This is a Deep Dive with Damon Krytzer, Trustee, the City of San Jose Police and Fire Retirement Plan.
Damon Krytzer is a senior consultant with Park Alpha. To learn more about consulting opportunities, please contact email@example.com.
1. Regarding asset allocation, given today’s investment climate what are some key points that public investors such as sovereign wealth funds and public pension funds need to keep in mind?
First that the assumptions used in portfolio construction are much more dynamic than those used in developing the strategic allocation; specifically cross-asset correlations and volatilities of reference asset classes. It is also important to consider that returns are not normally distributed. There are many ways for an investment to reach a long-term return number. Some assets or managers reach that with consistent returns and small tracking error, while others have very fat tails – fewer big years and some large drawdowns. Ultimately the same number, but extremely different investor experience. Frankly neither is right or wrong in itself, but the portfolio construction process, especially within sub-asset classes such as structured credit for instance, must blend sources of return to reduce the overall portfolio volatility.
2. What is one of the most important points you’ve learned as a trustee at the San Jose Police & Fire Retirement Plan when it comes to making investment-related decisions?
That in light of the extremely high transparency of our portfolio it is critical to communicate with the public often, and in terms that are understandable to an audience wide in sophistication level. We of course base decisions on probabilities rather than on certainty. Sometimes outcomes are on the wrong side of these probabilities, or may take multiple reporting periods to work out. At these times, we must be consistent in communicating, and must assume that our reporting can easily be shown out of context in the media. This of course works in both directions when our timing is simply spot on, or just plain lucky as well. Sometimes the weatherman says that it is likely to rain, but there is nothing but sun all day. Again, decisions based on probabilities and past heuristics are just that, and need to be discussed in this context.
3. With regard to recent asset-liability studies, should public investors begin a more tactical approach or stick to the long-term strategic plan?
At the total portfolio level, long term decisions are quite important assuming that they express well-defined goals set out in the IPS. It may be a spending policy, or a pension obligation, or simply a return target. In most cases this should be the focus of the policy allocation. That said – creating rules from which to operate a tactical decision-making process are critical as well since the world is extremely dynamic. To me, tactical decisions, at least in the pension context, are not return seeking but rather should be in place to smooth the volatility of our assets in light of our liabilities. They may be defined by a risk budget assuming the fund has a strong risk reporting process, or may be tactical based on other factors. On the other hand, within asset classes there is more room for alpha opportunities. In credit for instance, managing allocations to and from opportunity sets such as RMBS or spread products are effective because they are highly specialized. In hedge funds, assuming you consider that to be an asset class in itself, increasing allocations to CTA’s or multi-strategies would be tactical alpha examples.
4. What massive risks are not being taken seriously enough by public funds?
How quickly movements in volatility can be expressed in seemingly steady assets. A large volatility spike can effect asset pricing, market perceptions, and unfortunately cannot be hedged through diversification as we witnessed during the big risk on-risk off swings a few years ago. There is an active movement to rely on strategies like risk parity or convex investment programs to inherently respond to this type of spike, regardless of the root cause. This is of course appealing since the structure can be explained, and my statement isn’t a judgment on these strategies, but I fear that it is luring many market participants into a false sense of security – not only in the volatility exposures, but also in uncompensated risks such as the recent increase in interest rates. We saw in some cases a 4% decline in risk parity strategies with a 40bps increase in rates, and this risk is not one that adds to the returns otherwise.
5. What safe havens exist to public investors when navigating through today’s regulations and policies?
I don’t think there is a single safe haven. We make decisions to meet our fiduciary duty, but with the speed of regulatory changes in today’s environment, and the actual and perceived funding gaps that exist, nothing is a given. Rather, we do have a defense in the courts. When we are considering the impact of a regulation or a measure, our first instinct is to ask the courts for direction. Our first job is to manage assets in the most appropriate way for our constituents. That said – we must do so within an ever changing regulatory environment that often conflicts with itself. Our choice is to turn to the courts for these decisions where appropriate and to focus our opinions within the scope of our appointed task.
6. Throughout the last couple of years, you’ve had the opportunity to meet with some of the most renowned public investors in the world and listen to their presentations. Are there any re-occurring themes that challenge the global market?
The challenges aren’t so much about the global markets, but I do see recurring themes about how to access and compensate for alpha. On one hand we have the notion of Smart Beta; a rules-based blend of active and passive management. This could include timing, or diversification rules through a correlation budget, or as a regime-oriented weighting scheme for example. Institutions have paid for this through alpha performance fees in the past but some asset owners are building these rules internally as directed beta. Another theme is to invest with a focus on risk factors, and in effect to think in terms of the economic regime rather than in diversification between asset classes in themselves. This is a work in progress, but I do like the trend in thinking about investing based on risk and return drivers in the context of economic assumptions.
7. At the Institute Fund Summit held in Frankfurt this October, we will be hosting quite a few central bank governors discussing the situation in Europe, is there anything in particular you hope they discuss while you are there – and why?
There is of course an inherent difference in how the U.S., Asia and Europe have addressed the so called crisis. Our timeframe is frankly too short to accurately judge which program is more effective, although there are many lingering issues that remain in Europe both on balance sheet quality and on economic growth that I hope to hear addressed. In particular, I would like to hear perspectives on where growth will come from, and whether individual decision makers are weighting growth as a tool to recovery versus as a consequence of other systemic measures.
8. What can Europe learn from the rest of the world?
This is something that we continue to debate in this country as well; that growth is a critical component of a sustained recovery. Yes, it is important to sure-up balance sheets and to deal with systemic issues, but without wage increases and incentives for growth you likely end up with a weakened economy well into the future. It seems that Asia is the other extreme in some ways, focusing attention on growth initially, and now forced to address asset quality, social safety nets and other structural issues at a very rushed pace. It is an exciting time to work in the financial markets right now.
9. Recently, African countries seem to be rising up in the sovereign wealth environment; any words of insight could you offer to a future wealth fund or a newly established fund?
For there to be a focus on governance and sound decision making process early on. These issues are critical in the sustainable success of an investment program for so many reasons, and extremely difficult to change down the road.
About Damon Krytzer
Damon Krytzer is a senior consultant at Park Alpha and has been involved in the global capital markets for 18 years, with experience in asset management and trade execution. Damon ran a global tactical asset allocation portfolio, founded a trading desk to manage concentrated equity transactions, and managed a pool of emerging markets rates and currencies. Damon’s professional experience includes roles with Oppenheimer & Company, UBS Financial Services and Prudential Securities.
Damon is active in advising board trustees on alternative investments portfolio construction. In addition to his role at Park Alpha and Waverly Advisors, Damon serves on the boards for The City of San Jose Police and Fire Retirement Plan, R2 Alpha Fund Management, a private equity portfolio investing in infrastructure, and ERNY Financial, developing products to invest in earnings rather than equity share price. He is a CFA Charterholder, adjunct professor for alternative investments at the University of San Francisco Business School, holds MBA degrees from Columbia Business School and the University of California Haas School of Business, and studied political science at Rutgers University.
Disclosed on October 17, 2018, Caisse de dépôt et placement du Québec (CDPQ), through CDPQ Infrastructures Asia Pte Ltd., increased its stake in Azure Power Global Limited, a listed Indian solar power producer. CDPQ increased its ownership in Azure Power to 40.3% ownership by a US$ 100 million commitment in a recent capital raise. Post-deal, CDPQ has invested US$ 240 million in Azure Power.
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