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Capital Allocators – Inside the Institutional Investment Industry
[REPLAY] Matt Whineray – Leading New Zealand Super Fund (Capital Allocators, EP.108)
01:00:45
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Narrator
Foreign.
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Ted Seides
Hello, I'm Ted Seides and this is Capital Allocators. This show is an open exploration of the people and process behind capital allocation. Through conversations with leaders in the money game, we learn how these holders of the keys to the kingdom allocate their time and their capital. You can keep up to date by visiting capitalallocatorspodcast.com My guest on today's show.
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Narrator
Is Matt Winneray, the CEO of New Zealand's Superannuation Fund or Superfund, one of the highest performing, most innovative and well regarded large scale investment allocators in the world. The New Zealand government created the Superfund in 2001 to help defray the costs of retirees in the country in the decades to come. Matt joined the organization in 2008 and became its CEO in 2018 where today he oversees 42 billion kiwi dollars. Our conversation starts with Matt's background and the creation and objectives of the Super Fund. We then walk through the Super Fund's investment philosophy which is guided by four competitive advantages or endowments as he calls them, and nine investment beliefs. From there we dive into the implementation of the strategy covering the risk allocation process, reference portfolio or benchmark using liquid assets, long term risk budget and medium term tactical targets across the five risk baskets. We discussed the difference between these risk allocations and a traditional asset class structure, the hybrid structure employing both internal and external managers, internal strategic tilting program, the structure of the team, his current perspectives on asset classes, ESG scaling activities to support upcoming inflows and and culture. Before we get going, you can sign up@capitalallocatorspodcast.com to receive three different sources of information using the buttons on the homepage or the email list tab, you can receive an email from me once a month with the best things I've read and listened to over the month. While on that page, you can also sign up to receive our blog of industry news. Lastly, hop on the Premium tab and subscribe to get access to the library of transcripts of podcast shows. Feel free to forward the emails you receive to friends to help spread the word. Please enjoy my conversation with Matt Winneray.
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Ted Seides
Matt, thanks so much for joining me.
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Matt Whineray
No trouble Ted. Great to be here.
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Ted Seides
Well, let's just start with your background and how you got to this lofty seat in the first place.
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Matt Whineray
So I started life originally as a lawyer. I was at at university. I did law and commerce. I came out of that. I worked as a lawyer for a few years but I always wanted to go and work in New York and so at that Stage, it was harder to do it as a lawyer. You had to go and study in the us. So I had a good mate who was in investment banking. I knew that team well. And when he went to New York, I essentially took his job here at Credit Suisse in New Zealand and then a couple of years later got myself up to New York. So worked in investment banking for about 13 years altogether between here, New York, back here, and then up in Hong Kong. And then got a call one day about a role at the Super Fund on the private market side. So that was in about 2007, and thought that would be an interesting time to switch from the sell side to the buy side and was looking for something different and met Adrian and thought this would be the place. So then I ended up Super Fund, originally in the private markets role and then subsequently in the GM investments role and then the CIO role. And then when Adrian went off to the Reserve Bank, I was lucky enough to get the big one.
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Ted Seides
Great. So why don't we circle back a little bit to the creation of the Super Fund.
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Matt Whineray
The legislation was passed in 2001, and then there was a setup period. So our first monies invested were in September 2003. And it came about because the government at the time could see that we were going to have this increase in the cost of the universal pension in New Zealand, because New Zealand, like many other developed countries, had an aging population. You had a bigger ratio of retirees to workers and taxpayers, and they could see that that cost was going to increase. And the Minister of finance at the time, his name was Michael Cullen, now Sir Michael Cullen promoted the creation of a fund which would see money put away along the way and invested and then used later on to smooth out the cost of that universal pension. So this is not a total pre fund, this is a way of just smoothing it out. So put some aside today, harvest it later and smooth the whole cost out.
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Ted Seides
So that structure, there was no capital in that then. And let's just circle forward, say 2003, 16 years. How much is there today?
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Matt Whineray
About 42 billion today. It started with no money. And then the way the legislation worked is we would get some money every two weeks, we'd get a check from the government every two weeks, and that would add up to roughly $2 billion a year. And so we start getting that money in 2003, start investing it, and then, and then through to 2009, where our contributions got cut off, we received contributions and then from then until a year before last, where contributions got started Again, we just invested the money that we had, so now we've got roughly 42 billion.
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Ted Seides
And so let's frame out the rest of the other side of this, the investment equation, which is the purpose this serves. When do you expect to start seeing money coming out?
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Matt Whineray
So what the legislation does has a formula in the legislation which is aiming to smooth out the cost of national superannuation over a 40 year period. So it makes a bunch of assumptions around what our returns will be, what GDP growth will be, this type of thing. And then it produces a cash flow model that says the government needs to contribute to us at a certain rate and then at some point we will start contributing back to the government. And so at the moment that model shows some withdrawals from the fund in the mid-2030s, but it's a function of the way that model is working that there are some withdrawals then, but really the big withdrawals start in the mid-2050s. But even after those big withdrawals start, the fund is still forecast to continue to grow through the end of the century.
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Ted Seides
So a long horizon with absolutely no liquidity needs for a long time.
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Matt Whineray
That's right, yeah. Really key part of our investment approach.
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Ted Seides
So we take that as the problem. How do you approach it?
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Matt Whineray
So we start by saying, let's have a look at the mandate. So what the mandate says is we need to maximize return without undue risk. We need to use best practice portfolio management, and we need to not prejudice New Zealand's position as a responsible member of the world community. So those are the three parts of our mandate. Then we say, okay, what is it about us? What's special about us? And we call that our endowments and others might call those advantages, but what's innate to us. And so the things that we think are our endowments are our long horizons. So we talked about that, our known liquidity profile. So we're not going to have the government ringing up tomorrow and saying we need a big withdrawal. So we know what the liquidity profile looks like, our operational independence, really fundamental and our sovereign status. So we're related to the crown. That gives us some advantages in some places. So we spend a bit of time saying those are our endowments. And then we say, well, what are our investment beliefs? How do we think markets work? And so we've got a set of investment beliefs. I think there are nine. These cover things like asset allocation, they cover things like mean reversion, governance, the importance of governance, beliefs around manager skill, beliefs around life cycles, around the importance of esg that type of thing. And those investment beliefs are really important because they have to ultimately underpin any of our strategies. So we have a set of endowments, we have a set of beliefs, and then we say, okay, this is how we do it. In the beginning, we started with a strategic asset allocation. From 2010, we switched to a portfolio construction approach where we use a reference portfolio. And so we say, all right, we want a core portfolio, which is something that we can get on a low cost, passive basis. That represents a genuine risk benchmark for us. And that is a decision for the board. And we're just going through the process this year to review that again, do it every five years. And we come up and that is the view of the board's risk tolerance. So how much risk does the board want to take over time? But really importantly, that our belief is that that reference portfolio would meet our mandate. Those three things I talked about, that's the starting point. So that's an expression of the board's risk tolerance. The board then gives us a bit of active risk, so the ability to depart from that reference portfolio, but to create the actual portfolio and then the actual portfolio is the difference between those two is the management team are accountable for that.
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Ted Seides
So we've pretty much covered everything. So we just have endowments and beliefs and a reference portfolio. Why don't we walk through a little bit more granular detail, Start with these, what you're calling endowments and how you think about each one.
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Matt Whineray
So long horizon. So what does a long horizon mean? This is quite interesting. We've published a bunch of white papers which are the outputs of the debates that we have internally. And we published one on what it means to be a long term investor. Because when you ask people that, what does it mean to you to be a long term investment? And people leap straight to, oh, it means that I can invest in private equity. We're like, well, actually, let's sort of unpick this a little bit and say, what does it really mean? Ultimately, it means you're never forced to sell something. Your long horizon allows you to hold things through cycles and allows you to withstand volatility. As long as it's combined with that, the liquidity profile allows you to do that. So you can do those things and you can hold things for a long time, but you don't have to hold things for a long time. So that long horizon is important because that underpins some of our decisions around the level of risk that we take. And then some of the other strategies that we use like strategic tilting, which rests on our belief in mean reversion. And if you've got a belief in mean reversion, things might not mean revert for a long time. And actually you might be wrong about what the mean is. So you've got to be able to hold these positions for a while. So the long horizon is a really important one for us. It's the combination of the long horizon and the known liquidity profile that allows you to invest in illiquid assets if they're more attractive. Because we think you bring a liquid assets in, they bring just other risks and they bring a liquidity risk in. You can't rebalance illiquid assets, that type of thing. So they might be attractive, but they're not per se attractive. So that's why they don't exist in the reference portfolio. The reference portfolio is just a pure passive listed expression. Those two can interact, the long horizon and the known liquidity profile, and become really important to a few of the strategies that I'll talk about in a bit. Operational independence is probably the most fundamental of all of them. And so that's related to our investment belief that good governance is a critical part of investment performance and that operational impedance. So our separation from the crown, our board and management's ownership of all of those investment decisions is really probably the most fundamental belief. And where you see investors struggle is where that operational independence has been compromised somehow and other people are making the investment decisions for them. And then finally the sovereign status one, what does that do? Well, it means that sometimes we're a really interesting counterparty for people. It also means that in some jurisdictions we get sovereign immunity in terms of tax. So that's a slight advantage that accrues to the crown. That sovereign status is a smaller one, but it does mean it is important when it comes to partnering. Because we have a restriction in our legislation that says that we can't control any entity, so we can't own 100% of a private business, we have to have partners. And so that sovereign status bit is important to that partnering. Because people look at us and say, okay, well, they're part of the New Zealand crown, that makes them attractive. Sometimes people might think that makes us unattractive, but that is a benefit. So we have spent particularly around the horizon and the liquidity quite a lot of time debating what does that actually mean. Because when we come to our strategies, our strategies have to rest on what we want to do with strategies is exploit those endowments and make sure they're consistent with Those investment beliefs. And so it's really important to have a decent debate about what it actually means. Because it's really interesting when you first throw that one open about if you go to a conference and you say, what do you think it means to be long horizon? You're going to have a lot of really different. Some people think it makes you take massive amounts of risk, some think it takes the means. You can be completely illiquid. Really different perspectives on the thing.
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Ted Seides
So I know we're going to overlap with these. You said there were nine investment beliefs. Why don't you just list them out and then maybe we'll pick out a few to talk more depth about.
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Matt Whineray
So there's one about governance. Good governance is important and that relates to that operational independence. There's a statement that asset allocation is the key investment decision. So the bulk of the outcomes are determined by what your asset allocation is. There's a belief that an investor that has a long horizon can outperform an investor with a short horizon over the long term period. There's a belief that asset class returns are partly predictable and revert to a mean. Now of course, there's a lot in that, right? So how do you predict them and what the mean is? There's an important belief that manager skill is rare. So the ability to consistently beat a benchmark, it's really hard to identify in advance sometimes. It's often hard to identify after the fact. Right. So the fact that someone's beaten a benchmark, was that because they were good or because they were lucky? Good is good. Lucky is not necessarily repeatable. There's another belief that says that some markets are conducive to managers being able to generate active returns. And there are some features of those markets that make them more conducive. It might be less information or more liquid or inefficiency. There's a belief that asset classes have a life cycle and that as more institutional investors get into an asset class, then perhaps the excess returns decline over time to possibly zero or worse, less than that because of fees. And then lastly there's one which is that investors need to have regard to ESG factors because they're material to long term returns. So a few years ago we had more beliefs than this and we went through and we said actually some of these are just facts. Right? Because beliefs are not facts, they're things that we believe that are supported by empirical research and data. The mean reversion belief is. It's a belief, it's not an absolute fact. Whereas often you'll see in people's beliefs, costs matters. Well, that's just a fact, right? I mean, if you have less cost from an investment perspective, you have better outcomes. That's not a belief, that's a fact. So we went through and said, okay, let's just sort of break these down a little bit so that we can be really clear about the ones that we're resting these strategies on. And we'll call those our investment beliefs and that's what they are.
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Ted Seides
So we turn then to the beginning of the strategy of how to implement on these endowments and beliefs. And you mentioned the reference portfolio. You mentioned having a very long time horizon. Reference portfolio, you're saying, is low cost, easy to implement. What does that look like in terms of the underlying assets?
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Matt Whineray
So low cost, easy to implement. Passive is the other one. Means it's liquid listed assets. So that means for us, global equities, global fixed income and New Zealand equities. And the global equities we split into developed market and emerging market. So we have three bits of equity risk in there. Developed market equities, global emerging market equities, New Zealand equities, and then global fixed income.
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Ted Seides
And what's the mix of equity and fixed income?
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Matt Whineray
80, 20. So it's a pretty growthy portfolio. So there's 65 developed market equities, 10 emerging market, 5 New Zealand equities. That adds up to 80 and then 20% fixed income.
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Ted Seides
Why would you have as much as 20% in fixed income when you have such a long duration liability?
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Matt Whineray
Because we don't have a bunch of explicit liabilities against us. I think that what that does is it provides a bit of a buffer that allows us to rebalance that portfolio. It provides some diversification benefit. So it is not obviously as volatile as for example, 100% equity. Case. When we talked with the board about the reference portfolio last time, we did show them different mixes of those, which included 90% equity, 100% equity. And really ultimately it comes down to a desire for the institution to be able to survive through the long term. You want to be able to control those drawdowns a little bit. So we want to have exposure to that equity risk premium because we think that's the big driver over time. But the fixed income provides us some diversification as well as some liquidity provision for rebalancing. The board says, okay, let's land on the reference portfolio. And then what the board is wanting to know is how's our actual portfolio performing versus that reference portfolio? Because that's the decisions that management are making in order to try and improve it. And for the large part, we've added value. I think we've had 11 positive value add years over the last 15. We've added nearly 1.5% a year, which is worth sort of 8 billion to the new Zealand taxpayer. So that's been good. But that's by looking at the reference portfolio. When we go into the process we're doing at the moment where we think about the reference portfolio itself, then you start thinking about what are the alternative risk profiles that you could take and how would they have gone. And of course, if you're going to say, okay, well let's look at it versus what 100% portfolio would have done over the last period where equities have been strong, then whatever your ratio of equity is going to be is going to determine that outcome.
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Ted Seides
So let's dive into this operating model of how you have gone about competing against your reference portfolio and beating it over time.
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Matt Whineray
Like most institutional investors, actually, we love acronyms. We use far too many of them. So we call it the tom, which is the target operating model. And that was a bit of work that we did a number of years ago which said, okay, let's be clear about the principles on which we will do things internally or where we will use other people to provide those services for us. What the target operating model says is we want to have simpler processes. We've got want to have more control over the allocation, that is the risk allocation as opposed to the individual investment decisions. But the risk allocation, we want to have fewer manager relationships which are bigger. So we become a bit more important to those managers and we get a bit more over time. So we created this reference portfolio in 2010 and that was quite a big change for the organization because we went from a strategic asset allocation to a reference portfolio. So in the SAA there's 5% for timber or 5% for infrastructure, or 5% for private equity or whatever. And the people who are looking after those in the investment teams know I can take the total portfolio and times that by 5% and this is what I've got to go and invest. When you go to the reference portfolio, there's none of that in there. It's a total notional listed, low cost portfolio. And then you've got to build an actual portfolio. And so we had to build something in the middle to help us be systematic in that active risk. And that's where we said, okay, we have this operating model which helps us make the decisions about who's doing it. But really we've got a decision before that, which is, where are we most confident that we can improve on the reference portfolio? And so we said, okay, we took the investment committee away for a couple of days and we talked about this and we said, all right, we're most confident where we can see and articulate the drivers of the opportunity, where we can change our risk allocation to that over time. So they then said, all right, so let's look at all of the things that we could put in. There's forestry, there's global macro, there's life settlements. There's our strategic tilting program, which is like dynamic asset. There's all these things. We need to have some confidence ranking of those things. We've got to have some way of being able to compare them. Say, you know, do we want three lots of forestry and one lot of global macro, or do we want seven lots of life settlements and one cat bond or whatever? We created a thing that we call the risk allocation process which says, okay, what are the expected risk adjusted confidence adjusted returns from these different things? Then we can start allocating risk to them. And so that was the sort of the genesis of our risk budgeting process. So the risk budgeting process says, all right, we've got a bunch of opportunities. We've put them into these five different baskets is what we call them, and then we'll allocate some risk through time to those things. And then the teams are then tasked with going and getting that exposure, what we call finding the access point. That's the process by which you go from reference portfolio to. To actual portfolio, because you've got to have some structure for working out where you're going to place your active bets.
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Ted Seides
And what are those five baskets that you mentioned?
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Matt Whineray
So what we do is we've got a bunch of opportunities, investment opportunities. Some of them are sort of like asset classes, but they're slightly different, perhaps slightly more granular. And then we aggregate them into those five baskets by saying, what are the sort of. The similar type of opportunities? So we've got. The first basket is called structural, and that used to be called diversification. So that's got things in it like timber, farming, life settlements, cat bonds, or our factors, our equity factors, programs, things that are driven by structural impacts on the markets. That's the one risk basket. We would think we'll have some exposure through time always to those things. So that's the structural basket. Then we have three we call market pricing. We've got a real assets basketball. We've got a broad markets basket and we've got an ARB credit and funding basket. And those have different opportunities in them that relate to those. So real assets has things like infrastructure and real estate. The broad markets basket has things like our strategic tilting program, mostly things like global macro. And then ARB credit and funding is where we do our internal credit mandates. We also have distress credit. We have a couple of other more credit related, funding related opportunities. And then finally our last basket is one called asset selection. So that's one where essentially the basis for those opportunities is manager skill and that thing. We've got active equities in New Zealand, active emerging market equities, some private equity. So what we've done is we chunk up those baskets and then we allocate risk to each of those baskets and within the baskets to the opportunities and then say to the teams, the investment teams, okay, we want a bit of risk in farming, go and find some exposure to that. We want a bit of risk in forestry, you go and find some exposure to that. We want some merger arbitrage or we want some global macro, go and find those. And then that's the construction of the portfolio. So there's a risk allocation process first which has us all thinking, what's our confidence in the relative merits of these different opportunities? And then there's the second decision which is, okay, well how are we going to get that? And that's where the target operating model comes in. Do we do that ourselves? Do we have someone else do it? So strategic tilting, biggest chunk of active risk in the fund, we do that ourselves. We just don't think that we can structure the relationship with the manager to make that work. Other things like distress credit, we'll use Canyon or Bain because we're not going to be able to have that expertise in house. But some things we, we'll do ourselves, some things we'll do externally.
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Ted Seides
How dynamic are the changes in the risk allocation across these five groups?
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Matt Whineray
So we have this concept of budget and target and actual. So the budget is the long run, kind of through the cycle that we say we want to have X basis points of active risk for merger arbitrage, for example, for each of those baskets we have a team. And the team is drawn from people across the investment group and the portfolio completion group. And there's those small teams and they are the ones who are the subject matter experts for those opportunities. They get together frequently, every so often, maybe month, sometimes monthly, sometimes quarterly. And say what's happened in terms of the attractiveness of this is mudrard more attractive or less attractive? Is timber more attractive or whatever it happens to be. And then those teams then make a recommendation about a target. So that's the right now how much risk do we want in that? And then the actual is how much we've actually got on it. So then the investment team's job is to get the actual as close to target as they can. So the target does move around. The budget doesn't budget we should be looking at every few years because that shouldn't be changing much. I mean what's your relative confidence in timber versus global macro versus distressed or whatever it happens to be? That shouldn't change. But on a month to month basis some of these things will move a bit more and, and that's where we're changing that target and then the actual is responding to that. So some of them are slow moving, structural is slow moving. You don't expect that to change a lot from a target perspective. Some of them like broad markets, market pricing, that's going to move around a bit. Asset selection, again that's not going to change a lot because is the market structure changing in New Zealand Active equities slowly it's the one in the middle, the market pricing ones that move around a bit more.
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Ted Seides
Then when you add up the current portfolio, let's say using the framework you're using with risk allocation and budgets, then if you compare that to the older way of doing it with strategic asset allocation and assets and maybe you have an absolute return bucket for the things that you might have in structural. Now how different are those two portfolios?
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Matt Whineray
We moved nine years ago to the reference portfolio 2010 and since then what it means is that we can be a bit more dynamic with opportunities so we don't have to try and jam it into one of the SAA categories. And when we had the SAA last we had things like timber and infrastructure and private equity and we had this thing called other private markets which was like just whatever else you got. You kind of chuck it on that. This one is a more granular approach. It doesn't require us to go and change the whole SAA construct to add an opportunity. So an opportunity can be added on the recommendation of the investment committee and the approval of the cio. We can then allocate risk to it. The board has given us the overall umbrella of how much active risk we can have. But then the job of allocating that across the baskets opportunities sits with management. And so I would say always you're going to be anchored A little bit from where you started with, but we have moved that quite away. So what I guess we wanted to get away from with the SAA was the SAA says you're going to have 5% infrastructure whether you think it's attractive or not. You're going to have 5% of timber whether you think it's attractive at the time or not. We wanted that to be a little bit more dynamic and a little bit more responsive and not just put it in just because we've made an SAA call to do that. Then also you're able to much better attribute accountability for decisions, because in an SAA world, you can never actually be at 5% infrastructure. So why are you not there? Are you not there because management has chosen not to be there, because they don't really like the asset that much or because they just can't get there? And this one, it's really clear. You got a reference portfolio. When we add a new asset to the portfolio, we sell a chunk of that reference portfolio to fund it. And we can measure the difference between those two things. The returns we would have made versus the returns we actually made. And it's really clear who owns that. Management owns that a fair amount of.
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Ted Seides
The implementation you've touched on things like strategic tilting, there's a blend of what you're choosing to do internally and what you're choosing to outsource to external managers. What questions are you asking to determine whether you're going to try to bring the resources in house or hire externally?
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Matt Whineray
We start with a few questions like can we get satisfactory alignment? And that probably is one of the biggest drivers, not so much a cost one, because while you can get some cost improvements, I think the bigger driver of our decisions, especially where we are down in the bottom of the Pacific, it's going to be very hard for us to build teams in the US or in Europe or whatever and replicate what we might get from managers. So the cost one is less of a thing. A lot of it is alignment, or we can't get some sort of critical risk control that we might want or the ability to move it. So strategic tilting is a good example. Strategic tilting is entirely managed through derivatives. It benefits from the liquidity management that our portfolio completion team runs and the counterparty risk that we represent as a fund as a whole. But also the thing about strategic tilting is that you can be for a long time underwater because you're waiting for these markets to mean reverted. They might be slow or they might move further away from whatever you think the mean is, and so that one we thought is really hard to get alignment with external managers. And also what we've seen is where managers are running those types of programs, sometimes they have a pooled program and other clients in that program start to lose their nerve and want them to take the risk off. And that's exactly the wrong time to do it. And so this allows us to control that and we're responsible for it, we manage it. And that feels like a happier place to be. When it comes to other things like for example merger arbitrage or cat bonds or life settlements or that stuff. There's expertise externally that we don't want to build internally. It gives you more flexibility if you're using those externals and sure you're going to pay for that. But in a construct like ours where through time we might be in those or we might not be in those, it's very hard if you've built the team internally to say actually we just don't want to invest anything in this opportunity because then you've got a team who's sitting there going, twiddling their thumbs and going well what am I doing? It's really around alignment, ability to manage risk in a way that is critical to us. A bit of cost and also just being clear eyed about who's got the expertise, can we actually get the expertise here in New Zealand versus what we.
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Ted Seides
Need and that strategic tilting effort, what different asset classes are in that mean reverting strategy.
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Matt Whineray
It's got global equities, global bonds, currency, it's got some credit. So it's sovereign and credit. We've just recently introduced a small bit of risk in commodities so we're starting to tilt those as well. So the big global equity markets, big global bond markets, large currency markets. So these are all liquid things that we can, we can use either futures or TRSS on and can trade. And that team will trade pretty much every day.
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Ted Seides
Are you going down to the security level? So you could do mean reversion across markets. You could do it tilts of value and growth. You could get into sectors, you could get into securities within sectors. How far down are you going?
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Matt Whineray
The genesis of it was, it started with basically two levers. It was either a view on global equities versus global bonds and it was a view on the kiwi versus the basket of currencies. So those are two things. And then over time we've significantly increased the breadth of it. So now we've got global equity markets like Japan, Canada, us, Europe, UK emerging markets, We've got the same bond markets, we've got about four different credit markets. Australia, Japan, us, Europe, we've got all the major currencies. So we haven't gone down below to sector or individual securities because we're more confident at the whole of market level of being able to say what do we think the long run equilibrium prices or value is and then compare that to the current price. When you get to individual sectors and individual securities, we're just much, much less confident in that. You can increase breadth but I think you reduce confidence and so we probably don't improve the performance of that by doing that. I think that's the key is to have breadth of non, hopefully uncorrelated positions but without destroying the confidence by just getting to a point where we just can't have a view.
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Ted Seides
And what metrics are you using to determine equilibrium and markets that move away from equilibrium?
- [33:24]
Matt Whineray
Yeah, so the team builds DCF models for all of these markets. We have long run views on the big drivers, so growth, inflation, real interest rates and then that's which come from our internal economics teams as well as gathering data externally. And then with those we form views on what the long run equilibrium values are. We use particularly in the rates and the impacts on the currency as well. We use sort of the near term market pricing because what we're not trying to do is forecast where things are going over the next couple of years. What we're trying to say is is there some sort of reasonable difference from the long run equilibrium value? And then if we think it's a little bit lower, then we'll buy it. If it goes down at that point we'll buy some more and we'll do that incrementally and then if it starts to go up, then we'll start to sell it. So long run economic drivers try to have economic identities so that you don't have these sort of divergent models, but they are all ultimately consistent with each other.
- [34:24]
Ted Seides
How do you think about sizing the strategic tilting effort as a percentage of the whole?
- [34:28]
Matt Whineray
We have a view on what we think the overall information ratio is what we can make in terms of active return versus the risk that we take. Then we have individual views on the different markets, how confident we are. So there's a sizing thing going on within tilting about how much allocate to equities versus bonds or currencies versus each other's or whatever for strategic tilting itself. Strategic tilting is the biggest chunk of our active risk budget and that comes from being really Consistent with our beliefs and our endowments and us having a lot of confidence in our ability to execute that, which has sort of developed over time. So we look at what we expect to make on that. So our confidence and our risk adjusted return expectations, we adjust that by a confidence versus every other thing that we'd allocate active risk to and that gets the biggest chunk of active risk.
- [35:19]
Ted Seides
And where do you end up?
- [35:21]
Matt Whineray
The budget for tilting at the moment is about 2 1/2% active risk at the at fund level within a total active risk budget of 4%. But of course things don't add up because they're not necessarily correlated with each other. So it is definitely the biggest chunk of active risk that we've got.
- [35:37]
Ted Seides
The other internal effort you mentioned was the completion strategies. How does that fit into the puzzle?
- [35:42]
Matt Whineray
The portfolio completion team is what a lot of other organizations might call their treasury function. They are the team that do all of the market trading, so all of our derivative trading, all of our FX hedging, all of our transitions or rebalancing. So their job is to basically take the actual portfolio, compare it with where we want to be from a risk perspective, and then rebalance to get back to that by using those liquid ones as well as execute the strategic tilting trades as well as do the FX hedging, as well as trade the New Zealand equities that we might trade internally. So that's a really important team. We created that after the gfc. So going into the gfc, all of our stuff was outsourced and we didn't have great views of almost anything liquidity or risk or any of that. So it was a big program to create some critical functions which allows us to have visibility and control over our liquidity management and then also a window into where markets are. So that team is a team that is doing all the market facing activity.
- [36:48]
Ted Seides
We talk a little bit about the external manager relationships and you did mention you'd like to have fewer of them and deeper relationships and aligned. How do you go about, and how does the team go about picking those.
- [37:02]
Matt Whineray
Managers that fewer deeper came from? Go right back to when you're an SAA and you're saying, okay, we've got 5% of PE, so then we want to have a whole bunch of different managers to give us some sort of broad exposure to a world where we said, okay, under the reference portfolio, we're going to allocate to something. If we think that there's really something about that market or that manager that gives us great confidence that we're going to beat the reference portfolio. In doing that, we necessarily become a bit more concentrated. We want to allocate more, but also what we want to do, because I talked about the confidence, we've got more confidence if we can change that risk allocation. So that fewer, deeper one said, okay, we want to try and make these flexible mandates. And so what that means is you go to a manager like Bain and you say, I'd like a European distressed mandate. And they say, oh, we've got a fund, and say, okay, well, yeah, that's great, but actually we'd like it to be a bit more flexible so we can allocate capital to it according to our view of the attractiveness of that opportunity over time. And so you can't do that if you're turning out with a $50 million cheque. What we found is actually around about 200, you start to have the ability to create a flexible mandate. You can say, okay, we will set this up so that you can draw it down, but periodically we will reassess the attractiveness of the market. And if we say, if we really like it, we can allocate more. If we don't like it, we can just roll it off at where it is. It's more intensive to manage, so you need fewer of them and you want to be closer to those managers so that you're getting a feedback loop as to attractiveness. That's something that we worked on, but also what we want to get out of those managed relationships is a bit more ip, a bit more input into our teams that we can use for just getting our people smarter and our processes better.
- [38:52]
Ted Seides
And as you filter through those manager relationships, do you tend to find that larger managers are more conducive to being able to help you the way you're looking to.
- [39:02]
Matt Whineray
Yeah, it tends to be like that. If you think about it from a manager's perspective, to be able to manage the allocation process that you've got to go through, if you've got a bunch of different mandates and you've got a fund, for example, and you find an asset, you've then got to say, okay, well, I'm going to give three bits to the fund and one bit to this mandate. That sort of allocation infrastructure, I think, means that they have to be bigger and more sophisticated. Generally speaking, that probably pushes you more up this size.
- [39:32]
Ted Seides
You mentioned that you want these managers to be able to help you with the flexibility and shifts in asset allocation and strategies. How much do you come to those judgments on your own? And how much are those inevitably informed by the very managers you're giving the money to?
- [39:53]
Matt Whineray
Often they are at least partially informed, but also you get quite a bit of information by their activity. Because generally speaking, if a manager is slow from an allocation perspective in terms of, well, slow versus what, but, you know, not seeing lots of opportunities, that's pretty useful information for us because that says, well, actually, maybe this isn't that attractive. So you often probably, if you really looked at it, you'd say there's a reasonable correlation between the pace at which managers are allocating risk and our view on attractiveness, as you'd expect, because they're close to it. And if they're not seeing opportunities, then our other indicators will probably tell us that we don't think it's that attractive either.
- [40:29]
Ted Seides
Do you run the risk that the managers as a group sort of form a consensus and as a result you're tilting towards a market consensus instead of, as you want, a mean reverting, kind of contrarian approach?
- [40:42]
Matt Whineray
Possibly, but that's where having a bunch of them, and particularly a bunch of them who think in sort of different ways is quite useful, because then you're not totally driven by a single information source or data source. You can talk to them. And what's really useful from some managers is, notwithstanding that they might not be in a particular asset class, though they've got sort of frameworks and structures for thinking about how they would view the retractiveness. So they can be really helpful outside of their immediate area for us for thinking about that. And the other way we try to deal with that is those risk basket teams have got a bunch of different people in them. So that it's not just the person who is dealing with the manager at the access point level who is doing the target allocation, it's that team that doing it. So you get a bit of protection against capture, if you like, through that process.
- [41:33]
Ted Seides
What does the structure of your team look like across the investment side of the organization?
- [41:38]
Matt Whineray
Yeah, so we've got two GMs involved. So Stephen Gilmour is the Chief Investment officer and he looks after the investment group. And within the investment group, there are four teams. There's responsible investment team, there is a team called External Investments and Partnerships, and that's our external manager team. In large part, there is a direct investment team and there's an asset allocation team. So we've got what we tend to call them as access point teams. Our access point teams are the external investments and partnerships team and the direct team. And then so Outside of Steven's group, there's a group called the Portfolio Completion Group, so that's headed up by Mark Fennell, who is the GM of Portfolio Completion and that has within the Portfolio Completion team that does all the market trading and another team called Portfolio Investments, which is generally running our internal credit mandates and a strategy we call the Direct Arbitrage strategy, which just looks to take advantage of dislocations and markets. So, yeah, four teams under Steven, two teams under Mark, and the whole lot represents our investment function.
- [42:42]
Ted Seides
How many people are in each of those teams?
- [42:44]
Matt Whineray
So there's about 50 in the investment group. There's about 10, I think, in the portfolio, the overall portfolio completion. So maybe we're in the sort of the 55, 60 somewhere around there.
- [42:57]
Ted Seides
So I want to circle back to two of the beliefs you talk about and really bring them into the present market. So one is the notion of markets that are conducive to active management and the ability to generate alpha. Where are you seeing those markets today?
- [43:10]
Matt Whineray
We don't see that many, to be honest. So we do think that in New Zealand. So the New Zealand active equity market is an interesting one in the sense that the median manager has been able to generate alpha or, you know, excess returns over time. And you say, why is that? Is that because there's a bunch of real special managers, or is that because there's something about the benchmark or is there something about the structure of that market? So we think that the New Zealand market is one of those that's conducive to it. So as a result of that, we have actually relatively few listed market active managers. So I could count them on pretty much one hand. We've got two managers in New Zealand that run active equities, we've got one global emerging markets active manager and that's it. Right? So we don't have any developed markets active managers. We don't have any fixed income market active managers in those listed spaces. And that's really because we look at those and we say in those really large developed markets, there are lots of really smart people trading with each other and we don't think that there's a persistent production of excess return. Contrast that with the New Zealand market where we think there is, although that might also be declining over time. And we think what's happening in the New Zealand market is that the New Zealand market is made up of retail investors, international institutional investors, some international strategic stakes, and the New Zealand active month. And the relative proportions of those mean that generally speaking, we think that New Zealand active equity managers managed to trade off those other groups and get their alpha off them. Whereas you go to the US market, there's a lot of active managers in there and on average the whole market is paying fees but not generating alpha.
- [44:57]
Ted Seides
This may be tied to it, but this belief about understanding that there's a life cycle of asset classes. As you look at the markets today, where do you think we are in a variety of different asset classes in their life cycle?
- [45:09]
Matt Whineray
I think that's sort of forestry. Forestry I think is you go back from an institutional Investor perspective maybe 10, 15 years started the TIMOS started and institutional investors started to allocate timber and then you had all this big trade where all of the timber assets went from the integrated forest product companies to investors who had lower cost of capital. And then now there's just lot fewer of those big things. So I would look at forestry and say I think there's been a. That has moved through the lifecycle. I think of other ones, I think Life Settlements probably a little bit like that, you know. So Life Settlements is a shorter timeframe but a lot of capital allocated to it. And the big trade was large insurance companies selling these books to mostly these private managers. And those big tertiary books are kind of done right. So now there's just sort of less there. Where are the ones where it's sort of a little bit newer? I think farming and agriculture is still earlier in the life cycle 1. I think that because it's just hard to get scale in that. Right. So whereas in a you might be able to buy a billion dollar forest, you can't buy a billion dollar farm. You come to New Zealand, you want to do dairy farms, you're going to do them $10 million at a time or $20 million at a time Time. I think that one still there's barriers to getting into it for the large institutional investors. You think about others like private equity, it just feels like there's just more and more allocation to that. And that market which might have been much more inefficient for unlisted Companies in the 2 to 3 to $400 million range a few years ago, just feels like it's much more intermediated now and there's competitive bids for everything. And it just feels like the excess returns in that space have compressed as well. So that's the thing is for us to be a bit realistic when we're allocating to these things to say well where is the real source of excess return? What is it? Is it a manager skill thing, Is it a leverage, is it a luck? Is it something that there's just inefficiencies in the market that mean that managers are able to find these things? We have to be reasonably honest with ourselves about what the source of that return actually is.
- [47:25]
Ted Seides
So I know that in addition to starting with a reference portfolio and creating these risk allocations and budgets and balancing what's internal and external and all these different levers of return, you also think of themes and pursue themes in the portfolio. So talk a little bit about how you develop the themes and how you implement them in the portfolio.
- [47:45]
Matt Whineray
Yeah, themes are hard, I would say. And actually in the last few years we haven't done nearly as much with those things. So where we started with themes was we said, all right, so we think there are some themes which are sort of long run changes happening and things like resource scarcity and things like the development of emerging markets, those types of things. And what I guess you find with themes is that we were using them to say, okay, let's try and help the teams with finding the most sort of fruitful areas of opportunity. Where are those spaces which we think have a tailwind from a theme and therefore are sort of conducive to us finding opportunities that will get paid more for the risk than the risk that we're taking would imply? And what you find, I think a little bit, is that you can almost back any investment you like into whatever theme you've defined, because the other danger is that you set the whole portfolio up on the basis of a theme and then some other theme overtakes it. So we haven't really applied those themes that much of late. Probably the biggest one that we've now picked up as an investment strategy is around climate change. It's a very long run change in markets, but didn't come out of that theme activity, if you like. But the emphasis on themes has declined a bit because I think in practice it's quite hard to, to really implement them. And you go and you look at thematic managers around the place and the records aren't necessarily fantastic. Right.
- [49:13]
Ted Seides
I know you spent a bunch of time on ESG efforts and why don't you walk through a little bit of the history. And then certainly there's been a more recent one with the tragedies that happened locally and the impact from social media.
- [49:27]
Matt Whineray
So ESG breaks down into two big chunks, the integration piece and the ownership piece. And, and so integration is about understanding what the ESG implications of risk allocations are right from the start. So when we're doing that risk budget work, what the RI implications of a particular opportunity are, so we'll factor that into that risk allocation process. Then thinking about what happens at the access point and making those decisions where you're choosing, either we're investing directly or we're using a manager. What are the ROI applications? So that integration is really important at that end. Then the ownership chunk is about voting and engagement and just being an active owner in relation to those things. So that's how we sort of think about the two big bits of work. There's another bit that comes out of really the integration, I guess, which is exclusions. And that's a really small part of esg, but it's the bit that gets the most attention because people look at it and go, oh, you've excluded this company, Y and or you haven't excluded this company, and the Norwegians have, so you must be evil. You know, that kind of stuff. But actually the exclusions are a relatively small part of what we do in esg. On the ownership side of things. Yeah, we've got an active voting program. We brought that in house last year. We vote all of our shares globally and then we also have an active engagement program. We do that directly with companies domestically and, and we use a BMO to help us on the global engagements. But the most, the notable one that you mentioned was post the tragedy in Christchurch, we together with another group of the New Zealand Crown investors, we got together to lead an engagement with the social media companies about the. Well, aimed at preventing the live streaming of objectionable content and subsequent distribution. And so that's a program that's underway at the moment. We have, I think at last count, like 81 investors from around the world, a big chunk from New Zealand, big chunk slightly more from offshore than domestically. And those investors between them manage assets of about $10 trillion. So, big group of investors who are concerned about this issue where. And so that engagement is with the likes of Facebook and Google and Twitter, aimed specifically at preventing that distribution and live streaming of those things.
- [51:49]
Ted Seides
And how has that played out in the engagement so far?
- [51:52]
Matt Whineray
That's early days in that engagement. We're in touch with the local entities. What we've been doing through this first few months is getting that group of investors who want to be involved, defining the basis for the engagement and really doing the work from our perspective on what the potential solutions might be so that we're in a good position to sit down and have these discussions. And that's the next phase. And we'll be getting into that shortly.
- [52:16]
Ted Seides
What are your priorities for the coming year as you look at the things you're working on and how you're going to continue to try to evolve this model.
- [52:25]
Matt Whineray
So the government announces its budget in May every year. And so in this new budget, the government announced a new mandate for the Guardians to manage. And that is a mandate for the development of domestic venture capital, domestic venture capital market. And there's quite a chunk of work at the moment going on. Okay, well let's define what that mandate is going to look like. Let's help with the drafting of the legislation. Let's deal with the entity that's going to manage that for us, which is a crown entity called the New Zealand Venture Investment Fund, and define what the terms of that mandate are. And so there's quite a lot of work across the organization to figure out how to do that. Because to date we've got the Guardians, which is us, that's our investment management company, and then we've got the fund and the Guardians had one mandate and one purpose and that was fantastic. We've now got an additional mandate which we've been given because government regards us as competent investors. So they've said, right, you can do this as well. So now we're going to run these two mandates. The new mandates small comparatively, it's only going to be about 300 million compared to 42 billion. So you've got a lot of disparity. But actually it's going to take quite a bit of work to set that up. That's a big one is getting that going. We've got within the investment teams and then more broadly within the support functions as well. Started last year a bit of work called focused on our long term target state and that's because go back to December 17, the government restarted the contributions and the restart of the contributions means we're going to grow faster. So we'll get the couple of billion dollars a year and Touchwood will get some investment returns on top of that. And so we'll grow quite a lot faster. So fast forward six, seven years, we could be $80 billion. So then we've got a question which is, okay, what does that mean for our active investment strategies at the moment? What does it mean for the likes of portfolio completion? Can we scale these things? Because not all these things scale. Well, direct investment is a challenge to scale. Some things are strategic tilting is easy to scale, but some things aren't. And so we've been working a lot on that and that's leading to a discussion with the board which is around investing in our strengths. Where do we want to add resources in the next two to three years which will support that growth in assets under management and allow us to continue to generate the active returns that we've enjoyed in the past. And then of course with that growth comes the impact on the support functions, on operations, on it, on finance and all of that. So there's a conversation going on around that at the moment. The other bit of work that we've been doing that we've been active on for a long time is around culture. But more recently since I took over, we've run a values project to I guess be clear about what our values are as an investment organization, which was quite a neat project where we got, we just gathered stories, we said to everyone, give us a story about a time when you've been proud to work for the organization or you haven't been proud to work for the organization or you've. You've had some difficult decision to make and how you've done that. And we got this really great set of stories, 120, 120 stories out of 130 people, 100, something like that. And we were then able to go through that and pull out the themes from those which revealed the value. So you're not going to someone saying, oh, what do you value? You're going to someone and say tell us a story. And those stories are really powerful. And we got great engagement with it and came up with a new set of values for the organization because ultimately we rely on being able to attract really good people into New Zealand, which is a long way away from the big global financial markets. And we've got to provide a really good proposition for people to come here. And so that culture is fundamental and is an ongoing part of what I'm looking to do.
- [56:09]
Ted Seides
What are those values?
- [56:11]
Matt Whineray
The values are we stand strong. And that goes a little bit to the way we use frameworks, the basis of our approach, our long horizon, our ability to withstand the swings of markets. Our decisions are principle based, we support each other, which is just a humanistic more value. We're future focused, which is really focusing on the long run. And again the swings and roundabouts of markets. And team not hero is the final one so that our focus is on the broader team and not heroes. And actually what we've done is we've created set of cartoons that go with those because those cartoons are evocative. And so also what those cartoons do is provide a little bit of constructive ambiguity because these things mean slightly different things to different people, but ultimately are really important to how we all operate. So that was quite a neat part of the continued development of our culture that we went through last year.
- [57:08]
Ted Seides
Yeah. Well, let's turn to some closing questions. What's your favorite hobby or activity outside of work and family?
- [57:15]
Matt Whineray
Snowboarding. The deeper the better. Yeah, definitely snowboarding. When you get some deep snow. And I have done a little bit in the last few years of heli skiing. So in Alaska, when you get left at the top of a ridge and the helicopter goes away and it's all silent and you've got this completely untouched pitch in front of you, it's just fantastic. It really is marvelous.
- [57:40]
Ted Seides
What's your biggest pet peeve?
- [57:42]
Matt Whineray
This is funny. I was talking to my wife about this and she pointed out that my biggest one is the absence of the keys from where they ought to be. The keys not being in a consistent place when you go looking for them.
- [57:57]
Ted Seides
How about your biggest investment pet peeve?
- [58:00]
Matt Whineray
I think it probably comes down to when you're receiving pictures. People have what I think of as kind of imaginitis around the lack of volatility of private market assets. You get this bit which is all these things aren't volatile. Okay, well, why is that? Well, the best evocation of that I've seen is if you imagine a bat flying and the bat is quite jerky and it's flying all over the place, then it flies into a pipe and then it flies out the other end of the pipe. And what these people who think about this volatility of illiquid assets would have is that the bat is actually flowing in a straight line from one end to the other because that's where they've measured it. It's start. I think you'll really find out how volatile those things are when you go and try to sell them in a difficult market. And that's probably my biggest one.
- [58:46]
Ted Seides
What reading do you almost never miss?
- [58:50]
Matt Whineray
I am always smarter for having read something from Cliff Asness and I think he especially he's been over the last year or so his values had a hard time, in fact had a difficult time. And he's written some really good stuff that has been quite pithy. That's quite useful for dealing with the board. I find, you know, some good ones which are around. How do you assess strategies which aren't performing well? What's the process you go through? What are you trying to achieve? You're trying to achieve resilience. You're not trying to achieve some level of sort of disinterest. And how do you do that?
- [59:28]
Ted Seides
What teaching from your parents has most stayed with you?
- [59:32]
Matt Whineray
Destroy the evidence. If you're going to take the last biscuit in the packet, get rid of the packet. Then no one will know that the packet was ever there. So that was just be careful.
- [59:42]
Ted Seides
Last one. What life lesson have you learned that you wish you knew a lot earlier in life?
- [59:48]
Matt Whineray
The first year of work after you get out of uni is really not that important for where you end up. So don't feel that you've got to rush into whatever is the first job that you managed to get. Go and spend some time overseas and get some life experience. And I would strongly recommend that to my kids and anyone else to just get out there and live a little. Because you'll find 10 or 20 years down the track that actually whether you've done that or not doesn't make any difference and in fact might enhance where you've ended up because you've learned a bit more about yourself.
- [60:20]
Ted Seides
Terrific. Well, Matt, thanks so much for taking the time. Really appreciate it.
- [60:24]
Matt Whineray
No worries, dude.
- [60:27]
Ted Seides
Thanks for listening to this episode. I hope you found a nugget or two to take away and apply in your investing and your life. If you'd like what you heard, please.
- [60:35]
Narrator
Tell a friend and maybe even write.
- [60:36]
Ted Seides
A review on itunes. You'll help others discover the show and I thank you for it. Have a good one and see you next time.