Tag: Outsourced Chief Investment Officer

This approach is inspired by the successful path taken by a large US cancer research foundation.

The Foundation Board wanted to retain direct control over a $75 mm liquidity portfolio and focus OCIO talent on their $200 mm perpetual portfolio. They needed $40 mm for 3 years’ worth of grant making and $35 mm to retain the ability to immediately finance any cancer therapy that suddenly proved promising. They wanted professional managers to focus on the perpetual portfolio. By splitting the total AUM, the Board achieved the best average fee levels between the two pools.

You could achieve the same type of benefits, as outlined below.

Liquidity Pool (typically 20% of AUM to cover 3 years’ worth of grants/expenses)

The composition would likely be mostly cash/fixed income/ETF’s. In the event of an extended equity market downturn, you are not forced to sell a large percentage of depreciated equities. The Investment Committee would directly manage/rebalance this pool and fees would be the lowest possible.

Perpetual Pool (80% of AUM)

This long-term portfolio would have minimal liquidity restraints. The OCIO could manage this pool to specific long-term goals. The ability to harvest an “illiquidity premium” often present in Alternative Assets is increased. The OCIO can focus on obtaining the best risk-adjusted long-term returns for you. This enables a more “resilient portfolio” that will protect through a full equity market cycle.

Other Advantages for You

LIQUIDITY POOL CONTROL for the Investment Committee. They become fully attuned to the
Liquidity/Spending/Expense nexus.

SHIFTS FOCUS TO STRATEGIC ISSUES – Anecdotally post-OCIO decision, the Committee focuses on the bigger picture and longer-term trends. There is often less friction over tactical decisions that are taken.

OCIO TYPICALLY WOULD PROVIDE ANALYTICS FOR BOTH POOLS – OCIO could capture Liquidity Pool positions in a holistic analysis that informs the Committee of the entire investment picture of the combined holdings of the two pools.

FEES on the Liquidity Pool will be the lowest obtainable and will bring down your overall fee spend.

BORROWING – For additional flexibility, you can set up a securities lending program, using either or both of the pools. This offers greater flexibility to “ride out” a sustained equity market sell-off. There are operational preparation steps but no fees incurred unless you use the secured credit, unlike the facility fees incurred for a line of credit.

Want to learn more? Please contact Chris Cutler or Tom Donahoe.

Given the magnitude of the S&P Sell-off in December 2018 (-9.03 %), we thought it would be instructive to examine past events of a similar magnitude. We selected all single month sell-offs since January 1950. Here is a table and graph of our findings.

No one can predict what the future holds but certainly as one wag put it, “we’ve been to this picture show before.” Large drops in equity prices over a one month horizon are a temptation to take drastic action. Investors tend to become emotionally involved with the market and it is difficult to remain disciplined. What is critical is that investors build portfolios that are resilient to market corrections and achieve the best long-term risk adjusted returns. We present the historical data for the reader’s own interpretation.

Want to learn more? Please contact Chris Cutler, Tom Donahoe, or Safia Mehta at 917 287 9551.

A major utility company’s service promise is “We’re on it!” A new OCIO will say the same thing. In fact,
most OCIO’s have dedicated teams that arrange new client onboarding. From personal experience, the
process is problematic, and the transition tends to leave client’s money on the table. This could easily
cost the Foundation up to 1% or more in value of its corpus.

Here’s why – Once a client gives “walking papers” to the existing OCIO, it is essentially “pencils down.”
Cooperation often tends to decline; it’s just human nature. Likewise, a new OCIO may assert that they
do not own the performance until the assets hit the new custodian’s books at the new OCIO. This
potential material gap in performance is owned by the client. Here are typical stages in a transition and
miscommunication often leads to process delays.

Manager Analysis Services can help you avoid those costs by acting both as your search consultant
and as your transition consultant.

Documents Needed by New OCIO Team (partial listing)

-Articles of Incorporation, EIN Document, IRS Letter of Determination
-Bylaws, List of signatories, etc.
-Existing Investment Policy Statement and Asset Range Grid (both subject to editing by new OCIO)
-Board resolution confirming appointment of the new OCIO

Critical Handling of Your Assets

Which assets will be sold, when and how, and how will proceeds be transferred?
Which assets can be transferred electronically? (ACAT)
Which assets will follow over time? Proper timing sequence.
Transition Allocation: Will proceeds and assets be transferred over “as is” to the new OCIO? Will
there be a reallocation by asset class amidst the asset transfer process?

Special Instructions

Who are authorized signatories to transfer of proceeds or assets from old OCIO with new (i.e. nonstandard) wire instructions that the custodian will need to verbally confirm via call backs?
Depending on the sequence and settlement dates, will the Foundation be out of the market (wholly or
partially) for 1 or more days? Will the new allocation occur over time or be “averaged” into the market,
or fully deployed ASAP? (You should insist on a detailed transition plan and probe for gaps/errors.)

Reconciliation of all Transactions in Anticipation of EOY Audit Review

If you do not take steps to have all the transfers and liquidations, etc. reconciled within a few weeks
following the transfers, you are inviting future headaches, costly reconstruction of data, etc. Auditors
have a laser-like focus on these large transactions, given the absolute size relative to total assets, as well
as margin for significant error and losses.

Want to learn more? Please contact Chris Cutler, Tom Donahoe or Safia Mehta at 917 287 9551

Let’s explore how an Investment Committee may approach the decision in an organized process:

a) Your Range of Available Alternatives
b) Key questions to Consider
c) Obtaining Buy-in from Your Fellow Committee Members
d) Educating Yourself on the Advantages/Drawbacks
e) Ensuring a Focused Comparison of Providers
a) Your Range of Available Alternatives

The typical continuum of Investment Management approaches are as follows:

Certainly, there are variations of the above four approaches including a hybrid of approaches.
While each approach has the potential to succeed, there are approaches that contain inherent
structural and behavioral flaws which may impede success. (One could also split the portfolio
corpus between internal CIO and outsourced CIO management.)

In an AGB publications¹, they “strongly advise against…the investment committee [that]
functions as CIO, often with the help of a consultant…we now have decades of strong evidence
that Investment Committees simply have found it difficult to succeed in this role² .”
If we accept the results of the AGB research, then we are left to focus on Internal CIO, IC Chair
as CIO, and Outsourced CIO. Internal CIO (and staff) introduces the issues of cost, economies
of scale, and compensation/personnel issues. IC Chair as CIO concentrates power and discretion
in a single person, who is a volunteer. It may work if the person has the required expertise,
leadership experience, and the time to focus. Let’s now turn attention to the focus of this
briefing, how to consider an Outsourced CIO.

b) Key Questions to Consider

Let’s consider whether an Outsourced CIO may be appropriate for your organization. Before
considering the merits, some threshold questions are appropriate:

1. A non-profit typically retains outside legal counsel, external auditor, IT expertise, payroll management, grant tracking, etc. (all non-core activities) where external expertise is needed and a recognized value-add. Do members of the IC view an Outsourced OCIO as a value-add and are they willing to give up day-to-day investment control and shift their focus to oversight and more strategic issues?
2. If the Board is open to an Outside CIO, what are the existing and future challenges/issues that the committee is trying to address?
3. What are the range and type of desired investment offerings that need to be provided by the Outside CIO?
4. How should the Committee members educate themselves as to what’s available, what’s appropriate for their organization and how can they effectively and efficiently internalize the information to arrive at the best outcomes for their organization.

(Certainly, there are more detailed and other helpful questions that will assist a committee
in its analysis, but we shall consider only those above for purposes of our review here.)

c) Obtaining Buy-in from Your Fellow Committee Members

Research has shown that non-profits, with rare exceptions have simply not maintained the
purchasing power of their Investment Portfolios, especially relative to the pre-GFC (2007)
levels.³ In order to conduct an effective Outsourced CIO search, the IC members must first agree
that there is a challenge to be addressed. If there is disagreement on the IC as to which of the
four main approaches presented are appropriate, the search process may be fatally flawed and
simply not lead to the best outcome. It may well further divide the IC if the differences of
opinion are not subject to suasion or authentic consensus.

If authentic agreement can be reached to move forward, then the IC should be specific and agree
in writing, on the precise parameters of who should have what investment management
responsibilities and the proper assignment of oversight duties.

The IC should agree on what gaps or deficiencies are to be addressed. They should review their
existing IPS and see if it really addresses how they would like the portfolio to be managed on a
go forward basis. This is the time to identify asset classes, investment structures (e.g. comingled
accounts v. SMA’s) that the IC wishes to embrace or avoid. If there is a desire to focus more on
impact investing or ESG, this is the time to identify that as an item of inclusion, as well.

d) Educating Yourself and IC on Advantages/Drawbacks of an Outsourced CIO

An Outsourced OCIO is no panacea but a means to an end. Given the customized demands of
individual non-profits, you need to understand what your wants are and what is available or
customizable in the market. There is abundant information available on provider websites and
some can be quite useful, and while much may not be directly on point for your needs. You
could invite a sample of providers to address your IC at periodic meetings and gradually obtain
key points of information, but the information may be skewed or incomplete.

In the alternative, it may be more cost effective and time efficient to hire a search consultant who
can match your specific needs to what the outsourced CIO providers offer and what could be
created for you. Be mindful that there are 80+ OCIO providers who assert national coverage and
yet they have quite different investment approaches, investment vehicles, asset class coverages,
reporting capabilities, fee structures, gradations of outsourcing services provided, etc.

You also need to achieve a “good fit” with your ultimate provider. This will maximize your
chances of forming a long and worthwhile partnership with your provider. A search provider can
provide a team who gets to know you and can partner with you to achieve your specific goals.
The team will be your strongest advocate throughout the search and the on-boarding process.

e) Ensuring a Focused Comparison of Providers

Although the industry has grown to $1.1Trln⁴ over the last 20 years, it suffers from a lack of standardization in reporting returns and some opaqueness as to total fees charged. There are a variety of OCIO firms each with their own areas of strength. The lineup of providers includes a) the largest OCIOs with +$90 Bn in AUM, b) medium-sized OCIOs who are considered the $15 – $30 Bn range, c) niche OCIOs who have a specific investment strategy focus, and 4) alternatives-focused OCIOs. If the Committee does not have a consensus view as to the type of OCIO they would like to work with, seeing a variety of OCIO models and reviewing the services obtainable from each would help the IC arrive at a more informed decision.

An additional caution is that once an Outsourced CIO is chosen, then portfolio assets will likely
need to be liquidated and/or transferred to new custodians. There are risks involved with this
timing and asset transfer. It should be planned in specific detail to ensure that there is no market
timing or excess bid/offer spreads incurred. Without enough planning and oversight, losing 30 –
80 bp’s on the portion of the portfolio liquidated can occur. There could also be legacy assets.

Summary

In summary, the goal is to ensure the IC fully describes what its needs are and what level of
discretion suits its members. If there is not agreement by the IC members PRIOR to the actual
search, it will be likely be more difficult to achieve the best outcome possible for a non-profit
organization. There are a broad variety of providers whose specific expertise and structure
enables them to provide solutions best suited to some types of clients rather than others.

Want to learn more? Please contact Chris Cutler, Tom Donahoe or Safia Mehta at 917 287 9551.

1 Association of Governing Bodies of Universities and Colleges, “Endowment Management for Higher Education”, 2017, AGB Press, Washington, D.C.

2 They cite 4 impediments: Lack of expertise, difficulty in making timely decisions, inability to make difficult, contrarian decisions, and diffusion of responsibility., ibid., p.25

3 Sandeep Dahiya, David Yermack. “Investment Returns and Distribution Policies of Non-Profit Endowment Funds.” Report 11/27/2018 Available on https://papers.ssrn.com

4 Cerulli Associates/Blackrock, “OCIO at an Inflection Point”, P. 3, Report 2019 © 2019 MAS, LLC

Governance Policies

1. Periodic, formalized review of Investment Policy Statement (including ESG Investing)
2. Addressing governance issues and increase efficiency of your Board or Committee
3. Guidance as to evolving worlds of ESG and Impact Investing
4. Recommendations as how to overcome any Board dysfunction
5. Be a neutral “sounding board” for doing things differently or changing processes

Reporting

1. Providing ad-hoc investment reporting
2. If some investments are held elsewhere (not with the OCIO, e.g. legacy assets), OCIO may be able/willing to include those positions with OCIO-managed assets and present holistic portfolio summary
3. Accommodate your special file format needs, e.g. CSV or uploads to secure website
4. Access to OCIO’s risk portal if it is offered to clients

Accounting/Audit

1. Provide guidance on special treatment needed for bespoke assets or alternatives held
2. Help with Audit/IRS requests re: valuation or investment reporting
3. Assistance if there are concerns about K-1 information/accuracy

Peer Networking

1. Provide a sense of how peers approach a common issue or provide actual introductions
2. Obtain information as to salary scales, job duties, size of specific departments, etc.
3. Invitations to annual/OCIO investor events or industry seminars that may be of interest
4. Provide research/book/website recommendations

Fund Raising

1. Introduction to like-minded charities or orgs willing to make grants to the same causes
2. Meet your donors to assure them that the corpus monies are being prudently invested
3. Provide future projections of returns and budgets to provide support for a capital campaign

Evaluating/Selling Exotic Gifts Received

1. Real estate gifts provide a challenge/interim liability between obtaining title and closing a sale
2. More exotic asset classes such as cryptocurrency create special challenges to liquidate
3. Art and Sculpture may require special insurance while an exit strategy is planned/effected

Hiring/Vendors

1. If you wish to get recommendations for an open staff position at your organization
2. Vendor recommendations (Outside Counsel, IT Security, Grant software, etc.)

The range of ancillary services varies widely across OCIO managers. The ManagerAnalysis.com
team can help you achieve the best match from available OCIO providers to achieve your
specific needs.

Want to learn more?

Please contact Chris Cutler, Tom Donahoe, or Safia Mehta, at 917 287 9551 or 973 452 3992.

©2019 MAS, LLC

Virtually every large Outsourced CIO boasts a “dedicated onboarding” team. You will hear pleasant words like “seamless” and “facilitate” and “full transition takes 5 to 10 days.” This all
sounds so reassuring. As a Fiduciary, you can simply not rely on those “happy noises.”

Perhaps it is the number of moving parts, the reliance on a skeletal checklist, or the failure to
perform a simple “walk through” exercise that is the biggest culprit. When legal, operational or
IT roadblocks are not uncovered until the transition is underway, the likely result is economic
damage to your investment corpus.

A sample portfolio to transition might be:

• 40% public equity securities
• 20% fixed income securities
• 15% Hedge Funds
• 10% Private Equity
• 5% Real Estate
• 10% Cash

The simplistic view is hold onto to the cash, sell the liquid securities, and do the best you can
with the alternatives holdings. That approach glosses over some critical decision points:

1. Proper sequencing of asset sales by asset class, date, and time.
2. Not coordinating the timing of sales/buys to be synced to intraday/market close.
3. Not factoring in the different settlement dates that vary by instrument and fund, e.g. mutual funds v. ETF’s v. security assets.
4. Whether borrowing to facilitate the purchase of replacement assets is allowable.
5. Whether futures/ETF’s could maintain needed market exposure and minimize the impact of settlement mismatches.
6. Failure to minimize “time out of market” if that is your goal.
7. No agreed timetable to perform a reconciliation or what constitutes “full” reconciliation.
8. Decision to change asset allocations amidst the transition process itself.
9. No clear game plan as to “care and feeding” of legacy assets.

Public Equities might be individual securities or held within mutual funds or ETF (Exchange
Traded Funds.) Each asset has its own settlement date as well as exit process. This means sales
timing issues and settlement issues. Public Equities may be sold intra-day (or MOC-market on
close, or VWAP-volume weighted average price.) Mutual funds pricing is at end of day, ETF’s
can be intraday or MOC and when you receive sales proceeds varies by instrument.

Hedge Funds are often liquidated only on a quarterly basis and there are typically holdbacks.
There may be investor-level or fund-level gates as well.

Private Equity has almost no liquidity and you may need to sell on a discounted basis in the
secondary market if you cannot wait the additional year(s) likely to full redemption. Legacy
assets require dedicated management and oversight.

When you change custodians, your existing custodian likely must follow up with phone calls
backs to authorized signatories. The signatories (Trustees) have busy lives and this further
restricts your flexibility to sell and buy at the best times to ensure a smooth transition. Beware
the vague or incomplete timetables or assurances that “we’ve been doing this a long time.” You
should require a daily update as to sales/proceeds and when/where these proceeds will be sent.

As part of our Outsourced CIO search services, we are also available to oversee the transition
process to ensure that your institution does not have gaps or additional market exposure during
the Outsourced CIO transition.

Want to learn more?

Please contact Chris Cutler, Tom Donahoe, or Safia Mehta, at 917 287 9551

©2019 MAS, LLC

NonProfit News Excerpts (for release Sept 19)-Comments Tom Donahoe

Tell us how you became involved in Governance and guiding Outsourced CIO searches?

As an Executive Director of a Foundation, I personally directed a couple of outsourced CIO searches. The searches were both direct searches as well as searches conducted via an outsourced CIO search provider that the Foundation retained. This provided me direct experience with both approaches. The insights garnered from engaging directly in the step-bystep helps guide me as a search provider. Boards often need objective, independent guidance that help them optimize their investment decisions. These insights help animate our approach to achieving a successful OCIO search outcome for every client.

What is the typical catalyst for an Outsourced CIO search?

Board and Investment committee members are realizing that they just can’t do it themselves, they don’t have the bandwidth. There are many talented people on the committees and boards, but you only have a certain amount of a governance budget, i.e. the time and focus to fulfill your fiduciary duty. If the committee members quit their day jobs, they would certainly be able to undertake a full-blown search by themselves. But they realize that they can’t quit their day jobs, they meet 4X a year, and they can’t respond as nimbly as a fiduciary as they would like.

Any general observations on the search process itself?

A proper search effectively creates a long-term investment partnership for your client. We are trying to really understand the board, its investment philosophy and their specific goals and needs. We engage Board members directly and work with them to verbalize and document what their ideal would be. We then use their guidance to filter through the 70+ OCIO firms with a national reach (and regionals as well) to distill those providers to a group of five to 10 potential finalists. These are the providers who can do what is required, will align with the board’s goals, approach, and personality, and are not conflicted in any manner.

We work directly with committee members to review each potential provider from the filtered list. We understand what each firm offers, who could be an excellent match and who would work well with the committee to meet its needs and goals over any time horizon. The ideal outcome is that 5+ years in the future, the committee remains satisfied with the same outsourced CIO provider. Excellent performance helps but also the goals/philosophies remain well aligned.

When a firm is awarded the charge to become the outsourced CIO provider for an institution, we
are very much involved in the transition process. We continue our involvement over the first few quarterly meetings to monitor and make sure things are going the way they should and ensure assets were transferred properly. After a period of time, with the investment committee’s consent, we then step away because if we’ve done our job, the committee and provider should be well in sync with each other. There is a trend now, after a period of 3 to 5 years, for the endowment/foundation to request a formalized review of the OCIO provider. That can be done by the firm who originally did the search or alternatively by a different firm. It is an excellent fiduciary discipline.

Comments about fees…

There has been significant fee compression over the last several years. You’ve likely seen it in your own personal Vanguard or Fidelity account and the same thing is happening in the Outsourced CIO space as well. I believe that even if you do not perform a formal five-year review of you OCIO provider, you are well advised to checkup on fees periodically and what’s being charged on an annual basis. It is simply a prudent fiduciary discipline.

On the size and growth of the space…

Surveys often report $1.1 trillion in OCIO assets, others $1.4 trillion. Most surveys do indicate that the growth rate is slowing from the high teens to high single digits growth p.a. The OCIO model is satisfying a real need in the marketplace and fiduciaries are realizing that an Outsourced CIO provider can help compensate for the deficiencies in the governance budget.

Asset Transition between Providers

There is an important issue that I would like to surface and that is management of asset transition. As soon as you give notice to your current OCIO provider, saying you’re changing OCIO’s, it’s typically “pencils down” by the incumbent provider. They will respond to any questions you have, but there is no providing of new information and it’s not clear if portfolio rebalancing would occur during this interim period. From the old OCIO’s vantage point, they are now going to wait to hear how and when to transfer assets.

The transition period can be delayed or extended simply because the Investment Committee is organizing itself. During the transition process there can be slippage. That slippage could be 30 basis points on your entire portfolio, or it could be conceivably as much as 70 or 80 basis points when things are not going well. That is many multiples of the cost of doing a search itself.

When non-profits do an Outsourced CIO search, they don’t know the backstory for every organization. We differentiate ourselves in our intimate knowledge of these firms, who is in the driver’s seat, how long they are going to be there, what changes at the firm have occurred, and what are their motivations. We incorporate these insights in our conversations with the board so they best understand what each firm has to offer and to fully inform their decision making.

Why don’t we become an Outsourced CIO?

To provide added value as an investment manager, you need a critical mass to properly understand and monitor all the asset classes and best serve your client. There are great OCIO providers out there and we view our mission as achieving the best long-term fit for each of the non-profit and family office clients that we serve. Besides, we enjoy doing the searches, we enjoy the analysis, and we enjoy asking the questions and parsing out the answers. There is no better experience that matching a client with a well-suited OCIO provider who can provide the added value and support that our client needs and deserves.

“We Looked at Too Many OCIO Providers” – The Endowment had $500 mm AUM and requested an RFP from 16 different firms. When they received back only 12 of the RFP’s, “it should have alerted us that we were not focused.” The Investment Committee Chair admitted later, they should have memorialized their investment priorities and spent more time filtering the available OCIO universe at the outset.

“We Included a Courtesy RFP for Our Local Bank” – This was embarrassing. Our bank knew us and scored high on their RFP back to us. In fact, they qualified as a finalist. When an IC member pointed out that their own $150 mm portfolio would double the bank’s AUM, the over concentration would be untenable. We had to explain, that after all the bank’s efforts, we could not even consider them. (An RFP typically requires 20 – 40 hours work to complete, with review by the OCIO’s internal compliance.)

IC Chair Did Not Recuse Himself from Review of an Insider Firm – While most IC members determined that they were comfortable with the process, the optics were poor. The IC Chair had insisted that a specific OCIO be included. The same OCIO managed the IC Chair’s own “friends and family” assets of $100 mm. The IC Chair actively participated in all discussions and voting. Moreover, the recommendation was written on his personal stationery and all communications were via his personnel email. There were no meeting minutes kept of the in-person review meetings with the OCIO candidate firms. There were additional indicia, but the reader can understand the concern by some IC members as to the appearance of a conflict.

OCIO Coverage Team Changed Within Months of the OCIO Hiring – The Investment Committee was severely disappointed when the “A” team moved from their account after 4 months. The college thought that they were continuing with the same team that had been so impressive in the bidding process but did not insert any provisions into the OCIO contract to ensure continuity of coverage.

Asset Transition Plan Was Not Detailed Nor Finalized – The incoming OCIO was charged with selling the assets. They sold them in timely fashion and then waited. After several weeks, the Investment Committee contacted them to receive an update as to the re-investment process. They were informed, things were fine. The OCIO had re-invested 15% of the portfolio and would ladder in over the next 5 to 6 months. Only then did the Foundation learn that the OCIO had an internal policy to “average into the market.” The OCIO said “not to worry” since there were no management fees incurred for monies while they remained “undeployed.”

Moral – If this is the first time that your Investment Committee is considering an OCIO, it’s critical that the planning be detailed and comprehensive. There are so many ways that value can be lost, or opportunities missed. Moreover, there are fiduciary concerns and conflicts of interest issues that may need specific focus at the outset.

Want to learn more? Please contact Chris Cutler, Tom Donahoe or Safia Mehta at 917 287 9551.

© 2019 MAS, LLC