Are you afraid of missing out?

16 Pages·2014·3.73 MB·English

Volume 9 | Issue 1 | Spring 2014
PERSPECTIVES
Are you afraid
of missing out?
Avoiding Behavioral Pitfalls
Making An Impact
Considering new ways to
achieve mission-investing goals
Investing in Oregon
Wayne Pierson reflects on his 30+
years at Meyer Memorial Trust
Raising the Bar
How tax strategies can help private
investors clear a higher hurdle
A Message from Sandy Urie
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THE INTERNET IS FILLED with thousands In this issue of C|A Perspectives, we explore
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E of websites. If you are like me, you have a a variety of topics that people are currently
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S select few that you visit regularly. The sites I most talking about in the market. To start, in “Just
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IV useful, interesting information that is both thought Managing Directors, David Thurston and Andy
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p include WBUR, Foreign Affairs, Bloomberg, and traps that long-term investors with diversified
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in the Financial Times, among others. portfolios fall into during market rallies like the
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one we have experienced in
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0 We recently redesigned
1 recent years. In “New Ways
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our public website with
to Make an Impact” (page 7),
this in mind. We want
Kyle Johnson, a leader in our
cambridgeassociates.com
Mission-Related Investing
to be one of the “go-to”
practice, explores how some
destinations for the industry,
clients have integrated impact
providing timely, interesting,
investing into their portfolios
and thought-provoking
and shares perspectives on how
content on a regular basis.
to think about impact investing
As leaders in the investment
within your overall portfolio
world for more than 40 years,
strategy. Meyer Memorial Trust,
we have a unique perspective
a leading foundation in mission-
on what’s new and evolving
related investing, is the focus
as we work together with
of our client profile (page 10).
our clients on their portfolios.
We speak with CFO and CIO
With a focus on uncovering
Wayne Pierson as he nears his
and researching new ideas that would best
retirement after more than 30 years at MMT. In
benefit our clients, we have always shared
this profile, we discuss his time with the Trust
our views and welcomed the opportunity
and what he believes have been its keys to
for discussion and debate. Our new website
success. Finally, in “Clearing a Higher Hurdle,”
gives us an improved distribution mechanism
Chris Houston, Director of Tax Strategy at C|A,
for getting our ideas and opinions to our
examines different considerations that private
clients and to the broader marketplace.
wealth investors might weigh when developing
a holistic tax-strategy approach to portfolio
Our new online presence will include regularly
management (page 14).
changing, timely content that focuses on
what’s happening in the investment world right
We hope you find our new public website
now. The homepage “slider” provides easily
informative, fresh, and thought provoking.
accessible highlights on a variety of topics
Visit it often to stay at the forefront of the
that impact investors. And you will hear from
ever-evolving global investment world with us.
different voices, both in our reports and in
videos designed to share our perspective.
We hope you visit frequently to see what is
new and that you will make our new website
one of your “go to” sites for innovative, ground- Sandra A. Urie
breaking insights from best-in-class investors. Chairman and CEO
Just Another “FOMO”
Market: Avoiding
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Behavioral Pitfalls ER
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AS DIVERSIFIED PORTFOLIOS underperform against S
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a rising equity market, investors often want to act. But i
COVER n
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behavioral traps like “FOMO” or “fear of missing out” can 2
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pose a larger threat to long-term portfolio returns than 4
systematic risk does. | By Ben Buttrick
Many investors have become increasingly Recent underperformance of institutional portfolios
frustrated with each passing quarter as they see is not nearly of the same magnitude as the late
their returns lagging a 70/30 benchmark of US 1990s tech bubble market. But with most of the
stocks and bonds. While absolute performance 2000s seeing diversification pay off handsomely,
for diversified portfolios since the market low of the reversal to a market where good process
2009 has been almost universally strong and doesn’t seem to matter has been particularly tough
positive, the magnitude of the difference between to swallow. It doesn’t help that many investors are
a diversified portfolio and simple benchmark has still striving to recoup the decimating losses they
been a source of concern and second-guessing. suffered during the 2008–09 financial crisis.
Sources: Barclays, Hedge Fund Research, Inc., MSCI Inc., and Standard & Poor’s. MSCI data provided “as is” without any express or implied warranties.
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Another key difference between the S&P’s out- While there are a number of traps that investors
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E performance today and 1999 is portfolios’ starting can fall into, Thurston warns about two in particular:
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S positioning. In 1999, endowments allocated an favoring the recent best-performing asset class and
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C average of 45% to US equities. Many institutions dismissing underperforming, undervalued assets.
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IV had as much as two-thirds in the asset class.
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p equities is just 20%, magnifying the pain of
r “Even within a diversified portfolio and disciplined
in missing out on the steep rise of the S&P.
g decision-making structure, the temptation to

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0 “All of this portfolio pain can cause investors to fall overweight the recent winners can be high,” says
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into some common behavioral traps,” says David Thurston. This can occur either by actively adding
Thurston, a Managing Director who has been with to the better-performing (and often higher-valued)
the firm for more than 35 years. “But falling into asset class or by consciously deciding against
these traps to ease short-term frustrations can rebalancing out of the stronger performer.
have negative consequences that linger for years
According to Thurston, chasing returns has
and cause more damage to the long-term portfolio
been most evident in venture capital. Since 2002,
than a short-term period of underperformance.”
annual capital invested into venture capital funds
has ranged from $20 billion to $32 billion annually.
However, 1999, 2000, and 2001 were outlier years
when $55 billion, $105 billion, and $41 billion,
respectively, flowed into venture capital. These
outsized flows into venture capital followed a
period when seasoned funds from earlier in the
1990s were generating thousands of basis points
of outperformance versus the Russell 2000® Index.
Not surprisingly, the median returns for venture
capital on funds that came to market over
1999–2001 have lagged the Russell 2000® by
over 700 bps through September 30, 2013.1
Those disappointing returns caused many to
question the viability of the asset class.
But Thurston suggests a different response.
“Thoughtful diversifiers added to venture capital in the
2004 to 2008 time period in both new venture funds
as well as household names. The truly contrarian
invested in much maligned early-stage technology
and biotech investing,” says Thurston. “Many of
these difficult, contrarian investments are being well
rewarded in the current market environment as a
very strong equity market for biotechs has created
nice exit opportunities for VC funds. The current
* Year-to-date number of IPOs is 30 through 3/31/2014. Chart represents annual run rate. year is at a record-setting pace for biotech IPOs.”
Source: Renaissance Capital.
1 Source: Cambridge Associates LLC. Based on data compiled from 321 US venture capital funds, including fully liquidated partnerships, formed between 1999 and 2001. Internal rates of
return are net of fees, expenses, and carried interest. Returns of VC funds based on IRRs and matched up against Russell 2000® returns from 12/31 of vintage year through 9/30/2013.
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Since broad diversification has only become
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ubiquitous in the past ten years, there is simply E
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not enough long-term contiguous asset allocation S
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data to make any definitive conclusions about the C
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long range outcome of chasing returns, or what IV
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behavioral investment scholars refer to as recency S

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bias. But the current US equity market presents p
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renewed “whipsaw” risk. There is no question that in
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the current advantage of a simple US-focused
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60/40 portfolio will end, Thurston says. It is simply 1
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a question of timing, particularly with bonds over-
valued and US equities now at valuation levels
seen only a handful of times before.
Losing Valuation Discipline
Source: Cambridge Associates LLC. Exhibit represents the top and bottom deciles of
endowment clients for which we have contiguous asset allocation and performance data.
In today’s market, which Thurston dubs a “FOMO The top 10% decrease includes 13 clients and top 10% increase includes 14 clients.
(fear of missing out)” market, investors can find it
difficult to adhere to a strict valuation discipline. hurt by overriding policy targets and bailing out of US
The pressure to “do something” can be especially equities during the crisis that they are now inclined
intense as stakeholders compare institutional to the same thing, just in the opposite direction.”
portfolio returns to retail and personal portfolios,
Arguably the asset class that is currently most
which are often more strongly weighted to US
undervalued is emerging markets equities. Since
stocks, and are bombarded with information by
the low of most markets in spring 2009, emerging
the 24-hour financial news cycle. But continued
markets equities have only captured about 61% of
discipline is vital. “A central tenet of our approach
the upside of the S&P 500 and have posted negative
is thoughtful diversification and a keen focus
returns in 2013 versus 30% returns for US stocks.
on value. Portfolio positioning among asset
“Despite the long-term valuation case and presence
classes requires careful consideration of price.
of interesting ideas within emerging markets, many
US equities are simply too richly valued and
clients are choosing not to rebalance back to target,”
at the wrong phase of the earnings cycle to
says Martin. “It’s easy to rationalize avoidance of
justify overweighting to policy,” says Thurston.
emerging markets on the grounds of near-term
Indeed, the negative impact of abandoning a sys- risks, a slowing China, conflict in the Ukraine,
tematic rebalancing strategy and valuation discipline or that undervaluation comes from very specific
can linger for years. A review of endowments for segments. These issues are real, but there is
which C|A has continuous asset allocation and considerable relative value.” Martin points out
returns data reveals that those institutions that had that emerging markets are diverse and shouldn’t be
the contrarian sensibility and discipline to most viewed through just a single lens. “Certain segments
boldly reduce US equity exposure in 1999 had within emerging markets equities are more interesting
dramatically higher returns over the long term, with than others and this dynamic makes a strong case
portfolios growing by nearly 20% more since 1999 for active management with the asset class. It can
than the portfolios that increased their exposure to take some fortitude, but for clients that can look past
equities. “It is ironic,” says Andy Martin, a Managing the next few years, odds are that rebalancing back to
Director, “that so soon after many investors were target or even overweighting will eventually pay off.”
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selection. The current market has been
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E challenging for tactical bets because overvalued
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IV markets have been lagging.
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Performance Attribution
2 course of action is some combination of revisiting
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4 asset allocation policies or reconsidering active
Before investors can make portfolio decisions,
management. But overall, the question of active
they have to have a clear understanding of per-
management is really just limited to the efficient
formance drivers. To that end, there are two key
global equities portion of the portfolio. Indeed,
benchmarks beyond the simple “70/30” point of
some degree of indexing can make sense for
reference. The first, and arguably most important,
many investors—particularly those with low tolerance
is the policy benchmark. This benchmark should
for straying from benchmark targets. But a real risk
reflect the long-term diversified strategic or “policy”
lies in choosing to shift strategies in a way that
allocation of the institution. Today, the policy bench-
results in buying or selling at the wrong time. The
marks of many endowments are lagging simple
temptation to abandon a valuation-based discipline
US-centric benchmarks over three and five years.
or re-evaluate diversified investment policies can
The second most helpful benchmark is a “custom” be most alluring in markets like today’s, but history
or “dynamic” benchmark. This measure is adjusted suggests that such a move would end badly.
to mirror the actual asset allocation weightings
Thurston points out that he has seen these cycles
on either a monthly or quarterly basis. When
play out many times during the three-plus decades
the dynamic benchmark outperforms the policy
he has spent at C|A. “The biggest hazard to building
benchmark, it suggests that on balance tactical
wealth is abandoning long-term valuation-based
over- and underweights are adding value.
investing to chase short-term performance. Timing
When actual performance exceeds the dynamic is never perfect, but a consistent discipline of making
benchmark, active managers are, on balance, uncomfortable contrarian moves and avoiding
adding value. A top-down view of C|A’s client chasing the latest trend should result in higher returns
universe shows that many investors are outper- and lower risk for the truly long-term investor.”
forming their policy benchmark. This suggests
Read more about the long-term success of
that value is being added through some
diversified investing in our research reports
combination of tactical positioning or manager The Endowment Model 2.0: A Success Story
That Endures and Why Did I Diversify?,
‘‘
available on our website.

The biggest hazard to building
wealth is abandoning long-term
valuation-based investing to
’’
chase short-term performance.
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In Addition to Traditional Methods of Grantmaking, Investors Consider Impact
Investing as Another Tool to Achieve Mission Objectives | By Jessica Matthews
MEYER MEMORIAL TRUST invests in Oregon. Why the growing interest in this area? Kyle
The Esmée Fairbairn Foundation aims to Johnson, a Managing Director at C|A and a leader
lead other investors by example. And many other in the firm’s Mission-Related Investment practice,
investors are exploring ways to maximize their explains that impact investments can achieve an
social objectives in addition to their financial ones. investor’s social return objective directly through
portfolio investments, while also generating a
Over the last decade, attention to impact investing,
financial return that aids spending. This is an
through which investors allocate capital to market-
attractive way for investors to further their mission
based (i.e., profit-oriented) solutions to social
in more than a financial capacity, Johnson says.
and environmental challenges, has grown. The
increasing availability of investment opportunities So what does impact investing actually look like?
that could be considered impact investments, How are investors allocating capital to these
combined with the proliferation of impact investing investments? Not surprisingly, specific investments
organizations like the Mission Investors Exchange, vary greatly, given the wide range of organizational
the Global Impact Investing Network, and the types, social and environmental return objectives,
UN Principles for Responsible Investing, has asset classes, and monetary return expectations,
contributed to a growing awareness and adoption Johnson says. But, a common thread among
of impact investing among investors worldwide. impact investors is the desire to focus on specific
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maximize its impact in the communities in
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E which it operates. As part of this initiative,
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p Kyle Johnson
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2 issues of interest to the organization such as models. EFF invested equity in the form of a
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14 supporting local communities or addressing partnership share, with the hope that it will
climate change concerns. catalyze additional investors and therefore grow
and scale Bridges’ impact. “We have been keen
In the United States, the Meyer Memorial Trust to explore options that involve breaking down the
has been a pioneer in impact and mission-related silo between investments and grants to make our
investing (MRI). Initially, the Trust’s primary MRI money work harder,” says Claire Brown, finance
focus was on adding market-rate mission-related and investment director at the Foundation.
investments to its existing portfolio, with some, “In this case, by investing capital in a new fund,
but not always perfect, mission alignment. At one EFF helped grow the opportunity set of social
point, the Trust invested in a mortgage-focused enterprises with investible business models that
community bond fund, which allocates a portion may also then attract larger scale investment
of its fund to communities in the Pacific Northwest. from more mainstream capital sources.”
More recently, the Trust carved out a portion
of its portfolio dedicated to mission-aligned, While impact investing offers great promise, the
Oregon-focused investments that take appropri- challenges are formidable, Johnson cautions. The
ate risk commensurate with both investment impact investment opportunity set for any given
and programmatic returns in mind. With a much social return objective is often narrow, and the
tighter mission focus, the social returns from the actual investments are frequently unproven, illiquid,
Oregon-focused investments compensate, at and require interdisciplinary talent to monitor.
least partly, for any possible reduction in return Ensuring that the pursuit of impact investing
potential. This gives the Trust more flexibility to actually helps an investor maximize its social
allocate capital to these targeted place-based mission is hardly straightforward, Johnson explains.
investments. “This dual approach has served
us well,” explains Doug Stamm, chief executive
So what is an investor to do?
officer of the Trust. “We have integrated market-
rate, mission-related investments throughout “What investors must always keep front and
our entire portfolio for years, and we continue center is that the impact investing opportunity
to add these types of investments when we find set is a tremendous variable—completely a
attractive opportunities. But supplementing these function of the investor’s social return objective,”
investments with more targeted, local investments Johnson advises. “There are several key
allows us to further the alignment between our questions that impact investors need to resolve
endowment and the core mission of the Trust.” throughout the entire investment management
process. That’s why we offer investors a
The Esmée Fairbairn Foundation (EFF), based framework for thinking about whether it makes
in the United Kingdom, is also recognized as sense to engage in impact investing and, if so,
an important first mover in impact investing. In how to go about doing so.”
2008, EFF launched a dedicated impact investing
sleeve of its endowment to make mission-focused As a first step, investors must understand the
investments that align with its grantmaking to nature of impact investments—what they are,
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why they might be attractive, and what their While there is no one “right” answer, Johnson
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intent, says Johnson. Impact investments do hard, predetermined target allocations to S
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not adhere to any particular asset class, and impact investments given the frequently narrow, E
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return objective. “An impact investment is one impact investment opportunity set. “Investors E
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chosen by an investor precisely because of its must make sure that any impact investments S
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ability to generate the particular social and/or are truly additive to the organization’s ability r
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environmental returns of interest to that investor,” to maximize the overall social returns it hopes ng

explains Johnson. to achieve,” Johnson says. “Attempting to set 2
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hard, top-down impact investment allocation 14
For this reason, impact investors should strive targets as a matter of policy could cause
to be as specific as possible in articulating their investors to sacrifice impact investment quality
impact investment social return objectives, while for the sake of quantity.”
at the same time taking a more opportunistic,
bottom-up approach to impact investment To read more about C|A’s impact investing
framework, read our research report
selection and allocation.
Impact Investing: A Framework for Decision
Making, available on our website.
“There are several key questions that investors should resolve as they set their financial
and social objectives for their portfolio”, Johnson says. A few questions to explore include:
Are the social returns generated by impact investments inter-
changeable with those that are generated through spending?
What is the optimal blend of spending and impact investing
that will help you maximize social returns?
Is your investment oversight team structured appropriately
to select and monitor impact investments?
Do you hope to provide “concessionary capital” (capital that
is willing to accept below-market rates of return) to spur
“non-concessionary capital” interest?
To what degree do the characteristics of the available impact invest-
ments overlap with the types of risk exposures your portfolio would
otherwise have if supporting spending were its sole purpose?
Will the impact investing portion of the portfolio be carved out
from the “non-impact” portion, or will impact investments be
integrated into the portfolio’s target risk exposures?
Will the focus be on direct investments or investments in
commingled funds or funds-of-funds?
CLIENT PROFILE: Meyer Memorial Trust
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S CFO AND CIO of Meyer Memorial Trust for more than 30 years,
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Wayne Pierson
But through the changes in the investment purpose foundation: we fund education, human
world, Wayne has steered a steady ship. Since services, health, arts, culture, conservation, and
its formation in 1982, the Trust has achieved environmental efforts. Some of our initiatives
top decile performance while aligning its port- include improving the quality of K–12 public
folio with its mission: to work with and invest in education, providing more access to affordable
organizations, communities, ideas, and efforts housing, and restoring the Willamette River
that contribute to a flourishing and equitable Basin, which is home to two thirds of the state’s
Oregon. population and 75% of its economic output.
As Wayne gets ready to retire from the Trust How do you divide responsibilities
in June to join his son-in-law’s investment man- among staff, yourself, and Trustees?
agement business, C|A Perspectives recently
We view investment work as a partnership
spoke to him to learn more about his time with
between the Trust, our advisors, and our invest-
the Trust and its primary keys to success.
ment managers. As the CIO, I report to the
Tell us about the CEO and to the Trustees. In our particular case,
Meyer Memorial Trust. the Trustees ultimately make the investment
decisions. Our Trustees are very dedicated and
The Meyer Memorial Trust was created in they spend a lot of time on Trust business.
1982 at the request of Fred Meyer, who was a
retailer in the Pacific Northwest. Our mission, We also hold an investment roundtable confer-
simply stated, is to serve the state of Oregon ence every 12 to 18 months. We invite all of our
and southwest Washington. We are a general managers, advisors, Trustees, and financial staff.