Founded in 2006, Australia's A$117 billion ($93.4 billion)
Future Fund is designed both to bolster government finances by
offsetting future public-sector superannuation liabilities from
2020. It was funded by budget surpluses and the proceeds from
the privatization of Telstra, a formerly government-owned
Sovereign Wealth Center's Victoria Barbary talked with CIO
Raphael Arndt about what lies ahead for Future Fund. This is
the first of a two part interview. The transcript has been
edited for grammar space and context.
What are the Future Fund's challenges in 2015?
Assets are increasingly expensive and in places overpriced,
because of the sustained impact of the policy of various
central banks around the world. And that means that yields are
very low by historical standards and it also means that there's
a great risk, I think, of quite significant volatility from a
shock event. You can identify the problem, but its harder to
Do you think this is going to continue?
Major economic blocs are starting to diverge as they wade their
way through the cycle. So we've got the U.S. starting to
grapple with a normalization of monetary policy and the speed
of that and I think its clear enough that the economy is
recovering, although its fairly lacklustre and slow compared to
most recoveries from recessions and we're well progressed in
that now. But then if you look at the euro zone, which is just
beginning to impose its quantitative easing and there's still a
significant deleveraging cycle that has to occur there and
there is continued policy risk.
What about your outlook for Asia?
If you look at Japan, they're continuing to struggle with the
deflationary forces that they've suffered with for decades now,
and there's some quite interesting policy activity underway to
try to change that, but we've yet to see the results of that to
any significant extent. We have China clearly slowing and some
of the traditional stimulus mechanisms, particularly on the
fiscal side, being less effective than they have in the past.
So there's quite a range of issues to grapple with.
Does this divergence create opportunities?
It does. It's not as simple as saying I like this geographical
exposure over that one. There's still a great deal risk.
There're no assets that are cheap anywhere. There are two
things at our portfolio level. One is that we worry about
intertemporal risk decisions. If we think risk is being well
rewarded we think we should have more of it, and if risk is
being less well rewarded then we should have less of it. So we
have been reducing the risk exposure in the fund and building
the cash exposure or other liquid asset exposure. So as risk is
not being rewarded we've decided not to stretch too far into a
zone where it might not be sensible to go at this point in the
Are there any pockets of opportunities?
There are still some niches that are being reasonably well
rewarded, we think. And they tend to be things up the risk
curve, so in almost all the asset classes we've got a somewhat
risky portfolio now. So in the portfolio we have no sovereign
bonds or investment-grade debt, but we have quite a lot of
private debt and structured credit.
What about real estate and other asset classes?
In infrastructure and property we've been reducing our exposure
to core and looking to buy more higher-activity type strategies
where you have to develop something or create something to turn
into a low-risk asset that fits the â€˜core
asset' characteristics attractive to other investors and then
sell it. It may be development risk, or it maybe something
that's harder to define, so it may be something that falls in
the crack between infrastructure and property or between
private equity and infrastructure or private equity and
equities. We don't mind. We've got quite a small team that can
get together and debate opportunities across asset class
boundaries and assess an opportunity on its merits.
Have you got the flexibility to take advantage of these
Yes. Our mandate from the government is an absolute return
mandate over long time periods. So there's no concept of
relative return, so that gives us quite a high degree of
flexibility in the portfolio construction.
What are you finding your external managers most useful
for at the moment?
We use managers for everything, but our approach is what I
would describe as hybrid. So we would be a very informed LP
and we use managers typically as an extension of our internal
teams. So we don't make multiple bets into a number of core
products and in effect get the beta of the sector. That would
be a bad thing to do particularly when you think that the
risk may not be that well rewarded.
But we do have a large number of separate account mandates
with managers in which we target specific measures, and that
includes where we may retain vetoes over individual decisions
particularly in things like debt, or where we do quite a
considerable amount of co-investing alongside private
markets' managers. We're doing that now in everything from
property right through to venture capital.
Have you been looking at smart beta or multi-asset
Smart beta's just one way of talking about a quant manager.
It's not necessarily a new concept. It's more efficient now
and there are more options now. But in terms of equities
picking a different subset of equities doesn't get away from
any broad concerns you might have about the overall pricing
of equities in general. Style tilts within equities such as
momentum is actually something we've been doing since we
began the equities program, so its nothing new. One thing
that's been interesting is that the rally that's occurred
across risk assets has been driven by a compression in risk
premia primarily due to base policy rates. That means that
lower quality and small-cap stocks have risen in some cases
even faster than higher quality and larger positions and our
experience is that active managers have struggled to
outperform to the extent that they justify their fees in the
last few years.
Now that might not continue if the cycle changes, but I
think that looking at new ways of being able to implement new
ideas more efficiently is something that we are interested in
and have done some work around. We do believe in active
management, but we do think that it's important that the
managers justify their fee structures and are accountable to
the value that they actually bring after fees.
Can you tell us about how you go about selecting
We have close relationships with our managers. We have
quite a concentrated portfolio â€" we don't have a
large number of managers. Our starting point is to assume
that we take a passive exposure and move to active only if we
believe a manager can add value net of fees. That may not be
outperformance, it might be lower risk or a different set of
exposures to the broad beta, but we do have quite detailed
discussions with those managers and we do seek to take
techniques and insights from those managers back into the
program and share them widely across the team.
For example, some of the work we've been doing recently
has been drawing some of the insights from our equities,
debt, property, infrastructure and private equity managers
working in emerging markets together. Are there consistent
views coming out across sectors and what can we learn from
that? Or are they divergent and what does that tell us and
how does that inform our investing more generally?