Chris Ailman Bids Farewell at Final CIO Report

Chris Ailman, CIO of the California State Teachers’ Retirement System, presented his final CIO report at the CalSTRS board meeting Wednesday, voicing worries about federal debt expenses and hope about artificial intelligence’s effect on the economy.

Ailman, who had presented 175 CIO reports since he joined CalSTRS in 2000 as CIO, was commended by CalSTRS staff and beneficiaries for his 24 years of service to the fund.

“We want to thank you for all that you have done for these past 24 years, we are eternally grateful to have gotten to know you, we are fortunate to have you, a strong and steady hand at the helm of CalSTRS,” said Harry Keiley, CalSTRS board chair at the meeting.

“Christopher throughout his career has demonstrated the attributes of diligence and revere intellect and dedication to the interest of CalSTRS members and their families,” said Frank Ruffino, a board member.

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“Let me add my voice to the voice of so many others in praising you Chris, in your decades of hard work safeguarding the livelihoods of hundreds of thousands of our California educators,” said California Governor Gavin Newsom in a prerecorded video shown at the meeting. “Congratulations Chris on a remarkable and impactful career and more importantly, a truly well-deserved retirement.”

This week, the board of CalSTRS interviewed two finalist candidates who could potentially be successors to the long-tenured Ailman. A successor is expected to be announced before July.

CIO Report

Ailman announced that the fund had $336.2 billion in assets at the end of March 2024, up around 15 billion year-to-date.

The investment chief also noted that the top mega-cap stocks were responsible for about half of equity growth, pointing to the outperformance of Magnificent Seven, the group of large tech stocks that incudes Microsoft and Nvidia, and the divergence between the Russell top 50 mega-cap index and the Russell 3000, two indexes that were correlated until March 2023 when the AI hype began.

“It doesn’t mean it’s a bubble,” Ailman said, referring to the fast growth of the Mag Seven because of the AI rally. “Artificial intelligence is real, and it is a radical change … so those stocks may continue to win.”

Ailman said there are three things that will define the future, topics that he worries about as he leaves his CIO role. The first is U.S. debt as a percentage of gross domestic product, which Ailman says will be 3%. The productivity boost and job disruption of AI, and climate change, are next on his list.

“With that, I am pleased to give my last and final CIO report, it’s been an honor to serve you and I am glad to pass the baton,” Ailman said. “I know without question that I am leaving you in excellent hands. This team is fantastic, so I am very comfortable stepping off the ship and seeing you guys take off and doing even better.”

New Policy Targets

At the meeting, the CalSTRS board adopted a new policy target to boost its allocation to direct lending. The fund increased its fixed-income target to 13% from 12%, planning to support direct lending and to decrease its equities allocation by 1%.

In its new asset allocation, CalSTRS will allocate 40% to public equity, a decrease of one percentage point, 14% to private equity, 15% to real estate, 6% to inflation-sensitive securities, 10% to risk-mitigating strategies, 13% to fixed income (an increase of one percentage point) and 2% to cash and liquidity.

In the long-term, CalSTRS has a strategic target allocation that would see public equities decrease to 38%, private equity, real estate, and risk mitigating strategies stable at 14%, 15%, and 10% respectively, fixed income increased by 1% to 14%, and cash and liquidity stable at 2% of the portfolio.

CalSTRS Reports Sustainability Progress

CalSTRS CIO Chris Ailman to Retire

Tags: allocations, California Teachers’ Retirement System, CalSTRS, Chris Ailman, CIO, Harry Keiley, Magnificent Seven

The ideal allocation to stocks and bonds for institutional investors changes very little in response to a shift in correlation and that history and investment theory both continue to support the value of a balanced portfolio, according to new research from PGIM.

Bonds and stocks have historically been uncorrelated, specifically in times of low inflation and volatility. This was the case for large parts of the 20 years prior to 2022. The 60/40 portfolio was meant to be a stable balance between strong equity returns and the stability of fixed income. However, since 2022, both asset classes have become positively correlated.

The latest in a series of research papers from PGIM’s Institutional Advisory and Solutions group’s Noah Weisberger, managing director, and Xiang Xu, senior associate, seeks to address what this positive correlation means for institutional CIOs and their portfolios.

The optimal allocation to stocks and bonds changes very little in response to a shift in correlation from negative to positive, according to PGIM’s research. Bonds continue to play an important role in the portfolio and still provide a tail hedge to steep stock declines.

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According to PGIM, the performance of a 60/40 portfolio has become more volatile, leading to a decline in risk-adjusted returns, and deeper portfolio drawdowns.

“We cannot emphasize enough that positive correlation, in and of itself, did not cause dismal portfolio performance–indeed, 2023 was a strong year for the 60/40 portfolio despite the prevailing positive correlation regime,” the paper states. “Both history and theory point to the enduring value of a balanced portfolio regardless of correlation regime, with little to suggest that periods of positive stock-bond correlation are particularly challenging for multi-asset investing.”

According to the paper, over the past 50 years, the returns of a 60/40 portfolio are higher in times of positive stock-bond correlation, however risk-adjusted returns may end up being worse.

Effects of Monetary Policy

It is hard to predict when a negative correlation regime would ever come back into place, however monetary policy can give us some insights into where correlation between the asset classes is going.

“I can’t predict how long positive correlation will last but it does seem to me that many of the macro risk factors related to historically positive correlation are very much at play,” Weisberger says in an interview, “Should the macroeconomic landscape evolve the way it looks right now we could well see a persistent period of stock-bond correlation.”

Monetary policy is somewhat responsible for the current positive regime, Weisberger and Xu write. “The current conduct of fiscal and monetary policy has led to an increase in interest rate uncertainty, pushing rate volatility to multi-year highs,” they write in the report.

If interest rates stay elevated, the positive correlation regime is likely to continue, according to the report: “To the extent that fiscal sustainability and Fed independence and discretionary policymaking remain on the minds of investors, interest rate uncertainty may remain elevated too. This has direct implications for stock-bond correlation as short-term interest rate volatility is an input into our models of stock-bond correlation. Indeed, elevated interest rate volatility is responsible for a good deal of the uptick in stock-bond correlation and its shift from negative to positive.”

Bonds Still Have a Place

The ‘new’ 60/40 portfolio has been described by some as a portfolio that is 60% public markets assets and 40% private. Institutional investors and allocators are increasing their allocations to alternatives, like private equity and most recently private credit, in search of higher returns.

Still, fixed income still has a role to play in institutional portfolios and should not be overlooked, the PGIM team said.

“Even if stocks and bonds are positively correlated, bonds still play a diversified role in the portfolio. They are a liquid asset class, and they still have some risk protection characteristics even in a positive world,” Weisberger says.

Bonds can also still provide a hedge against stock declines, PGIM writes, as the two asset classes are not 100% positively correlated. “Positive correlation between stock and bond returns means that when one asset class experiences above or below average returns it is likely –depending on the strength of the correlation–that the other asset class will as well. Positive correlation does not imply that both asset classes will experience simultaneous declines.”

Bonds can also be more attractive on a risk-adjusted basis than stocks, and they can still be an important staple of institutional portfolios.