Growing interest in Asia in Outsourced Chief Investment Officers

(AF) The Global Financial Crisis of 2007-2008 ushered in an environment of ultra-low interest rates, heightened market volatility, low growth, and stricter regulatory standards, putting further pressure on investment managers to deliver alpha and consistent returns. But the GFC also opened a window of opportunity for asset owners to consider the value of using solutions akin to an Outsourced Chief Investment Officer (OCIO).

These explorations have ranged from accessing plug-and-play multi-manager products to passing on heavy lifting when managing fully diversified portfolios in a range of segregated mandates.

In the past decade, the size of assets outsourced to third party investment managers has been growing. In 2020, worldwide OCIO assets reached $1.96 trillion — a 5.8% year-on-year increase.

In Asia, the growth trajectory has been similar. While this is a reflection of the growth in individual and national wealth, it’s also underpinned by increasing familiarity with the concept of utilising third parties, as well as what’s considered good governance.

TAKING ROOT ACROSS THE GLOBE

The idea of an Outsourced Chief Investment Officer — or essentially the delegation of investment functions to a third party — isn’t new, with more mature markets like Europe, the United States and Australia taking the lead.

Driven in part by regulations in the earlier years, such as the 1995 UK Pensions Act, which forced trustees to step up on their governance and oversight of how assets are invested, OCIO gained momentum coming out of the GFC as the type of trusted support that asset owners were seeking shifted.

Under pressure to innovate, asset owners realised they needed to move beyond the traditional 60/40 portfolio going forward, seeking external strategic and consultative advice to bolster their already-stretched internal resources.

Since then, the investment world has only gotten more complex. In-house teams are challenged to achieve investment objectives while keeping on top of salient global developments such as the rise of Environment, Social and Governance (“ESG”) themes, or the emergence of cryptocurrency.

The prospect of turning to consultants with trusted adviser status to access the necessary expertise and resources became more attractive than ever.

In some cases, asset owners who are less familiar with cross-border investments have headed straight for an OCIO model to access opportunities, effectively taking a leap of faith by not building up in-house expertise.

Asset owners in relatively more sophisticated markets are also tapping external experts for asset classes that occupy a small proportion of their overall portfolio where building expertise and systems may not make sense. Commonly, we have seen this happen for hedge funds and private market investments, since the skill and knowledge needed to deploy and monitor these asset classes can be daunting for the average asset owner, a point echoed succinctly by Mercer’s Samantha Davidson, a US OCIO business leader.

PANDEMIC BUOYS OCIO DEMAND IN ASIA

In Asia, asset owners who are generally wary of shifting their governance model and who have traditionally adopted more conservative investment approaches, are showing greater appreciation for OCIO. Its track record has matured somewhat, giving asset owners a clearer perspective of the benefits it can offer and how OCIO could fit in with their current governance structure.

The events of 2020, in particular, have prompted Asian asset owners to re-examine their investment performance and practices, including governance, as the investing challenge has widened with new risks.

The recent change in US administration may bring further shifts in the balance of global powers while investors face increasing pressure to bring ESG integration into alignment with global best practices. Operationally, completing due diligence exercises on current and potential providers amid a fast-evolving pandemic has also proved burdensome.

With these new risks stacked against the business-as-usual concerns of costs, efficiencies, systems and performance, an OCIO is becoming a key agenda item for investment committees. Asset owners looking to adopt this alternative management approach to portfolio construction and implementation would do well to understand what it is not.

DEBUNKING THE OCIO MYTHS

Here, we will demystify a few of the preconceptions we have heard over the years from asset owners when it comes to OCIOs:

Loss of control and authority: Asset owners dictate how external investment managers best support their needs – from designing suitable investment policies to day-to-day portfolio management tasks that aim to shield their assets from risks and capture emerging opportunities. Where it has worked most successfully, institutional investors outsource the tasks they do not have the time, resources or expertise to complete, enabling them to focus on overall strategy and challenges facing their organisation.

OCIOs become conflicted when acting in the interest of clients: Asset owners can do well to allay concerns about conflicts by studying the OCIO’s capability and track record in bringing diversified solutions, and how they have structured their business to evaluate new avenues of risks and opportunity, thus offering superior methods of implementing best ideas. It is best that the investor also considers how it wishes to partner with an OCIO and determine whether it wishes to delegate all or part of the portfolio under this model.

Higher costs and limited resources: OCIOs can often leverage their size and market positions to negotiate on investment managers’ and other providers’ fees, passing savings directly to asset owners. The diversified nature of some OCIOs also means they can offer portfolio management specialists on the ground, which may also help support advisory discussions. This can be a key differentiator, providing clients with a telescopic vision of their portfolio with minimal delay. It is particularly pertinent with increasing disclosure demands on ESG risks, and asset owners need assurance that their OCIO can keep them abreast of developments and ensure that the portfolio is compliant.

NOT A ONE-SIZE-FIT-ALL SOLUTION

In deciding whether to outsource their investments, asset owners need to consider a few priorities. Does the OCIO have the scale and broad infrastructure to leverage a multitude of competencies and investment specialists? Can they access all investment classes and allocate the assets across a range of risks? Does the OCIO have a financial incentive to include or exclude any particular investment manager or sell you their own products? How transparent is the pricing process and do they have a robust track record of generating returns and meeting client expectations?

Every asset owner is different, with their individual goals, objectives and challenges. From bespoke investment strategy design to the implementation and monitoring of investment managers, asset owners need to decide how best their investment strategy is implemented, managed and monitored by specialists, who are aligned with their interests.

With the pandemic putting the spotlight on the need for robust governance and adaptability, as well as pressure on already stretched resources and budgets, it’s clear that Asian asset owners have much to benefit from giving careful consideration on the capabilities required to deliver on broad mandates. Embracing an OCIO partnership could provide a much needed advantage to position an asset owner to maximise market opportunities and minimize downside risk.