Class of 2020 NextGens

Reginald Tucker, CAIA, MBA, is a managing director at the Orange County Employees’ Retirement System (OCERS), where he works with the fund’s chief investment officer on a wide variety of portfolio initiatives, including asset allocation, strategy conception and implementation, and other responsibilities in addition to his formal role overseeing all of the Private Markets and Unique Strategies allocations.

Tucker joined OCERS in 2019 after working as a senior investment officer for the New York State Common Retirement Fund, where he was hired to help build out the opportunistic portfolio and manage the absolute return investments. There, he sourced investments across asset classes and throughout the capital structure, including seeding and forming a number of new investment platforms. Prior to this, he worked as an investment officer for all the alternatives portfolios at the Connecticut Retirement Plans and Trust Funds, where he sourced investments and managed portfolios across the hedge funds, private equity, real assets, and real estate asset classes as well as the plan’s emerging manager portfolios. 

Tucker is also the recipient of several distinct awards, including an Institutional Investor Intelligence Opportunistic Investments Strategies award in 2016, a Rising Star of Public Plans in 2013, and a Toigo Foundation 40 under 40 in finance. Tucker’s ranking in this year’s NextGen series is backed by years of work at some of the most prominent institutional investors around the country across several asset classes and strategies, gaining the recognition and praise of those who have worked with him.

CIO: What did you think you understood before the COVID-19 crisis … and if, during the crisis you were proven wrong, what did you learn from it?

Tucker: Even though I took a Behavior Finance class in business school and read books on the topic in subsequent years, I greatly underestimated the power and presence of certain aspects of the “science” in markets most recently. I underestimated how concepts like group think and crowd psychology have guided us into and through the recent dislocation, and will likely be the key drivers in the subsequent recovery. The markets have proved me wrong in the speed of it recovering, but right on in what I think is driving it. The power of sometimes finicky investor sentiment, the momentum factor and certain behavioral phenomenon like Recency Bias never seem to receive the same airtime or place in investor models, yet their importance seems ever increasingly apparent at the same time that they are ignored as compared to fundamentals. Colloquially I would simplify much of the recent behavioral phenomenon in the market as “fear of missing out” or FOMO. For years now, many investors have been debating high asset price valuations, only to see them continue to soar higher. Many institutional investors have been lamenting the underperformance of value strategies as momentum has guided us higher. All the time, warning signs are popping up in equity markets in higher entry multiples for private equity investors and lower covenant coverage in many lending transactions. Fundamentals have screamed caution, but many of the most cautious or traditionally fundamentally based investors have been the most penalized or missed out the most. I feel like I’ve been here before…However, COVID-19 seemed to correct some of that behavior for a moment and brought a focus back to fundamentals, but that was very short lived. Recency Bias and FOMO have pushed markets to put in place their own V-bottom recovery even as the actual global economy is still shuttered in many places or just limping into a recovery in others. While some managers are looking for increased stressed and potential distressed investments starting later in 2020 or early 2021, others still have not implemented a defensive playbook. In fact, I have learned that many managers and investors likely do not actually have one. Instead of pivoting to a more cautious stance, some have pivoted into a full circle and continue on the same path with the same behaviors that have inflated many asset prices and loosened deal terms, and put companies and the economy in the same precarious position we were in prior to the dislocation.   

CIO: What took you by surprise? What worked?

Tucker: While we had certain defensive measures in place, like our recently completed Risk Mitigation Strategies (RMS) asset classes, the speed of the recent correction did surprise me. It is the

fastest that markets have corrected to the magnitude that they did and that caught many managers and market participants unawares. The speed of the correction was even too swift for some of the diversifying and hedging strategies designed to add protection during stress periods. Some of these strategies take weeks to confirm a regime shift has taken place before fully positioning for a stress period and have historically had blind spots if markets gap in any direction. This recent correct felt more like a flash crash in the immediacy of the form it took and there was not much time for many to react or execute defensive playbooks.

Even more surprising was the speed of the recovery in market prices. Similar to the speed at which market participants experienced the downturn, the speed of the subsequent rebound and 50% retracement, usually associated with recoveries, still leaves many confused.

Pre-COVID-19 risks such as high valuation concerns and a generally laissez faire-style attitude toward underwriting risk that seemed to start to correct during the correction quickly returned. This is surprising given the unprecedented move to shut down many economies globally and the broadly negative impacts of this are yet to be fully built in and valued accordingly.

What worked was leveraging the experience of senior staff and leadership. We have all managed through stress periods of various magnitudes before, including the Dot Com Bubble and GFC. Both of which are different but hold certain similarities. Being able to be level-headed managing through this period with a focus not only on risks, but also on opportunity was key.

What also worked for us was our portfolio construction, which includes the Risk Mitigation Strategies allocation as referenced previously. The allocation is constructed around equally weighted exposures to Treasuries, Macro, Systematic Trend-following and Alternative Risk Premia strategies. Each worked to varying degrees, but in aggregate provided the buffer intended. What also worked was an allocation I closed in December to an opportunistic credit manager that used certain triggers to capitalize on market dislocations. This allocation was very timely and allowed us to capitalize on the small window of forced selling and technical dislocation opportunities that presented themselves earlier on. We were able to add to this allocation in real-time as well in order to take advantage of the evolving opportunity set due to our flexible governance.

CIO: How would you build the portfolio differently now that you have gone through this massive accelerated shift in the market? (What changes do you plan to implement? What were the biggest challenges?)

Tucker: Coming into the recent correction, we were well-positioned with some cash and positioned conservatively in our equity book. We were also approaching some aspects of the market somewhat defensively, such as reducing credit. These, in addition to the recently completed Risk Mitigation Strategies (RMS), put us in a good position. There is nothing from a practical standpoint I would have necessarily done differently.

However, implementing some of the other ideas the team had already been discussing or otherwise in the process of implementing could have potentially added additional value. This includes being able to co-invest alongside our best manager. We were presented with several co-invest opportunities and continue to be shown interesting transactions. Additional resources to expand capabilities to co-invest and trade directly (equity and credit) would further allow the team to incorporate certain tactical measures as a complement to our long-term investment initiatives. We also discussed having something like a more formal dislocation playbook, where we could tactically add or reduce certain portfolio exposures with large liquid ETFs. This might further allow us to take advantage of opportunities that arise during correction as the markets usually over-correct before normalizing.

One of the biggest challenges recently has been navigating the filtering process for all the incoming ideas and funds being formed. These include strategies from existing managers as well as new prospective managers. Processing and synthesizing all these ideas to better identify key themes and opportunities presents one challenge, while the practical challenges related to how we meet managers and perform diligence presents another many other LPs are also experiencing.

CIO: ESG has been a tidal wave force behind recent innovative investment framework in our industry. How do you see the ESG framework and effort be influenced by the recent event?

Tucker: I think you will continue to see ESG factors adopted into investment processes and portfolio allocations as a broader base of investors reach the conclusion that returns don’t have to be sacrificed, but instead can be enhanced as a function of focusing on these broad set of factors.

Companies with strong ESG principles outperformed their conventional counterparts in the first quarter of 2020 and many investment managers now include ESG factors as a necessary part of their risk and investment processes. Similarly, research increasingly shows that companies that embrace ESG factors as a part of their business practice outperform those that do not.

Environmental and social issues ultimately present financial risks that need to be assessed along with all other risk. 

The pandemic has also raised the question of what responsibilities businesses have to be good corporate citizens. Following the pandemic, investors will likely continue to increase focus on ESG issues and require companies to do more and provide more information related to potential ESG issues and processes put in place to address them. Socially responsible behaviors and activities relating to providing not only responsible products, but also solutions to societal issues, will likely be expected versus just considered good PR. 

However, on the other end of the spectrum you may see a move away from a focus on strategies like renewables and sustainable investments as oil prices have collapsed and are expected to remain at historically low levels for some time. To some, the pricing will make oil much more competitive and potentially more attractive as a more cost-effective energy option.

CIO: What’s your view on the “perfect storm” that is currently impacting the oil markets, and how that will change how you invest in upstream energy?

Tucker: Crude will likely continue to trade lower or range-bounded at lower prices in the near-term as the market searches for a price equilibrium that balances shifting demand expectations and supply dynamics. Though the oil markets have recovered from their recent troughs, we expect oil prices to remain under pressure for the remainder of 2020.

However, we feel well-positioned to weather the near-term volatility and take advantage of the longer-term opportunity. For current investments, hedges and restriction on production should help managers weather the supply excess and lack of physical storage. However, continued expected lower oil prices and subsequent significant CAPEX cuts from US producers will likely result in a dramatic restructuring of the US oil and gas industries over the coming months.

For our managers with a specialized focus on energy, this environment presents a unique opportunity to take advantage of the dislocation and buy core assets at depressed prices. Our most recent energy investment that I closed in 2019 has roughly 90% dry powder and is well-positioned in this regard. Our capital will target the opportunities created from expected stressed companies as they sell high-quality core assets to repair balance sheets as E&P companies will likely remain closed off to equity and high-yield debt markets with tighter lines of credit.

CIO: What’s your view on the fate of the Euro and the EU?

Tucker: The current health and economic crisis seems to be reigniting political divisions between the wealthier and poorer members of the EU and increasing the threat to the single market currency. Without a clear and balanced response to the broader area recession that addresses the economic stress of all the members, faith in the longer-term strength and viability of the EU and Euro will be put into further question and likely further constrain any recovery efforts. All member countries are in a similar position currently, just experiencing varying degrees of weakness. However, as countries reopen and bring their individual economies completely back online, there is likely to be an imbalance in recovery times and levels. This may lead some to embrace protectionist and populist ideologies as there is expected to be less overall growth.

Following the GFC, the area saw a growth in far-right populist ideologies in several countries including France, Germany, and Italy. The ability for the EU as a whole to “carry” their weaker counterparts will be ever more challenging under a cloud of uncertainly around a second wave of coronavirus and a slow growth macro backdrop. Joint recovery measures recently approved effectively call on wealthier nations to subsidize the recovery of worse-hit poorer ones.

Questions on what these wealthier nations receive in exchange for supporting poorer ones will likely arise. As individual countries have taken their own approaches toward addressing the threat of the coronavirus, there is likely to be a push to tackle the recovery on an individual go-it-alone approach as well. Given the expectation of a protracted recovery period, I find it hard to envision the EU to exist in its current membership form and structure longer term.

CIO: What do you think will be the impact of COVID-19 on developing economies (like Chile or the Philippines)?

Tucker: We had plans to start to perform diligence on the broader Asia region in later 2020. I previously seeded a pan-Asian special situations strategy and believe longer-term opportunities exist if you can partner with managers that have on-the-ground resources in the region and have flexibility in structuring investments that create alignment with business owners, but also offer downside protection to the capital provider. That timing has now been pushed out.

The LatAm region had already been challenged and off our near-term geographic focus list pre-COVID-19 due to commodity, FX, and macro-economic uncertainty, as well as our own past experiences performing diligence on and investing in the area. More recently, some strategists at Citi constructed a coronavirus “vulnerability index.” The index was modeled on similar criterion that we assess and included economic growth, supply chains, commodities, and “external” market volatility risks. Chile was one of the most vulnerable in this index based on these factors.

One of the reasons Chile is particularly vulnerable is due to its heavy reliance on exporting commodities and the subsequent volatility introduced through commodity prices but also vulnerability to weaker demand from China, its main trading partner. Should the pandemic lead to supply chains moving out of China, leading China’s broader economy to continue to slow further and more materially, countries like Chile that rely on them will find themselves in a very precarious position with no other clear offset to the country risk for potential investors other than simple avoidance.

CIO: What are the new creative/innovative strategies that you are researching right now?

Tucker: Several low or uncorrelated “unique” strategies I have been researching recently include: Music Royalties, SPACs, and ILS.

CIO: With the shakeout of industries currently going on—where do you see the most exciting opportunities over the coming years?

Tucker: Over the coming quarters, one of the areas we see growing in interest and relevance to both GPs and LPs is the broader Secondaries space. The dislocation, ongoing volatility, and changing valuation dynamics and expectations are all likely to lead to attractive opportunities in both traditional secondaries (funds and direct), as well as structured preferred transactions or GP solutions. The opportunity set is likely to be large enough and compelling enough to offer ongoing opportunities through co-mingled funds but even better opportunities for those that can participate on a direct basis.

Secondary investors and GPs are still assessing the impact of COVID-19 to their own portfolios and portfolio companies. Secondaries deal flow usually slows directly following dislocations as LPs await color on valuations, write-downs, and portfolio company cash flow trends. Currently, most LPs are looking toward Q2 for better indications of these metrics and will likely start to make specific asset class and strategy exposure changes as they assess potential rebalancing needs given the moves in other parts of the portfolio like public equities. Even then, there will be longer-term uncertainty around the overall economic recovery and how specific sectors will evolve under changing social and business dynamics. This uncertainty is expected to increase the volatility in fund NAVs as well as associated secondary pricing. This should present opportunities for LPs dry powder and GPs with specialized skills in the space.

On the GP side, there will also likely be an increasing need for NAV-based loans and bespoke GP financing solutions for mature PE funds. This incremental capital will be used to support or enhance current portfolio companies or provide liquidity to investors who themselves are in need of liquidity. This opportunity set has expanded recently as the capital, credit, and secondary markets have been disrupted by COVID-19 and resulted in the expectation of longer hold periods and increased capital needs. These GP solutions can offer much desired liquidity to both the GP and LP, and can present an attractive risk-adjusted investment as many of structured solutions provided a downside protected preferred equity-like return to the investor. Managers that successfully navigated through the GFC or are in sectors like tech and health care are expected to weather the current crisis better and will likely provide some of the most compelling opportunities.

CIO: And professionally, where do you see the most exciting areas to specialize further over the coming years?

Tucker: OCERS continues to grow and evolve as a portfolio and as an organization, and this will offer interesting longer-term investment and career opportunities. As we grow, we will likely continue to expand the portfolio into satellite strategies that complement our core allocations and add diversification. I have also been researching ways to better partner with current GPs and ways to build out our co-investment capabilities in the intermediate term and potentially more direct investment capabilities at some point in the future. 

CIO: How is the quarantine affecting the way you view teams and working environments, such as work from home, meetings, etc.?

Tucker: I spent much of my early career on a trading desk, which I loved at the time, but now prefer our office design compared to the full open office concept that has been favored of late. While our work does entail a high level of collaboration at times, it also involves a lot of phone calls and webinars in addition to a fair amount of reading and “processing” time. Following the pandemic, I suspect we will move away from the open concept idea and embrace some form of individual space. Dedicated physical and virtual spaces and rooms can be leveraged for collaboration.

At the start of the transition to working remotely, we implemented a daily team digest call at 4 p.m. every day. This was put in place to ensure maximum communication and connectivity as we triaged communications between existing managers, prospective managers with new opportunities, and monitoring the markets and the portfolio through the historic volatility. We leveraged and expanded the use of technology we already had in place to bring the team closer. Summarizing meetings or webinars attended during the day generated immediate discussion and feedback, and allowed us to maintain some sense of collaboration. While not the same collaborative dynamic as being in the office, we have been extremely productive through the work at home period by leveraging existing and new software and expect that working remotely will continue in some form for the organization longer-term.

I have also personally found the use of technology has enabled us to more efficiently manage the meeting schedule. You can efficiently move from one meeting to the next, better manage start and end times. When and how we will manage in-office meetings is still being discussed, so we expect conducting meetings virtually will be our new normal for the near and intermediate term.

CIO: What exercises have you found useful?

Tucker: At the beginning of the work-from-home period I was able to bike on my route or train on the stairs at Long Beach. After Safer at Home orders were put in place in LA and beaches were closed, I transitioned to a planks, push-ups, and leg kicks workout at home. I have managed to make it to plank, which was an achievement given the struggle to make it to just one minute initially. I now have purchased a couple of jump ropes and resistance bands to add to the mix.  

CIO: What asset class or investment troubles you most right now—and why?

Tucker: The office sector in real estate is likely to undergo some significant changes as companies adjust to increasing numbers of employees working from home and in the office adjusting to incorporate recent behavioral changes and things like social distancing.

CIO: Name your four-member investment dream team for your own family office.

Tucker: I would take one well-networked mid-to-senior-level allocator, preferably with some markets experience; another mid-to-senior-level PE professional with transaction experience; and two hungry analysts (one with public markets experience and one with private market transaction experience). All humble, hungry, driven, collaborative and with a broad enough understanding of their space to think out of the box. No luminaries. No egos.

CIO: What should be an investment trend, but isn’t (yet)?

Tucker: I am surprised there has not been a broader adoption of Niche/Off-the-run/Unique Strategies into portfolios. There are a number of strategies that offer no or low correlation to public markets. They tend to be small, so scale can be an issue. However, managers that specialize in the space usually manage them, and their niche nature often means competition is low and barriers to entry high.