To view this article in digital magazine format, click here.
This is a client service business—a people business,” says Peter Corippo, former CIO of Pacific Gas and Electric Company and senior strategist for Russell Investments’ outsourcing business.
Outsourced CIO (OCIO) providers are taking on increasingly strong fiduciary roles, helping investment teams with the responsibilities typically tasked to in-house CIOs. As an extension of the investment office, OCIOs need to offer personalized and highly specific service to their clients. It’s about understanding not only their rates of return, but also funding requirements, volatility concerns, and liquidity needs.
Corippo is right: This business is all about the client.
And CIOs are increasingly turning to these outsiders for customized help. Nearly half (44%) of the 229 asset owners polled in aiCIO’s February Outsourced Chief Investment Officer survey said they currently outsource or plan to do so in the next 24 months. These numbers are growing, luring more consultants and managers into the business. “It’s constantly evolving,” says John Griswold, executive director of the Commonfund Institute. “This is an area that’s rapidly growing, almost unrecognizable from where it was, say, 10 years ago.”
So why are asset owners running into the arms of OCIOs? The complexity of today’s portfolios is one reason, according to Corippo. “The days of everybody having the same answer to what their asset allocation should look like are gone,” he says. Asset owners are constantly facing new challenges regarding asset allocation, portfolio construction, and risk management. If CIOs had simply recruited consultants for help in manager selection before, they’re now seeing a growing need for focused expertise beyond their in-house staff.
As institutional investing becomes more challenging, internal teams must step up their game just to keep pace. But that’s not always a feasible option. “When you have lots of investing to do with a relatively constrained amount of resources, you need to prioritize,” Corippo says. “CIOs may have to pass on some of the more complex and exotic opportunities simply because they don’t have the resources to pursue them. Providing some level of delegated authority to someone with expertise is a way of having a happy coexistence between an internal staff and an external provider.”
Jeff Berger, vice president of finance and treasurer at New Jersey-based Sun Chemical, told aiCIO in February that he’s one of many CIOs facing a similar predicament. “Managing the pension is technically a part-time job for me,” Berger explains. Sun Chemical may be a plan sponsor, but it’s a manufacturing company first and foremost. “We produce specialty chemicals. There is not a lot of the internal expertise or resources for pension management. I am by no means a one-man shop, but there are not many people focused on the investments side of things within the company. So for us, outsourcing and de-risking was the way to go.” Berger and his team have JP Morgan Asset Management’s global multi-asset group to manage its $320 million American defined benefit pension plan.
This line of reasoning particularly resonates with organizations managing small pools of assets with even smaller teams, according to the OCIO survey. Asset owners who outsource had an average of 4.7 investment staffers, compared to 6.6 for those who don’t. It also showed that corporate pensions are more likely to hire a third-party fiduciary manager than public pensions, whose average team of eight was more than double the size of their private-sector counterparts’ personnel (3.7).
As opportunities have grown for OCIOs, so too has the cutthroat and hyper-competitive provider market. “There must be more than 100 firms now providing OCIO services,” says Commonfund’s Griswold. “Practically all of the big banks and consulting firms offer outsourcing.” With so many providers to choose from, asset owners can and should play Goldilocks to find just the right OCIO.
“It’s all about the right fit,” says Heather Myers, managing director of nonprofits at Russell. OCIOs must now present highly personalized programs that mold to the particular needs of each client—or be swallowed up by other providers with more bespoke strategies.
This customize-or-die quality is all-inclusive: Clients not only seek individuals and firms they feel compatible with, but they also request highly specialized reporting and portfolio analysis. Colette Taylor, COO of Russell’s institutional business in the Americas, says this is a game changer in operations and technologies for OCIOs. “Sponsors are no longer looking for a standard report with rates of return and attributions,” she explains. “They’re looking for reports that address their specific funded status and volatility concerns. Clients are asking for, even demanding, transparency and access.”
Using a host of reporting and analysis software along with high-level metrics, certain OCIOs send daily missives to their clients. These updates highlight both the firm’s capabilities and the goals it shares with clients: managing exposures and risks in real time, optimizing portfolio construction, and maximizing performance. “We are now moving into a daily world,” Taylor continues. “Clients want to know that their OCIO is watching their plans on a daily basis. They want access on their fingertips.”
The search and selection process for OCIOs is much like dating in search of “The One”. Asset owners flirt with various suitors who respond to requests for proposals, and those who pass that first round are given a chance to strut their stuff in a presentation to investment committees. Establishing credibility with the decision-makers is key, according to Corippo. “Investment committees look for people they can work with—individuals with similar styles of decision-making and problem-solving. Clients want an OCIO with the ability to collaborate with them specifically.” In other words, chemistry.
Taylor says she usually receives many questions about Russell’s own governance during the selection process. “They want to understand how we govern, monitor, and view ourselves—that is part of how they build trust. They want to make sure there’s a match there.” Communication strategies are also taken into account. Myers says part of the OCIO’s job as co-fiduciary is to institute a strong level of trust and connection with the investment committee. “OCIOs need the ability to connect with them and inform them of their strategies, exposures, risks—all without being heavy-handed,” she says. As an investing partner, outsourcing providers should be able to guide investment committees to make the right decisions for their portfolios and governances despite potentially conflicting views.
Once an asset owner finds an appealing match in a provider, then comes “the talk.” But perhaps unlike the dating world, the endgame of successful OCIO relationships isn’t necessarily all-in, monogamous commitment. “Outsourcing doesn’t come in just black and white,” Corippo says. “There are shades of gray.”
The degree of discretion issue is central to deciding what role an OCIO could play in an organization and what its responsibilities would entail. “Full outsourcing models involve much policy development, discussions about portfolio construction, and meeting the risk and return parameters of the portfolio,” Griswold explains. “In some cases, they will require more commitment from the investment committee since they have to step back from the day-to-day operations and allow outsourcing firms to direct them on what their roles should be.”
Some asset owners choose to only partially outsource, allowing OCIOs to practice discretion with only certain asset classes. Alternatives are a common choice, according to Griswold, as the research and due diligence process tends to be labor-intensive. “They’re trickier,” he says, “especially as there is more risk involved.”
Regardless of the scope of outsourcing investment committees settle on, OCIOs face the dual mandate of service and investment performance. It’s a buyers market for OCIO services. Dynamic portfolio management is not enough to win over CIOs anymore—they want someone who can bring success and hold hands. Third-party providers need to coordinate with committees, ensure the fund performs well, select the appropriate strategy, and implement the right mix of risk and return. As Griswold predicts, “The winners in this business will be those who excel at both performance and client service.”