Founded in 2006, Australia’s A$117 billion
($93.4 billion) Future Fund is designed to bolster government
finances by offsetting future public-sector superannuation
liabilities from 2020. The fund takes a so-called total
portfolio approach, which encourages sector experts to share
their investment ideas, which often derive from broad-based
themes such as demographic shifts or changes in resource
availability.
Founded in 2006, Australia’s A$117 billion
($93.4 billion) Future Fund is designed to bolster government
finances by offsetting future public-sector superannuation
liabilities from 2020. The fund takes a so-called total
portfolio approach, which encourages sector experts to share
their investment ideas, which often derive from broad-based
themes such as demographic shifts or changes in resource
availability.
Sovereign Wealth Center’s Victoria Barbary
talked with CIO Raphael Arndt about what lies ahead for Future
Fund. This is the second two part interview. The transcript has
been edited for grammar, space and context.
How important is diversification to the Future Fund?
That’s an interesting question. We worry a lot
about diversification at the fund portfolio level and that is
quite important and we go to great lengths to ensure we have
it. The reason we have quite big exposures to hedge fund
strategies is to ensure that we want to diversify from equity
risk. However, we don’t think about
diversification within the equities portfolio or the hedge fund
portfolio or the property portfolio. So we’re
quite happy to have quite concentrated bets on investment ideas
at the sector level provided that they’re not
unduly concentrated at the overall fund level.
What’s your view on tactical asset
allocation?
We don’t follow the asset allocation approach
that’s typical in the industry and the best way I
can use to describe what we do is that we do strategic asset
allocation very frequently. So we don’t have a
concept of a tactical asset allocation away from a benchmark
— because we don’t use a benchmark. So we
don’t really have a concept of tilting.
What we do is we look at the world and the risks and the
range of scenarios that we see, and we look at the portfolio
and the exposures and the relative risk-adjusted price of
various assets and we decide what is the best portfolio to
construct today based on those themes and then in six months we
do it again. If the world changes materially within that
six-month period then we will do it whenever we need to do
it.
What are the advantages of this approach?
If one particular asset class is especially attractive you
have access to it. You’re not constrained by some
rules around how far you can depart from some benchmark. For
example in 2009 we saw that debt was incredibly attractively
priced given where the asset markets had got to after the
financial crisis, and we increased the debt exposure from
something quite low to 20 percent of the fund. And when the
value of debt securities got bid up to the point where we
thought that was no longer attractive we reduced the exposure
down to something around 10 percent of the fund.
Is moving such large positions a challenge?
Yes, its challenging to have conviction in your view, and of
course you can and will be wrong from time to time. To move the
physical asset portfolios you develop over time incurs quite
high friction costs from trading positions in and out, not just
in terms of buying the securities but also in terms of the
impact on institutional culture. If you’ve got a
big property team and they’ve bought some really
exciting shopping centre in the middle of some big town and
they think it’s a great asset then they
won’t want to sell it typically.
So that’s why we focus on having a small team
that’s connected to the whole portfolio and we use
managers because it becomes much easier to make those kinds of
decisions. If you manage things internally, it can become very
hard to sell assets.
You seem to have a close relationship with the team across
asset classes.
We have mugs that carry the moniker "one team, one
portfolio" and the investment committee is made up of all the
heads of all the sector teams plus the strategy guys, the
person responsible for overlays, the person responsible for
emerging markets, the managing director and myself.
We meet at least every two weeks, if not more often and talk
about every asset class, every sub-strategy within those asset
classes and the macro picture across the whole portfolio. And
then every six months we review every asset class in the
portfolio, every detail with the entire senior investment team,
which is a bit over 20 people sitting down to do
that.
This means that we can debate things sensibly. We can talk
about what might add value and where we see challenges and
opportunities for the portfolio.
Do you think you will be changing your large cash position
this year?
The way to think about the cash exposure is not to think
about it as a cash allocation, but to think about it in the
context of the overall portfolio. So we have quite risky sector
portfolios, so to some extent holding cash against those
balances the risk at the portfolio level. So we certainly
don’t feel under-risked, the portfolio is exactly
where we would like it right now. It would be roughly neutral,
it’s not low- or high-risk.But the exposures that
we’re actually holding are higher risk within
their sectors.
The second thing is that we’re expecting quite
a lot of volatility and being nimble is important. So
we’ve decided to implement a bit of our exposure
through futures and options and so some of the cash is held
against those types of strategies.
Thirdly we are concerned that we plan for potential events
that could be demanding on fund liquidity, and when your home
currency is Australian dollars, which is quite a volatile
currency, you need to have plans for that. Typically the
Australian dollar is correlated with risk, so when
we’re at a point where we want to buy assets
we’ll have some liquidity drain on the fund, so
we’ll have some currency hedges, so we want to
make sure that we’re in a position to buy assets
when they’re available, so all those things come
together.
Are you making preparations to protect the portfolio?
One of the things we’re thinking quite a lot
about at the moment is protecting the downside and buying the
upside through various options strategies. So
we’ve been doing quite a bit of that because we
think that at this point in the cycle it makes much more sense
than putting on more traditional risk exposure.
What are your thoughts on securities’
lending?
We don’t do securities’ lending,
although we’ve looked at it a couple of times. We
think of ourselves as a universal owner of assets and lending
your securities to someone who’s going to short
them and push the price down doesn’t seem to make
a whole lot of sense to us. So we haven’t done
that.
Are you engaged in any collateral management or collateral
transformation efforts?
In terms of collateral management, we do have quite an
extensive collateral program because of the various overlays
that we run, but we haven’t tried to get too cute
with how we manage that. That’s something that
needs to perform in extreme market events so it
doesn’t make sense to get too cute with
it.
What role does corporate governance play in your investment
decisions?
We always think of ourselves as a long-term investor
focusing on the big picture and improving the long-term value
of the assets that we buy. Campaigning for corporate governance
improvements is part of the role we play. This is something
we’ve done since the inception of the equities
program and that we’ve chosen to resource
internally because we think it’s
important.
We believe we have a role to play and that our peer funds
have a role to play in improving the market for everyone,
whether that’s corporate governance in listed or
unlisted companies or structuring the arrangement of fees and
terms with managers or whether it’s increasing
transparency in how we go about doing things.
Thanks for taking the time to talk to us, Raphael.
It’s been a pleasure.