“Ben is dedicated to the pursuit of continuous improvement and elevating our endowment office in the areas of portfolio management, governance and operations. His stewardship of Principia investments has helped us achieve strong long-term returns that support current spending obligations and intergenerational equity. Ben brings a disciplined approach to investing and lets his creativity shine in finding new and alternative ways of conducting due diligence. He initiated our internship program and has mentored numerous Principia college interns while encouraging them to sit for the CFA exams and helping them land job opportunities after graduation. The versatility of investment expertise, emotional intelligence and integrity make Ben a top contributor on our team and a leader in the industry.”
—Hans Fredrikson, Chief Investment Officer, the Principia Corporation
The CHIEF INVESTMENT OFFICER Editorial Team shared a dozen questions with all our NextGen nominees and asked them each to pick six to answer. Their answers informed our decision to include them as a NextGen. Below are the answers from Ben Kniola.
CIO: What asset classes offer the best options for avoiding or mitigating drawdown risk in an institutional portfolio?
Kniola: Direct lending and private credit offer institutional investors a compelling combination of attractive current income and lower volatility than their public market counterparts. While volatility is considered artificially smoothed, given the lack of mark-to-market adjustments, direct lending allows for greater control over terms, structuring and recovery outcomes.
We explored how direct lending performed during the global financial crisis and found that high levels of current income helped offset unrealized losses and defaults, resulting in a max drawdown for the asset class of around -8%. This compares favorably to the HFRI Fund Weighted Index, which experienced a drawdown of -19%, and the Russell 3000, which declined 54%. Although there is growing concern about the flood of capital into direct lending and an imminent default wave, severe losses in private credit would imply a massive wipeout in private equity capital and broader economic issues.
Investors and their beneficiaries cannot afford steep drawdowns in equity markets. Today’s current interest rate environment has placed stress on net margins for companies and households. However, cash rates and private credit have offered meaningful income to help institutions meet their spending needs.
CIO: Which component of ESG-driven investing do you think will have the most influence on institutional investing going forward, and why?
Kniola: The housing affordability crisis is a global phenomenon and a significant factor contributing to falling birth rates across developed economies. There has been growing public awareness of how private equity firms are increasing their ownership of single-family homes through vertically integrated origination and property management companies. While the ownership concentration of single-family homes by private equity firms is estimated between 3% and 4%, large purchases of entire neighborhoods have attracted attention from the media and policy makers.
The reduction of available housing stock in communities and diminishing avenues for generational wealth-building is a social, or “S,” factor. Enough public blowback could threaten private equity’s “license to operate” in residential real estate while creating headline risk for its investors.
We have observed asset managers consistently raising rents by double digits annually. These increases are unsustainable and only exacerbate the housing affordability problem. While the financial returns from our real estate investments support our mission, we don’t want it at the expense of society.
CIO: What asset class or investment troubles you most right now, and why?
Kniola: I am most concerned about private equity, given the lack of distributions in recent years and the creative techniques GPs are using to achieve returns for their investors. We have been cautious of continuation vehicles and have elected [to access] liquidity options when available. Financial media stories detail questionable valuation methodologies, especially for companies with declining revenues and EBITDA.
The higher-interest-rate environment makes the underwriting math for leveraged buyouts difficult, which can separate true value-creators from financial engineers. However, underlying portfolio companies face multiple stressors, including a tight labor market, declining consumer sentiment and higher borrowing costs. Deteriorating conditions in the private equity landscape are spilling over into private credit, as companies struggle to meet even their interest-only payments.
The growing trend of allocating to illiquid private market investments may be questioned if financial stress turns into contagion. This would severely impact institutions’ asset allocation and their ability to meet spending obligations.
CIO: What investing decision have you made for your organization that you’re most proud of?
Kniola: One of the investing decisions I’m most proud of is our organization’s choice to pursue investments in decarbonization. This idea was met with skepticism due to concerns about ESG trendiness. However, I presented a thesis focused solely on the investment and financial merits, excluding nonfinancial factors such as social and political leanings.
I observed that our upstream energy managers were allocating an increasing portion of their funds to decarbonization investments, which had yielded impressive results and provided us visibility into the space. Additionally, 2022 was a record-setting year for infrastructure fundraising, with $175 billion raised. It became clear there was a significant supply of infrastructure dry powder matched against a lack of traditionally defined infrastructure assets, leading to stretched definitions of infrastructure and capital needing to get parked somewhere. These factors, combined with net zero targets and corporate sustainability goals, paved the way for a thesis and helped me identify asset managers benefiting from these dynamics.
CIO: Who in asset management (a person, not a firm) has most influenced your growth as an institutional asset manager?
Kniola: I heard Stephen Butt, founder of Silchester International Investors, speak at a conference about the discipline and focus required in the investment industry. Mr. Butt described Silchester’s investment philosophy as focusing only on one investment program and buying companies below their intrinsic value. Simple in description, difficult in practice.
Mr. Butt also talked about the “drumbeat of the world”—synonymous with the noise and headlines that distract us from long-term thinking. Silchester’s presentations contain one of my all-time favorite line graphs, showing its performance from 1995 to today trending up and to the right. Dotted along this graph are a series of geopolitical events and economic shocks that, at the time, [made it feel] like the world was ending.
Mr. Butt’s messages serve as a reminder of my duty as a long-term investor to ignore the noise and stick to first principles.
CIO: What new skills do you think allocators need to be leaders in the field in the coming decade?
Kniola: One of the most crucial skills allocators need to develop and renew is the ability to focus. This is not a new skill, but a lost skill in a world where data generation is growing exponentially, and new content constantly competes for our attention.
As allocators, we can be overwhelmed with data from tracking new and current investments while filtering signals from noise. Our responsibilities often require deep work and moving forward strategic initiatives, both of which are threatened by getting sidetracked with email, notifications, meetings and solicitations. Furthermore, leading new ideas or pursuits in an organization can lead to rapid career growth, but it requires discipline and persistence from start to finish.
The ability to focus, through ruthless prioritization and managing the scarcest resource, time, will be a valuable trait over the next decade.
