May 21, 2020

How CIOs Get Leeway from the Board

Getting a board buy-in for rebalancing portfolios is tough for new investment chiefs. Veterans reveal tried-and-true practices that helped them gain some freedom.

Reported by Sarah Min

Art by Lisk Feng

As the coronavirus rocks the economy, portfolio rebalancing is just about all that’s on pension funds’ agendas for the rest of the year. That’s a challenge for some new CIOs who wish to make quick decisions but find themselves hamstrung by boards.

Veterans who have been on the job for decades have all been there. These seasoned investment chiefs say efforts to build relationships with their board members have been key to a smooth operation, especially in a downturn when they need leeway to react with little delay.

Some ways to start? Taking the time to understand the history and culture of the fund, developing strong investment policies for everyone involved, and putting people at ease through it all.

Get Everyone on Board

In March, the investment team at the South Dakota Investment Council was able to act quickly to increase its equity risk allocation to 75%, up from 50% at the start of the first quarter. The team sought to scoop up bargains in the fast-moving market. The allocation has since settled back down to about 57% this month.

Matt Clark, chief investment officer at the state pension fund, said a healthy relationship with the board, spanning three decades, has helped him make decisions quickly amid market volatility. The pension fund has delegated authority to adjust equity risk at a wide predesignated range of 50% to 85%.

That’s because the pension plan board, which approves the ranges annually, has been fully apprised of Clark’s contrarian approach, knowing his value-hunting tactics may not yield near-term results. For example, last year South Dakota lagged behind its benchmarks and other peers. But the plan’s strategy helped when markets tanked in March. It also helped the plan buy exposure at market lows.

Clark said building trust comes from having frank discussions with the board about performance and investment strategies. But the investment chief advised others not to stop there. He said newcomers should take the time to explain their strategy with everyone involved with the fund, including legislators. While building relationships with state lawmakers is typically a task left to the most senior executive in the fund, Clark said it’s important that investment chiefs also make the effort.

“Whoever is the ultimate decision maker, whoever can force you to abandon your strategy at the wrong time, you need to have them fully on board and committed,” Clark said.

Put People at Ease

Ultimately, the investments business is a people business. For new investment chiefs who want to take on more risk or complexity, it can be helpful to maintain an ongoing discussion and engage the questions of uneasy board members.

A sense of timing is vital. “If the board is not comfortable, then we may table something,” said Jeb Burns, CIO at the Municipal Employees’ Retirement System of Michigan (MERS).

“We are comfortable taking those actions. We will bring the recommendation back at the next meeting or even wait till next year. Making sure we get buy-in is key to long-term governance success,”

Last summer, the ongoing conversation with the board helped the $11 billion investment fund tilt its portfolio to what it calls a “valuation based model.” This is a dynamic asset allocation, which the fund spent two years researching, aimed at helping the fund offset market drops, as well as allowing poorer funded plans to meet liabilities.

But the model, which covers about 75% of the portfolio, meant the fund would also rebalance more on an ongoing basis, instead of around once per year.

But the proposition paid off for MERS. The fund lost 8.15% in the lousy first quarter, versus its policy benchmark’s loss of 9.68%, outperforming by 1.53 percentage points.

“My belief is, if I can’t answer all the board’s questions and they can’t get comfortable, then there is more work to be done,” Burns added.

Understand Your Changes

While it’s tempting for new CIOs to walk into an investment fund demanding autonomy, some investment chiefs say that it’s better to do homework on the fund.

“If there is something you want to change, you’d better understand exactly why it is you want to change it,” said Bob Maynard, investment chief at the Public Employee Retirement System of Idaho (PERSI). “Oftentimes, something was put in place to take care of a problem.”

Maynard, who was the fourth investment chief in four years when he took over in 1992, said he benefited from taking the time to understand the board’s concerns and tailoring an investment strategy to address them. He read up on the prior board meeting minutes and brought questions he had about miscellaneous bets in the portfolio.

“A lot of it was cleaning up what they had going through the portfolio,” Maynard said, “and saying, ‘You have too many bets that aren’t necessarily coordinated,’ and saying, ‘Do you want this one? Why do you have it? So, do you want this high-tech small-cap US growth bet? Do you want this high-yield international bond? No? We’ll throw that out.’”

As the system was a hodgepodge of different investment approaches when Maynard took over, he put forth a simple investment philosophy, though his was contrary to the conventionally held wisdom at many pension funds.

For the Idaho fund, that meant throwing out anything overly complex, including hedge funds, risk mitigation strategies, and anything that, the investment chief said, “hasn’t proven itself yet.” The last significant assets the pension fund added were Treasury Inflation-Protected Securities (TIPS) and real estate investment trusts (REITs) in the late 1990s.

“To us, a wrong move is worse than the right move,” Maynard said. “In other words, you can lose more by making a move that’s wrong than the potential benefits warrant.”

For example, in April, Maynard said the fund posted its best monthly returns after March’s market crash. Adapting a strategy that is singular to the pension fund’s capabilities and its board members has helped the investment head.

Build a Strong Investment Policy

Every board looks a little different, and even the board of a single establishment can change markedly in a couple years. But just about any set-up can work well, so long as there’s a strong investment policy, according to Vince Smith, investment chief at the New Mexico State Investment Council, a sovereign wealth fund.

A clear delineation of roles and responsibilities among the investment chief, the executive director, the general investment consultant, and the board can help the fund and its members communicate with each other and hash out any differences.

For Smith, who built the investment policy with the executive director when they first arrived at the fund, it’s especially important to include some flexibility for the investments team to rebalance the portfolio. That includes moving capital from one manager to another, one asset class to another, one strategy to another on a daily basis, he said.

“Do they feel like their CIO has the maximum amount of ability to rebalance the portfolio?” Smith asked. “That almost always will bring efficiency and a lot of returns will follow.”

Communicate and Stick Around

Clark, who started as an intern in South Dakota in 1983, said he promptly notifies the board on what he’s doing, particularly after substantial moves. It’s especially important for his pension fund board, which only meets five times a year—during which entire market cycles may have passed. “We would be curious if we were in their shoes,” Clark said.

Building trust is a matter of time. A long tenure matters, CIOs agree, as does building relationships. “Take a little extra time to explain to people the reasons why you’re doing what you do,” Michigan investment chief Burns said.

Ultimately, making new and interesting types of investments comes with building credibility with the board.