Multi Asset Endowment Investment Strategy
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Transcript of Multi Asset Endowment Investment Strategy
The Farhampton Endowment,
University of New York
Taposh Dutta Roy & Team
About Us
• We manage $200MM endowment fund for University of New York in Farhampton
• Mission: to generate significant financial resources for research and developing new programs
• Spending policy to our beneficiaries is 4.25%
• Annual gift inflows: Approximately 1% on average
• Investments through alumnus and other investment professionals
Team StructurePortfolio Manager
Asset Portfolio Role of Asset Class
ShrinathDevarajan
Private Equity High return potential, Long term growth
Nate Hinton Equities High return potential, Long term growth
Mohi Pillai Hedge Funds Strong risk-adjusted returns, “Absolute” Returns / Downside Protection, Diversification
Tabitha Lay
Cash Liquidity, Risk reduction
Bonds Risk Reduction, Diversification, Deflation hedge.
Taposh Dutta Roy
Commodities Diversification, Inflation hedge, Global growth bet
Gaurav SethiReal Estate(REITs)
Income, Total Return
Investment Philosophy and
Objectives• Risk budget: 60% of the long-term annualized
volatility of stocks or < 10%.
• Returns: 7% Spending policy (4.5%) + projected average inflation
over next 5 years (2.5%)
• Outperform our peer group, the 2013 NACUBO-COMMONFUND Study of Endowments $101-$500MM Asset Allocation - 46% stocks, 15% bonds, 8% private
equity, 19% hedge funds, 4% commodities, 3% real estate, and 5% cash.
Investment Philosophy and
Objectives
• Superior risk-adjusted return versus our
peer group and in-line with our benchmark
• Framework: mean-variance analysis to
estimate expected risk and return profiles.
• Test the sensitivity of results to changes in
input assumptions.
Limitations
• Our endowment size can limit access to
managers who require large investment
minimums that we cannot meet.
• Limited human resources and time.
• Individual security selection is not our
strength
Addressing Limitations
Use our strengths: macro, multi-asset
portfolio management
Hire new managers
Invest in indexes to gain specific portfolio
exposures rather than managing the portfolio
ourselves bottom up.
Use alumni and connections
Invest in Private Equity and Hedge Funds
that have smaller minimum investments
Market Outlook
Economic Outlook
More Volatility
• Potential Catalysts
for Higher Volatility
– End of QE – liquidity
coming out of the
markets
– Upcoming Elections
– China Recession
and/or credit crisis
driven by real estate
bubble
– Declining profits
Credit Cycle Outlook
Asset Class Analysis
Bonds and Cash
• Cash: Expected Return: 1.5% , Standard Deviation: 0.7%
– Overweight
• Bonds: Expected Return: 0%, Standard Deviation: 3.5%
– Late Cycle, Underweight
• Interest rate movement & economic or geopolitical shocks
• Potential beginning of a bear market in bonds
Barclays Aggregate Bond Index Duration 5.2 years
As of 5/30/2014
30day
SEC Yield 2 %
6/2014 -
6/2015
6/2015-
6/2016
6/2016-
6/2017
6/2017-
6/2018
6/2018-
6/2019
Expected Fed Funds Rate Increase 0 0.5 0.75 1 1
Total Return
Contribution
Income 2.00% 2.50% 3.25% 4.25% 5.25% 3.45%
Return from Duration 0.00% -2.60% -3.90% -5.20% -5.20% -3.38%
Return from Supply/Demand 2.00% 2.00% 1.00% -2.40% -3.00% -0.08%
Total 4.00% 1.90% 0.35% -3.35% -2.95%
Expected Return 0%
Standard Deviation 3.15%
Stocks
• Stocks: Expected Return: 7.25% , Standard Deviation: 18%
– Mid, approaching Late Cycle, Neutral
– Lower expected returns vs. history, higher volatility
• Expected Return Stocks = Projected Equity Risk Premium + Expected Return Bonds + Expected Return of Cash
– = 5.75% + 0% + 1.5% = 7.25%
• Standard Deviation = S&P 500 20yr Ann. Volatility (ending 1Q 2014) + Add’l Risk Factor
– = 16.9% + 1.1% = 18%
Hedge Funds
• Hedge Funds: Expected Return: 8.1% , Standard Deviation: 8.5%– Mid Cycle, Overweight
– Strong expected risk adjusted returns vs. other asset classes in volatile environments
• more investment tools to be able to generate strong alpha vs. the market, using leverage, long/short capabilities, and derivatives
• Standard Deviation = HFRI Composite Index 20yr Ann. Volatility = 8.5%
• We project hedge funds will have similar volatility to 20 year average
HFRI Fund Weighted Composite Risk Free Rate 3.5 5 yr projected avg
As of 5/30/2014 Beta 0.65
[E]x = Risk free rate + Beta (Rm-Rf) + Alpha Equity Risk Premium 5.75
Alpha Assumption 3.1
Expected Return 8.1
Private Equity
• Private Equity: Expected Return: 10.25% , Standard Deviation: 23%– Mid to Late Cycle, Neutral
– Valuations getting richer in certain sectors, increasing LBO deals and rising debt levels
– Still opportunity in healthcare and energy sectors, internationally
• Illiquidity premium: 3.5%, adjusted returns -0.5% for “pooled average” returns
• Standard Deviation = Projected StdDev of Stocks + Illiquidity Premium + Add’l Adjustments (higher than average expected market volatility)
– = 18% + 3.5% + 2.5% = 23%
Cambridge Associates Pooled Average Stocks Expected Return 7.25
As of 5/30/2014 Iliquidity Premium 3.5
[E]x = Stock Return + Illiquidity Premium + Adjustments Adjustments -0.5 Pooled average
Expected Return 10.25
Real Estate (REITs)
• Real Estate: Expected Return: 10.5% , Standard Deviation: 20%
– Mid Cycle, Neutral/Slight overweight
– Valuations a bit rich in REITs, sensitive to interest rates
– Strong real estate demand – can potentially slow, need for income, inflation
– Fannie and Freddie Implications
• Expected Return = FTSE NREIT US REIT Index Ann. Return Last 5 yrs (Q2 2009 – Q1 2014) – Adjustments for slower growth
– = 17.1% - 6.6% = 10.5%
• Standard Deviation = FTSE NREIT US REIT Index 20yr Ann. Volatility = 20%
Commodities
• Commodities: Expected Return: 2% , Standard Deviation: 18%
– Mid Cycle, Neutral
– Relative valuation cheaper than other asset classes
– Worried about slowdown in emerging markets – affects demand
– Uncertainty about Inflation and global demand = higher volatility
• Expected Return = Expected Cash Return + Commodity Risk Premium
– = 1.5% + 0.5% = 2%
• Standard Deviation = DJ Spot Return Index 20yr Ann. Volatility (ending 1Q 2014) + Adjustments
– = 16.7% + 3.3% = 18%
Our Portfolio Recommendations
“The most stable and profitable portfolio that
can weather uncertain market situations.”
Portfolio Allocations
Commodities7%
Hedge Funds 28%
Stocks20%
Cash15%
Bonds10%
PE10%
Real Estate10%
Our Decision Making Strategy
WEATHER MARKET CHANGES
HIGH SHARPE RATIO
LOWSTANDARD DEV
LOW FEES
Decision Making Process
Risk Return History & Forecast
Portfolio Candidates
16% 20%
Risk Return History & Forecast contd.
Current Portfolio.
Historical Return & Volatility
Final Selection
Scenario & Stress Testing
FRONTIER MARKETSStrategic Investment Opportunity
Investment Problem:
Growth is slowing down around
the world and correlations
between asset classes have
increased.
Where else can we find growth
AND diversification, that’s
liquid?
“True Emerging Markets of Today”
• Frontier Country classification determined by:
– Economic development –Current status and the sustainability of economic development in each country
– Market size and liquidity –Aggregate size of the equity market and minimum investability requirements for each security
– Accessibility to offshore investors – International investors’ ability to invest in each market
Why Frontier Markets:
Diversification• Source assets from
Stocks – both EM and Developed
• Frontier countries have low correlations to each other and other asset classes– 0.59 correlation to S&P
500 vs. Emerging Markets 0.89 vs. S&P 500
• Risks: Heightened idiosyncratic and country specific risks
Why Frontier Markets: Growth
• Higher Growth: – Long-term growth opportunity – China 20 years ago
– Frontier Markets is forecasted to be among the world’s fastest growing economies
– The region represents 30% of global population
– Unlike the developed markets, many of them are young and could be consumers of the future
Thank You
Expected Returns and Standard
Deviations
Cash 1.5% 0.7% n/a Overweight
Bonds 0.00% 3.2% Late Underweight
Hedge Funds 8.1% 8.5% Mid Overweight
Real Estate (REITs) 10.5% 20% Mid Overweight
Stocks 7.25% 18% Mid to Late Neutral
Commodities 2.00% 18% Mid Neutral
Private Equity 10.25% 23% Mid - Late Neutral
View
Long Term Risk and
Return Assumptions
Expected
Return
Annual
St. Dev. Stage of
Cycle