Tell Your Board to Get Real, Managers Warn

Milken Prudential SSGA panel The many institutions—US public pensions in particular—that still assume 7%-plus annual returns have asset management chiefs worried.

“It is very difficult to go to your board and argue that your expected return should be lower,” said David Hunt, CEO of Prudential’s investment management arm, at the Milken Institute Global Conference on Tuesday. “But that’s exactly what we think asset owners should be doing.”

Managers should pass on the warning to clients, too, according to Hunt. “As fiduciaries, we find right now that one our mains roles is to tell investors that we don’t think their expectations are reasonable.”

Nor are they safe, Hunt stressed. “What could drive bad or bubble behavior? It’s unrealistic return expectations.”

For more stories like this, sign up for the CIO Alert newsletter. 

He earned vigorous support from his co-panelists—a rare consensus during their debate on asset management’s ballooning role in global capital markets.

“Pension funds only have two levers,” said Ronald O’Hanley, CEO of State Street Global Advisors. Over-estimate returns long enough, and a defined benefit plan must either break its promises to retirees or charge its mistake to the sponsor.

“This is not a problem that’s going to get better over time,” Hanley warned.

CIOs’ reluctance to deliver bad news to their bosses has fostered the situations, speakers argued—and so have markets. For a number of years, plan leaders had no (immediate) bad news to share.

“Investors got pampered by extraordinarily strong securities markets,” said Hilda Ochoa-Brillembourg, founder of outsourced-CIO firm Strategic Investment Group. “But that’s not an accurate expectation for the future.”

Nouriel Roubini, famed doomsayer and chairman of Roubini Global Economics, found himself, for once, in the majority opinion.

AIG is pulling $4.1 billion from its hedge fund portfolio as part of a move to significantly downsize its exposures to the investment vehicle.

In a conference call discussing first quarter results on Tuesday, Chief Financial Officer Sid Sankaran said AIG planned to cut its $11 billion hedge fund allocation in half by 2017.

The divestment is in part due to poor performance, as AIG’s hedge fund portfolio has suffered losses over the last three quarters, contributing to a net earnings loss for the insurer in each period, according to the firm’s financial statements.

Activist investor Carl Icahn, who owns a large stake in AIG, accused the insurer in October of “severely” underperforming its peers.

For more stories like this, sign up for the CIO Alert newsletter. 

In a February conference call, CEO Peter Hancock said he believed reducing the hedge fund allocation would lead to “greater risk-adjusted returns.”

So far the $343 billion insurance fund has submitted notices of redemption for $4.1 billion from undisclosed hedge funds, and received $1.2 billion back. Its hedge fund investments fell over the quarter from $11 billion to $10.1 billion.

The funds currently allocated to hedge funds will be shifted primarily into commercial-mortgage loans and investment-grade bonds, Sankaran said. AIG also appointed fixed-income veteran Douglas Dachille as CIO in July.

“Doug is a leader in financial services and investments, and has an extensive track record in all aspects of asset management, structured finance, and risk management at global companies,” Hancock said in a statement at the time.