Cbus Super is preparing to quadruple the size of its portfolio optimisation program over the next 12 months, following the appointment of Justin Pascoe.
In August, Cbus Super announced it had appointed Justin Pascoe to the newly created role of Head of Portfolio Construction, reporting to the fund’s Chief Investment Officer (CIO), Brett Chatfield. Pascoe is an industry leader, and was most recently the Head of Equities at AustralianSuper, and prior to that was the CIO of VFMC for more than eight years.
As Head of Portfolio Construction, Pascoe is focused on the management of the overall portfolio, combining strategic asset allocation, dynamic tilts, and the management of under and overweights resulting from unlisted asset class deviations.
He is also heavily involved in overall oversight of the various asset classes, and sits on the fund’s equity portfolio construction committee. He is responsible for the Portfolio Construction and Execution division, which covers strategic asset allocation, dynamic asset allocation, management of the various investment options and the capital markets and execution function.
This latter area also includes a relatively young program that looks at optimising the portfolio through the more efficient use of capital, and securities lending. Pascoe is now tasked with expanding this program from the current $250 million to $1 billion over the next 12 months.
“Part of Justin’s remit is our Capital Markets and Execution team,” Chatfield says in an interview with [i3] Insights.
They're continuing to do more in-house, in terms of offshore trading and transition management, but they also run a portfolio optimisation strategy. We really want to scale that up and make it have a much more meaningful impact on the overall portfolio – Brett Chatfield, Cbus
“They’re continuing to do more in-house, in terms of offshore trading and transition management, but they also run a portfolio optimisation strategy. We really want to scale that up and make it have a much more meaningful impact on the overall portfolio,” Chatfield says.
“It’s obviously a growth-orientated strategy; it targets 10 per cent per annum returns. But it’s been reasonably uncorrelated with traditional asset markets, and that’s the beauty of it.
“It’s about $250 million at the moment. We’re looking for that to clearly be significantly larger than that over time, let’s say a billion dollars. Certainly over the next 12 months, we expect to get material scale,” he says
The optimisation program started in 2019 with just a few small trades as the fund was building the infrastructure and expanding its resources, as well as exploring what trades would align with the fund’s risk profile. But as it now has reached a stage where the appropriate processes and systems are in place, Chatfield thinks it is time to scale up the program.
“The early years were really about building up the mandate, expanding what we did within securities lending and then bridging that into the broader portfolio optimisation strategy. The resourcing is in place and the independent risk function is in place,” he says.
Building Scale
Pascoe joined the fund only three months ago but is pleased with what the investment team has put in place and he is now looking to expand the number of trades across the portfolio.
“The capability is there but as with all of these things, it’s about maximising the benefits of it and the way you do that is by scaling it up. So instead of doing one or two portfolio optimisation transactions a month, it’s going to be doing 10 a month so that’s about building organisational muscle, not just in the front end but it’s all the way through [the organisation],” he says in an interview with [i3] Insights.
“I think about it in the same way as a bank; it’s about a return-on-capital perspective. And so the portfolio optimisation program is pledging capital to a number of these investments where that’s appropriate, acknowledging the risks that are involved,” he says.
Most large superannuation funds engage in securities lending, because as long-term investors they are a reliable and stable source of securities. But not every fund has the infrastructure in place to share the revenue derived with the asset classes from which the securites are being lent, Pascoe says.
“The various investment options have different asset allocations so this is actually a much fairer way to share those revenues with our members.”
For example, conservative options tend to have much higher levels of fixed interest than balanced and growth options, but security lending occurs more often in fixed interest.
“In fixed interest the utilisation rate is much higher [than in equities]. It’s about 70 to 80 per cent on a portfolio of largely government securities,” Pascoe says. “And it’s maybe 10 to 15 per cent in equities.
“So the options that have much higher allocations to fixed interest, the more conservative options, should actually be getting a higher share of the securities lending revenue than the fund overall is receiving. We have mechanisms and processes in place to make sure that that happens,” he says.
Warehousing Stocks
Security lending is not the only activity that might lead to improved portfolio performance; sometimes it pays well to hold physical securities owned by investment banks and swap back the exposure, so that the banks can free up their balance sheet from a capital perspective but the effective exposures of both counterparties remain unchanged.
“They might have securities on their balance sheet that are quite capital intensive for them to hold. We naturally own securities; that’s what we do. So we can take the securities onto our fund balance sheet, swap the exposure of that back to them and we can get paid for that. It is sort of a warehousing of the stock,” Pascoe says.
It is not only physical securities that the fund can warehouse; sometimes it can warehouse risks as well where the team has a high conviction view on the long-term prospect of a trade.
Keeping that flywheel going holds true in these portfolio optimisation trades. If you do more [trades], then you get shown more things, which means you get to do even more things. You want to have your funnel as wide as you can and then have processes to triage that down so that you can say ‘yes’ or ‘no’ quickly – Justin Pascoe, Cbus
“Investment banks are often developing various types of products with caps and floors and end up with long or short volatility positions in their book. We can take a view on that within very careful risk parameters and risk controls so that we know what our potential loss is,’’ Pascoe says.
“[These trades] have actual, risk-weighted capital attached to it so we genuinely have to earn a return on that. But it is a common philosophy within the fund to think about things in terms of the cost of capital,” he says.
The more transactions Cbus gets involved in the more opportunities the fund is likely to get, Pascoe says, as participation in the market tends to create momentum in the volume of transactions that land on their desks.
He likes to use the concept of a ‘flywheel’, where once it is set in motion it creates its own momentum to keep going.
“Keeping that flywheel going holds true in these portfolio optimisation trades. If you do more [trades], then you get shown more things, which means you get to do even more things. You want to have your funnel as wide as you can and then have processes to triage that down so that you can say yes or no quickly.
“It is also important for us to communicate the types of transactions that we are interested in. We want to be open-minded, but there are certain trades that we are ready to do today and others that might take a bit more time to work through across the broader organisation,” he says.
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[i3] Insights is the official educational bulletin of the Investment Innovation Institute [i3]. It covers major trends and innovations in institutional investing, providing independent and thought-provoking content about pension funds, insurance companies and sovereign wealth funds across the globe.