Dealing with poor performance - how to fire or change investment managers

Sara Benwell: How easy it to monitor the performance of an OCIO or delegated investment provider?

Rip Reeves: The ease of the report card regarding a manager or consultant, really depends on the breadth of investment objective.

For instance, we have some investment allocations where the manager is solely tasked to outperform a benchmark. In this case, it is relatively easy to measure their success – or not – because you have two numbers to compare.

"The more complicated the strategy, the more noise there may

 be in monitoring a manager."

When you have a more custom strategy, that may involve different sectors and/or multiple objectives, it becomes more challenging to monitor a manager’s performance. For example, there may not be an index that corresponds to your strategy, so you create a custom one. 

Many private/alternative asset classes are example of this index challenge. There also may be conflicting objectives – such as maximising income and return – that may complicate a pure outperformance investment objective.

It really depends on how straightforward or sophisticated the actual strategy is - the more complicated the strategy, the more noise there may be in monitoring a manager.

Sara: If a delegated investment provider doesn’t measure up to your requirements, how easy is it to understand the reasons why?

Rip: When we hire managers, we consider them an extension of our investment team – a real partnership. Therefore, we will be very transparent and communicative with them and expect the same in return. So, when a performance problem arises – and they always do – it’s typically not a surprise to either party.

Naturally there can be market shocks that no one foresaw, a situation where a manager loses talent, or their investment strategy changes.

"When a performance problem arises – and they always do –

 it’s typically not a surprise to either party."

All these scenarios should raise concern about performance, they may have had a departure or change in their investment strategy etc. there are many reasons that could cause poor performance.

Having open and consistent communication with your investment partners is key in being able to look at both the quantitative and qualitative issues that might affect their performance.

Sara: If a manager does perform badly, what can you then do about it? What are the stages of dealing with this poor performance?

Rip: The first step is to have a direct conversation about the issue(s), just like you might with a co-worker regarding an internal problem.

If the response is a reasonable, valid explanation of what happened, you at least have the necessary inputs to make an educated decision. 

"If their poor performance/behaviour persists, it is likely they have

 not learned anything from the issue at hand."

You obviously want to have confidence the manager has a thorough understanding of what went wrong and what step(s) they intend to make to ensure it doesn’t happen again – assuming there is an issue to correct or improve.

If their poor performance/behaviour persists, it is likely they have not learned anything from the issue at hand. It may be a talent issue, which may take time to remedy. Possibly the manager no longer prioritises the strategy you hired them for - there are several reasons why this might be the case.

Sara: Can it sometimes be the case that your objectives change and therefore your needs from a provider is the thing that changes?

Rip: Yes, absolutely your objectives and needs can, and likely will, change over time. Recognition of this is another reason to support maintaining open communication with your investment partners.

Therefore, when a change does occur, it’s not the first time anyone is hearing about it. If we are entertaining a strategy change with an existing manager, we want their input regarding the objectives, guidelines and implementation of that change – especially since they’re responsible for executing it.

If we are entertaining a strategy change with an existing manager,

we want their input."

Your investment manager is likely managing investments for numerous insurance companies. Therefore, one of the advantages a manager can provide is insight to how peers of yours are solving an investment issue you may be dealing with.

Prior to my current role, I was an investment manager for dozens of insurance companies for over 20 years. I appreciate the broad range of clients I worked for and my access to various solutions to investment challenges. Working for one company in my current role, I don’t have that perspective anymore. Therefore, I rely on our investment partners to be that information resource for best in class ideas. 

Sara: If you get to a position with an outsourcing provider where problems have persisted and you get to a point where you feel it isn’t working, how easy is it to end that relationship? What are some of the challenges in moving from one provider to another?

Rip: Generally speaking, it is pretty easy to terminate a manager and hire another one. These are fairly easy transitions, especially in the public markets where the majority of our assets are invested. In the alternative sectors, given liquidity constraints, it may be a more prolonged process.

Either way, when you hire someone else to take over a mandate, they are naturally very helpful in transitioning the assets over – which generally makes the transition less cumbersome.

Sara: If you are delegating the strategic side of investments to an OCIO, does this make it more difficult?

Rip: It would likely make it more difficult, given the strategic nature of the OCIO responsibilities. As with monitoring investment performance, the more complicated the responsibilities, the more challenging it is to execute changes. Many strategy responsibilities should be included in your firm’s Investment Policy; therefore, any changes may require Investment Committee and/or Board approval. Therefore, these types of changes are generally more involved than terminating a manager of a public market mandate.

Anytime you are dealing with the private markets it is generally a more prolonged, complicated transition. Some private sectors, such as direct lending, may require each loan contract to be amended – thus not only costly but time consuming and likely not worth the trouble.

Sara: At what point do you start to communicate upwards, is it from the very moment that you see a problem or when things are more serious?

Rip: It depends upon the size of the allocation and the extent of the underperformance or problem. It is a balancing act of providing relevant information and too much information – either too soon or too late. It’s a judgement call, and I always err on the side of more information and sooner with my CEO and Board.

"The last thing you want is for anyone involved in the relationship

chain to be broadsided with a problem."

This question is another reason why you want consistent and open communication across the board. Across the board is not just between myself, the investment team and our investment partners, but also between us and my CEO and Board of Directors – who I report to. The last thing you want is for anyone involved in the relationship chain to be broadsided with a problem.

One of our deliverables is an annual manager review. We do a thorough assessment of every manager, every year. We obviously review performance, and also the team, governance and etc. Therefore, it is a broad report card of what is going on with each manager and how well they have performed in the tasks we have hired them to do. This annual deliverable helps us monitor any issues with our investment partners and provides a platform to communicate any issues upward.

Sara: What are the indicators of poor performance that asset owners should be looking for and how can they be monitored?

Rip: I generally focus on the intangible factors, in addition to the numbers themselves. Spending a day on site with a manager will provide you a good sense of the culture and team-work associated with your investment partners. An on-site visit is a necessary part of our interviewing process as well. 

"If you get an email every few months stating that your account manager has changed, that should be concerning."

We routinely visit our investment partners on-site as part of our annual manager review process. I believe these visits go a long way in providing lots of intangible information about managers and how they operate on a daily basis.

As far as the quantitative indicators, the numbers speak for themselves. Also monitor the stability of the team you have access to, the investment process and their executive management team. If you get an email every few months stating that your account manager has changed, that should obviously be concerning to you regarding high turnover for example.

Sara: When it comes to your annual review of managers, do you have a checklist that you use and how did you come up with what those items were and how often do you review this checklist to ensure that it is fit for purpose?

Rip: We’ve created it over ten years ago, and it’s evolved/improved over time. The checklist involves several areas of an investment firm, such as relative performance, corporate and team stability, adherence to the strategy. Each of these areas account for a percentage of the manager’s overall score. Relevant comments regarding each manager are included in the report and any problems discussed.

It is not solely focused on their investment performance, although that is a big chunk of it. This report, along with our open communication has resulted in no surprises – so far – regarding our investment partners.

This excerpt is taken from the research report: Investment Outsourcing for Institutional Investors. You can download the full research report here.