has already achieved a great deal, given the changes that have been implemented and the corresponding improvement in investment performance during 2015.
However, Block foresees the new team members as further boosting any impact that he may have. “I will be able to concentrate on strategic issues rather than day to day issues, such as manager research. We hope that this will lead to better recommendations for consideration by the investment committee.” He sees that a combination of dynamic asset allocation and taking advantage of the fund’s relatively small scale will get the default balanced fund back above median performance “quite quickly”.
In addition, the newly formed investment team will be continually looking at the entire portfolio to spot and reduce cost and implementation inefficiencies. Block describes himself as a time and motion man in his approach. “Even from a young age I pulled apart toys to see how they worked and to see if they could be put it together in a better, faster, cheaper way and to an extent that is what I hope to achieve at Australian Catholic Super.”
One of the first changes will come in the way the fund allocates its priorities refocusing it on big picture issues. He estimates that currently 95 per cent of the investment team’s time and money is spent dealing with managers and this should be reduced in favour of asset allocation and strategy. “There are lots of things we are trying to do to simplify the portfolio and to make it easier to manage,” he says. “We are also looking at where it makes the best sense to spend the investment fee budget, particularly whether to be active or passive in certain sectors.” Currently, investment in developed market international equities is entirely passive.
Another change afoot is reducing the large manager line up. “If we have managers with only a few million dollars, they will likely be considered for rationalisation,” he says.
Other changes run counter to the thoughts of some larger funds, such as managing assets in-house. Cash and term deposits are currently internally managed, but Block foresees this being outsourced as he sees the operational risk of in-house management as a distraction from the more important goals of strategy and asset allocation.
“There is a cost advantage to buying and selling term deposits in-house, but then one has the disadvantage of having operational risk. I would like the fund to implement high-level decisions like manager selection and investment strategy in-house but out-source as much day to day operational management as possible, especially if there are risks in continuing to manage the assets in-house”
Where Block wishes to spend more time is on strategy and more active changes in asset allocation. For help in this process the fund not only uses Towers Watson, but a newly appointed UK based research house.
These refinements to the investment process are accompanied by a willingness from the investment committee and board for change. “We have a very experienced and progressive board that is amenable to those sorts of things,” says Block. The chair of the investment committee previously worked at UBS and has extensive experience in derivatives and wealth management, while other investment committee members have experience in investment management, particularly asset allocation in large multi-asset multi-national managers.
Size advantage
Once given time, Block wants to take advantage of the smaller, limited capacity strategies that do not make sense for giant funds such as AustralianSuper. “An investment of $100 million can be very important for us, as it can have a bigger impact than for larger funds,” he says. As an example he describes a recent visit from an “exceptional Australian small cap manager” that had a total capacity of $800 million. Even a $7 billion fund has its limits and Block says Australian Catholic Super is unlikely to make investments of less than 1 per cent of the fund in the future.
Another question for Block is whether to hold a passive position in global equities – a strategy which has outperformed most others over the last three years. He muses that it is harder for active management to do well in large well researched markets like US large-cap equities and easier for active management to succeed in less well researched markets such as emerging markets.
One change of which he is certain is the need to allocate more time and money to alternatives, where “the fund currently holds 30 per cent of its assets. Partly this is due to the conviction of these managers in uncertain markets. “People who manage money in alternatives have more degrees of freedom than long-only index-relative strategies as they can manage the betas of the fund as well as stock selection,” he says.
By way of explanation he cites the example of Australian equity funds, which are forced to stay fully invested even when the asset class has a poor outlook. A real return fund, he says, is able to reduce equity exposure and place the funds somewhere else. For this reason, he is very interested in adding multi-asset real return funds, pointing out that the costs are roughly equal to an equity fund.
Block will also look for alternatives that are uncorrelated with other asset classes as a way of reducing risk without sacrificing returns, though he is currently wary of property and infrastructure where he sees high valuations at present. In relation to liquidity, Block thinks that “it is more important to be liquid and have the freedom to enter and exit markets than receive the current small premium for illiquidity.”
He acknowledges that decision making in markets has never been harder, with many market sectors appearing expensive. “We are dealing with weird and uncertain times and we will likely need different strategies to cope with them,” he says. A source of confidence is his past experience of dealing with change. He cites the decision by WorkCover NSW to reduce its equity allocation from a high of 70 per cent in 2005 to 30 per cent two years later. He adds that the investment committee agrees that past set-and-forget strategies will not succeed in these unusual and extreme times. “When the time comes to make really hard decisions” he says. “I have faith that the investment committee and the board will have the strength of character to put members’ interests first and implement the appropriate strategies.”
