Plan Sponsors Favor OCIO for Holistic Risk Management

OCIO clients cite a lack depth of internal expertise to manage assets across a broad spectrum, especially as it pertains to alternatives exposure and global assets portfolios.

There are many reasons institutions choose to outsource investment management functions, explains Michele Guiditta, associate director at Cerull, but the vast majority of those springing for full outsourced chief investment officer (OCIO) services cite a lack depth of internal expertise to manage assets across a broad spectrum, especially as it pertains to alternatives exposure and global assets portfolios.

The OCIO service model has evolved significantly in recent years, according to Cerulli and other research providers. Back in the 1980s, for example, companies often chose to outsource activities like pension fund management primarily because they hoped to get fee concessions by aggregating their assets. Initially, they were satisfied if the fees were lower and the manager performed above the benchmark.

But plan sponsors today want more interactive and rapid assistance in managing their pension plans, among other mandate themes for OCIO providers. “Now nearly 32% of asset managers polled have an alternative investment mandate for a corporate DB plan that is currently adhering to a de-risking strategy,” Guiditta notes. “These plans are looking to better diversify their portfolios and enhance returns.”

OCIOs are also increasingly popular among public pension plans looking to narrow their funding gaps, Cerulli finds. These sponsors are increasing their holdings in risky assets, and are looking for guidance on managing risk holistically and building alternative asset portfolios. Another theme cutting across OCIO demand is the expectation of efficient and timely decisionmaking around global portfolios.

“Asset allocation has become increasingly complex for both public and private DB plans,” explains James Tamposi, analyst at Cerulli. “Compared with 20 years ago, when a pension could meet a return target by merely investing in corporate bonds, pensions today must consider equities and alternatives. Corporate DB plans are regulated differently than public plans and face varying obstacles as a result.”

NEXT: Difficult demands placed on OCIOs

According to Cerulli, the top question on the minds of most pension chief investment officers is how to improve funded status without taking on much more investment risk, given expectations for less robust future asset returns. In fact, many OCIOs are being called on to serve what sounds a lot like a free lunch—to find ways to boost potential returns while simultaneously reducing risk.  

“Nearly two-thirds (62.5%) of corporate DB respondents to a Cerulli survey characterize the ultimate goals for their plans as de-risking, but also running their plans in perpetuity,” the Cerulli report says. This will be difficult for pension plans and their service providers to achieve, Cerulli warns, as “the need for return intensifies as the total liabilities increase.”

The Cerulli research further finds OCIOs will continue to grow in popularity in this segment of the retirement market: “More complex investment portfolios, volatile capital markets, demand for improved governance, and resource constraints lead to a rise in the use of OCIO … Many plan sponsors recognize the need for greater oversight, and, accordingly, are seeking the support of an OCIO.”

Cerulli concludes that, even though the majority of corporate DB pensions in the United States are closed to new participants, many need assistance with linking asset allocation strategies to funded status and support with pension de-risking strategies. In fact, the firm’s survey data shows that within the pension segment, plan sponsors anticipate the most significant growth to support corporate DB plans with both their total portfolio (34%) and/or a sleeve of their portfolio (53%).   

These findings and more are from the September 2016 issue of The Cerulli Edge – U.S. Edition,which focuses on the current trends in managing defined benefit plans as a result of regulatory changes, market volatility, and funding constraints.