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In May of 2009,
Cliff Asness, the former Goldman Sachs quant-guru and Founder of AQR Capital
Management, flew to Juneau, Alaska. The following May, it was Bridgewater
Associates Chief Investment Officer Robert Prince who made the trip, along with
PIMCO's Mohamed El-Erian. A few months after that, it was Asness again, back in
Juneau with his AQR team.
brought some of the biggest names in investing this far north? A fashionable
hunting reserve for the rich and famous? Salmon fishing under the Midnight Sun?
A fundraiser for one of the state's prominent politicians? Actually, it was a
much more important feature of state politics than Sarah Palin or Lisa
Murkowski: the annual dividend checks given to every Alaska resident and, more
specifically, board meetings of the Alaska Permanent Fund (APF), charged with
investing a portion of the state's oil and gas proceeds and distributing the
profits every year via those checks.
honchos and asset management mavens flying around the world to meet investors
isn't unheard of but, in the case of the APF, these high financiers are doing
more than recruiting investment dollars or paying a friendly visit to a big
client. Along with GMO and Goldman Sachs Asset Management, PIMCO, AQR, and
Bridgewater all serve as “external CIOs” to the fund, a new program started by
Chief Investment Officer Jeff Scott over the last two years. Of course, the
external CIOs manage assets, but their role also includes educating the APF and
its board of trustees about why they're investing that way. This includes
giving lengthy presentations on everything from big-picture economics to the
esoterica of risk management; lending their impressive research departments to
the APF when they've got a theory to test; or just serving as an external
sounding board and informal think tank. It’s the price these funds pay for
accessing the cash of America’s largest state.
“The key thing
when it came to picking external CIOs wasn't just their past returns,” says
Scott. “We wanted people who really were committed to working with us: who
would fly up to Alaska for board meetings, really answer our questions, get
into conversations about what they see happening in the market.”
with just one major innovation, in his two years on the job, Scott also has
pushed for a new way of valuing risk and thinking about the fund's portfolio.
The idea is to focus less on the rigid categories of asset allocation, and look
more deeply at the kinds of risk factors—corporate exposure, counterparty risk,
currency fluctuations, inflation and deflation—that so often cut across asset
classes indiscriminately. Like Jesus said about the poor, unstable oil prices
and variable investment results will always be with us. Yet, Scott hopes this
new way of looking at risk might moderate the ups, and particularly the downs
that roil the oil and stock markets.
This new way of
looking at risk may seem isolated and distinct from the external CIO program,
but Scott says that overhauling the fund's approach to risk—or any major
project like it—wouldn't work nearly as well without the input and education
the external CIOs offer. A new idea is only as good as its implementation and,
to put his plans into place, Scott needs to educate not only his board of
trustees, but also the state legislature and public.
change is seen as risky,” says Prince. “The irony is that [Jeff's] going to a
less risky, more diversified portfolio, but we have to get across the message
that the portfolio we have now is risky, the change isn't risky. That's the
challenge in communication.” The ability to communicate with the board of
trustees, says Scott, has been the key to getting everyone at the Permanent
Fund thinking more deeply about risk. “It's amazing the communication we're
getting now because of the education [from the external CIOs],” Scott says.
“The board members are able to look at things and ask good questions and really
From attacks on
the orthodoxies of portfolio theory and
strategies, to tail-risk hedges, to the
scrapping of old risk metrics and the development of new ones, risk management
has been the topic in
post-crisis institutional investment. However, Jeff Scott and the APF are
changing more than just their tactics for dealing with risk. They are
fundamentally changing the way they think about it and, perhaps more importantly, the external CIO program has
helped create a space for the fund's board to study, understand, and help
implement these changes, instead of just entrusting their new CIO to create
some risk-management black box that's beyond their comprehension. It's a
dual-reform well worth studying for anyone looking to change their approach to
risk, or get more from their money managers in return for those hefty fees.
It’s also an idea whose seeds were planted well before Jeff Scott ever got to