Institutional Asset Allocation

My comments about institutional asset allocation, along with those made by Mr. Ron Ryan (CEO, Ryan ALM) and Lynn Connolly (Principal, Harbor Peak, LLC), were well received on January 8, 2014. Part of a joint program that was sponsored by the Quantitative Work Alliance for Applied Finance, Education and Wisdom ("QWAFAFEW") and the Professional Risk Managers' International Association ("PRMIA"), our audience of investment professionals added to the lively debate about topics such as strategic versus tactical asset allocation, fees, role of the pension consultant and the likely capital market impact due to the implementation of strategies such as liability-driven investing ("LDI") and/or pension risk transfers ("PRT"). 

With the size of the U.S. retirement market at $20 trillion and counting, big money is at stake. Bad asset allocation decisions can lead to a cascade of economic woes. It is no surprise that fiduciary breach allegations in the form of ERISA lawsuits are increasingly focused on questions about the appropriateness of a given asset allocation mix and whether an investment consultant or financial advisor has helped or hindered the way that pension monies are allocated. Noteworthy is that scrutiny about the efficacy of the asset allocation process and resulting money mix can, and has been, applied to both defined benefit and defined contribution plans. Keep in mind that asset allocation decisions are likewise central to assessing popular financially engineered products such as target date funds. Accounting issues and how changing rules influence asset allocation decisions are yet another topic that we will tackle in coming months.

Click to access Susan Mangiero's asset allocation slides, distributed to members of the January 8 audience, and meant to peturb a discussion about this always essential topic. Interested readers can check out "Frequently Asked Questions About Target Date or Lifecycle Funds" (Investment Company Institute) and "Annual Survey of Large Pension Funds and Public Pension Reserve Funds: Report on pension funds' long-term investments" (OECD, October 2013).

If you have a specific question about asset allocation and/or the procedural process associated with asset-liability management, send an email to me.

Investment Ethics, Balloon Boy and Sizzle

A colleague called me the other day, after attending a recent Connecticut event that addressed "too big to fail" concerns on the part of state regulators. In response to her comment about the large crowd size, I queried her about whether a forum on investment ethics would likely be a similar draw. Somewhat surprising to me she said "no" with nary a hesitation in her voice. Teasing her for more information, she simply declared that the topic of ethics is boring. Is she right?

Is ethics too dry to appeal, even to those tasked with compliance and investment best practices? Should we even compare ethics hounds to those of us who watched the silver spaceship-like balloon, floating above the Colorado countryside a few weeks ago, wondering if Balloon Boy was safely tucked inside? (Go on, admit it. You took at least one peek to hear whether a 6-year old really can fly, unsupervised, 8,000 feet above ground.)

Let's assume for a moment that celebrity and quirky news stories trump discussions about ethics and governance. Should we care? 

I've long maintained that carrying out one's professional duties with integrity does indeed impose a need to pay attention to what is right. Yet recognizing that one should be "ethical" is a necessary but insufficient condition. One can acknowledge the need to act properly yet do nothing about it, exposing ultimate beneficiaries to potential ruin. Then there are those who embrace the mantra but are blind to the gap between "investment best practices" and compliance. One can adhere to the letter of the law and yet fail miserably in terms of improving internal controls (and much more) so that investment risk is mitigated.

Since compensation levels are in the headlines of late, I'd like to repost an article that my colleague Wayne Miller and I wrote several years ago. Though written for retirement plan executives, the issues we discuss in "Do Fiduciaries Need Better Incentives to Make the Retirement System Work?" ring true today and will apply tomorrow. The primary assertion is that individuals behave according to incentives in place. The rewards must be clearly positive and attainable for anyone who rightly walks the extra mile on behalf of beneficiaries (mutual fund investors, retirement plan participants, etc).

What will entice my friend to race to a meeting to learn more ethical behavior, along with hundreds of others? Free wine and cheese or a true belief that comprehensive risk management is simply the only course of action for high-integrity stewards of other people's monies? Alas, she may not soon have a choice. Regulators and politicians will not be handed the next Madoff scandal on their watch.

According to her October 27, 2009 speech to attendees of the SIFMA Annual Conference, the SEC Chairman Mary Schapiro has created a new Division of Risk, Strategy and Financial Innovation and has its sights set on "new products - particularly those related to retirement investing." She emphasizes the need for "simple, clear disclosure" in lieu of "complex fee arrangements or product descriptions...Already on the radar screen are target date funds and securitized life settlements."  Click to read "The Road to Investor Confidence."

Is the SEC focus a faux reward? Comply and stay out of trouble (a carrot of sorts) but not necessarily map actions to best practices (hence one runs into a proverbial brick wall with attendant pain). How will good players be differentiated from bad but lucky investment professionals? Alas, this is a topic for another day.