This article originally appeared here in Institutional Investor on April 24, 2020
Allocators will eventually allocate — but don’t get your hopes up, asset managers.
April 24, 2020
In The Checklist Manifesto, Atul Gawande describes why well-designed checklists improve outcomes. Doctors, pilots, investment managers, and allocators all employ checklists to hone their daily craft. When a crisis emerges, checklists prove particularly helpful for calibrating the environment, prioritizing time, and ensuring proper precaution.
The unprecedented health pandemic and the ensuing stay-at-home work created a shake-up in capital markets unlike anything I’ve seen before in my career. I’ve engaged in conversations with CIOs to figure out how to act in such a disorienting time. These CIOs are all following a similar playbook — a checklist, really — to move forward.
First, CIOs have adapted to a new work configuration. Online communication is the norm for at least a while across internal teams, investment committees, and managers. Unlike many industries, however, investment offices typically comprise small teams that travel frequently. Some remote communication is a normal part of business, and full online communication is only a small step away from that norm.
Once the internal teams are squared away, CIOs turn to their liquidity status. Most are accustomed to assessing liquidity on the asset side of their balance sheets, but few have previously considered the impact of rapidly rising liabilities. Will schools enroll students in the fall, and if not, what might that mean for university revenues? With travel curtailed, what will a foundation’s grant recipients require to continue research? As hospitals address Covid-19, how will the falloff of high-margin voluntary procedures impact revenues and margins this year and next? How will the sudden lack of revenues change the funding picture for corporate pensions? How should superannuation funds balance the future retirement needs and current dire economic hardship of its members? The potential shock to revenues creates a new variable that CIOs must consider before deploying capital in opportunities presented by markets.
CIOs must gather a flood of information from their managers to process what’s happening, calculate performance, and assess risk. They read voraciously and call select managers and strategists to get a sense of what problems may lie ahead and what opportunities may present in their portfolios. These conversations will inform and confirm expectations. Some will raise alarm bells, whereas others will suggest a whiff of opportunity. Putting pen to paper, CIOs calibrate risks and expectations according to key moments in big market swings. Those with proper systems can roll up individual results and get a firm grasp on what has transpired; those without modern technology will be a few steps behind.
When the time for action is at hand, allocators turn to their existing manager rosters. Absent a change in the investment thesis with a given manager, an allocator may rebalance by adding on weakness and trimming from strength. The most meaningful allocations will go toward previously closed managers or managers with expertise in a particularly attractive area of the markets.
All of these steps look like “shelter in place” to anyone outside of the pre-existing portfolio. Almost none of the whirlwind of activity translates to significant action. The standard employed by CIOs at this time is “Don’t just do something, sit there.”
Only after the dust settles will allocators begin to focus on new opportunities. As Sandra Robertson, the CEO and CIO of Oxford University Endowment Management, noted in a recent Capital Allocators podcast, “It’s too late to sell and too early to buy.”
When allocators are ready to turn to new relationships, they will start with a prepared checklist of managers they have been watching. The list will inevitably include previously closed private equity or venture capital funds, favored private credit managers, and public equity managers they have been learning about for years. In most cases, well-prepared CIOs have a shopping list ready to go when assets go on sale.
Last, allocators look for tactical opportunities that appear attractive when market volatility subsides. In the current crisis, CIOs are eyeing distressed debt should a wave of bankruptcies ensue, private credit should spreads stay wide, travel and leisure sectors across asset classes, and a big potential opportunity in real estate once new ways of living and working are established.
Allocators never envisioned creating a checklist to manage through a pandemic, yet the sequence of events of setting internal functioning, gathering information, assessing liquidity and risk, and monitoring and mining existing portfolios is already in process. The last steps on the list — reaching out to their wish lists and engaging in new relationships — are both on the come.
In these challenging times it proves helpful for everyone to be on the same page. Managers need to understand and respect the priorities of allocators. Allocators need to respect their managers’ time while also gaining access to critical information to make decisions. Understanding how CIOs are spending their time can help everyone work efficiently.
Hang in there. We’ll all get through this — one tick on the checklist at a time.