With regard to high fees, is that what drove the decision to reduce the £1bn hedge fund portfolio?
Partly it was down to fees, but it was also about taking a much more rigorous approach to understanding the drivers of return in our portfolios and accessing each of them in the most direct, simple and cheap way. Typically with hedge funds you have less understanding of the drivers of the return in the portfolio than if you own the component parts, so this creates headwinds
for us. We haven’t said we will never invest in them and there are some remaining in our portfolio where we feel the manager has undeniable skill, the alpha share is fair and we are getting enough of the added value. We have reduced our hedge fund exposure significantly and there will be further reductions to come. Ultimately we expect our exposure to hedge funds to be a small proportion of total assets. From now on we will use hedge funds as tools in a multi- asset portfolio rather than having a specific portfolio of hedge funds.
So how much is managed in-house versus outsourced now?
We really manage it all in-house and all the positions are created internally, but some of it is then sub-delegated externally. For example, we have invested in private equity for 20 years and have a lot of external relationships with general partners (GPs) and we’ve always had a pretty direct relationship with those GPs. We are going to be much more focused to ensure minimum leakage through fees, but also to play to our competitive advantage. We want to partner with private equity firms that have particular need of our capital but also have interest in areas that we are strong in. For instance, we are strong as an asset owner in corporate governance and sustainability issues and we can help certain GPs build their expertise in those areas. Creating those strategic partnerships will mean fewer relationships than in the past. We have about £3bn in the ground between private equity and infrastructure and we expect, provided we can find opportunities,
to have between £3bn and £4bn in three-tofive years’ time. We are a long-term investor and don’t need the liquidity so private investments should be good for us, but unless you get paid for the illiquidity you should not take it. Another example is direct lending, where the thesis is well understood that bank lending is much more proscribed than before the crisis so others have an opportunity to provide capital and earn a decent return. That is an area we have accessed through external managers; we are not going to have a large credit screening team of analysts in-house in the near future, but it is an area we felt returns were sufficiently attractive for us to want to invest. Typically though, we are looking to have strategic partnerships with a small number of managers
and where possible to co-invest alongside them, which does mean we need to have enough highly-trained people in-house to be able to assess deals. We are not looking to do origination so we won’t have a large team of people seeking individual deals and dealing directly with investment banks – that is not our current model.
How are you planning on growing the in-house team?
Our investment team operates in flexible, overlapping functions and we have recognised some of those functions need more skills. Private markets is one of those and that requires a few more people. We recognise we would also benefit from some additional experience in buy-and-maintain public equity portfolios, but because we are not looking to have very active portfolios we
want multi-skilled investment professionals. We don’t have a chief investment officer but a chief investment office made up of the four of us [Hitchen, chief investment risk officer Richard Williams and investment directors Ciaran Barr and Paul Bishop] and we are the ultimate decisionmakers for the portfolio.
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