RYK VAN NIEKERK: Welcome to this Market Commentator podcast. My name is Ryk van Niekerk, and it’s my weekly podcast where I speak to leading investment professionals. My guest today is David Moore. He is head of alternative investments at Alexander Forbes Investments. David, thank you so much for joining me. I always do a lot of research prior to an interview, but I’m afraid to say that I found very little public information regarding Alexander Forbes Alternative Investments. There seems to be very little information on the website; or, at the very least, I couldn’t find it, if there is information – and it wasn’t for lack of trying. First of all, where does Alexander Forbes Alternative Investments fit into the AF investment business?
DAVID MOORE: Hi Ryk, and thanks for having me. In the context of alternatives, let me just delineate what that category of investments really means. It comprises two buckets, hedge funds and private market assets. And in the context of I think the portfolio that we are going to chat a little bit more about today, private-market assets really sit within our delegated-product solution, so accessible via our clients. And so they are really niche kind of unique offerings tailored to our clients’ needs from both a return and/or impact perspective, given the nature of the asset class.
RYK VAN NIEKERK: How big is the team, and how much do you have in assets under management?
DAVID MOORE: The product sits within the broader investment team, and that’s 25-plus people strong. I’m dedicated to the specific product and supported ably by our portfolio management and manager research team. So there’s a couple of individuals on both sides of those fences who help me in the construction and development of the programme. The programme as it stands today is just around R5 billion in terms of size and assets under management.
RYK VAN NIEKERK: I’m looking at the Private Markets portfolio fact sheet. You emailed it to me prior to the interview – around R4.8 billion, and the targeted return is CPI plus 7% before fees. We can talk about fees later. Tell us about the performance of this fund over the last few years.
DAVID MOORE: Sure, Ryk. We’ve really modelled it on providing our clients with returns that are stable, steady, and with much lower volatility than I think they’ve experienced in the traditional asset classes – be it listed equity and the like. So it’s really meant to give access to one of a pool of assets that you don’t typically get on listed exchanges, so unlisted assets across private equity and listed credits, property and infrastructure. And in so doing, by virtue of accessing these differentiated asset pools, you get a different return series and a different return right, so to speak. And so, from a performance perspective, the programme has done well since its inception in November 2017, and had a great year last year achieving its CPI-plus-seven target. Of course, given Covid, 2020 has been a little more challenging, but nevertheless it has fared very well relative to a traditional equity asset class, for example, where we’ve been mildly in the red, whereas I think the equity-index trackers have taken much more pain over the last year or so.
RYK VAN NIEKERK: What is the risk profile of this fund?
DAVID MOORE: It’s a blend. In terms of the underlying asset categories, that dictates a lot of how we think about it. We do have a bias to contractual returning assets – things like large-scale infrastructure assets, energy, wind, roads and the like.
And further to that, we look at a listed debts and credits, a sort of fixed-income type allocation. So it’s a blend of, say, equity and debt. It’s looking to give you a moderate to good return outcome, without taking excessive risk. So we’re not looking to put it on red and be very aggressive in the equity side of the spectrum, and [looking to] be much more focused on smooth, uncorrelated return outcomes.
RYK VAN NIEKERK: Yes. Around 38% of the fund is invested in infrastructure products. Tell us about these infrastructure projects.
DAVID MOORE: The infrastructure component of the portfolio is quite diverse, and it includes things like large-scale infrastructure, like your power assets. So solar, wind and the like, toll roads, and it also includes social infrastructure elements – things like affordable housing, schooling and retirement accommodation. It’s a blend of kind of large-scale and/or niche infrastructure offerings. These assets, as you know, are quite long-dated in their time horizon, but they do suit our clients’ risk profile nicely, in that they’re long-dated and return generators at reasonably moderate risk and low volatility. So a nice mix of both return and social impact, given the nature of these assets. They deliver kind of key social needs, be it supplementing the education sector in terms of delivery of affordable private schooling, or provision of energy, which we all know we desperately need.
RYK VAN NIEKERK: Does that consist of loan funding or is there actually some private equity involved as well?
DAVID MOORE: It’s a mix. In some of the underlying projects, by virtue of the managers we appoint in that sub-segment of the portfolio, we are equity holders in the underlying projects. But at the same time, we also look at participating in the debt. So it’s a blend, and it’s blended in a way that is tailored to the ultimate return outcome that we’re targeting, and also kind of maximises the liquidity profile that you can get from the sub-strategy.
RYK VAN NIEKERK: ESG [environmental, social and governance] types of investments seem to be one of the flavours currently in investment markets; impact investments [are] also up on that list. What has been the demand for investments in this fund?
DAVID MOORE: You’re spot on, Ryk. So the ESG integration and investment process, and being able to quantify the benefit of your investment over and above just a return on a piece of paper, is very topical and front of mind, both in the way that we’ve built this programme and in the minds of our clients.
So we’re very much integrating ESG in the way we diligence opportunities and managers and offerings, and how we incrementally add to and tweak this programme.
And further to that, we hold the underlying intermediaries – [those] that we allocate capital to – to book; to report on the key metrics that demonstrate the impact of our clients’ capital – be it the schools’ fund that invests in developed schools, or the infrastructure provider that builds energy assets, or the debt manager that extends credits to SMEs and [in] so doing creates jobs. So we actively report, quantify and measure the impact across the programme.
RYK VAN NIEKERK: Who are investing in this fund?
DAVID MOORE: Oh, it’s predominantly institutional capital. It’s pension funds. The South African pension funds that are in our old underlying client base are private-sector pensions, and they ultimately are the underlying investor here. But at the same time we are working on scaling up the offering to be able to offer it to more than just the institutional market.
RYK VAN NIEKERK: Now that is interesting, because in the past alternative investments probably were seen as investments in art, old and vintage cars, maybe a nice bottle of wine. It seems to me more private equity and type of hedge funds or derivative products. Is that where it’s heading?
DAVID MOORE: Yes. I think under Regulation 28, it’s reasonably clearly defined. And that’s kind of how we think of things, given our client base or pension fund. So Reg 28 defines it as hedge funds and/or private equity, and private equity is a sub-component of the private markets universe, because ultimately “private markets” comprises credit, infrastructure and private equity – anything that’s unlisted. And so those are the broad categories that we manage our portfolios and products in line with, and kind of the industry-accepted definition of alternatives, so to speak.
RYK VAN NIEKERK: I’ve seen several other asset managers also having alternative investment funds and divisions. Is this segment growing? Is it a popular segment for Regulation 28 fund managers?
DAVID MOORE: Yes, Ryk, I definitely think it is. I think there’s a couple of reasons that are driving it. I think we all know the last five or so years, in traditional equity in South Africa, hasn’t been great from a return perspective. And so we are seeing traditional asset classes, with low interest rates and choppy equity returns, being a little bit out of favour, so to speak, in terms of being the growth engine for retirees in terms of achieving inflation-linked outcomes from their portfolios.
And so there’s a renewed interest and increasing interest, specifically in private assets, to allocating to private-market assets from a return perspective, but furthermore from a social-good and social-outcome perspective. We are finding member activism and members of pension funds being far more interested in the social infrastructure asset that their capital has delivered, be it the school that’s going to allow their kids to be enrolled in once they retire, rather than just a number on a retirement statement indicating your retirement benefits. So there’s a lot of that behaviour too.
RYK VAN NIEKERK: That’s an interesting dynamic – investors feeling good about where they invest because it is making a difference. But, on the other hand, investors are also looking for yield. Are those two mutually exclusive?
DAVID MOORE: I think they are, Ryk. And I think if you want to invest for impact and feel good, at the end of the day for that to be sustainable there needs to be a commercial underpin. You have to structure your investments to make a sustainable commercial return in order to deliver lasting social good. And I think the way that we think of things in the context of private markets, and the underlying assets and managers that we allocate capital to, is that it’s commercial funding, but structured in a way that allows the ultimate beneficiary to be sustainable in terms of the underlying asset of the portfolio company. But then, at the same time, it’s in doing that that [you] really can drive continued social outcomes.
RYK VAN NIEKERK: If I look at the fee structure, it seems expensive. The basic fee ranges from 1.75% to 1.95%. And if you outperform, there is also a performance fee of up to 20%. Is that pretty much the going rate for alternative investment funds?
DAVID MOORE: Look, I think the asset class is a little bit more expensive than your traditional asset classes. In the context of our products, we actually don’t charge any performance fees as a manager of managers. So, in the context of our product, the underlying managers, some of them, will attract performance fees. But typically those are based on quite onerous hurdles. If they do achieve those hurdles and do achieve a performance-fee outcome, then we should all be smiling.
So we’ve structured it in a way that the ultimate net return outcome to our clients, should these performance fees be triggered, will be very, very good. And generally the way that our fee structure works is, because we don’t charge a performance fee, we’ve also been able to scale the product and make it much more cost-effective for clients to access. So I think our all-in fee is actually below that contractual range you’ve quoted, as it stands today, because we’re actually aiming to give our clients a good net return outcome and ultimately get cost-effective access. And I think it’s probably, as a product, one of the better priced options out there.
RYK VAN NIEKERK: Yes, that is expensive. But, just in comparison, what is the relative size in South Africa compared to other asset classes, compared to the case in other international markets?
DAVID MOORE: In terms of private market allocations in South Africa, at least in the institutional world, many larger pension funds have been quite progressive and allocated quite aggressively in the space. And that’s a function of understanding the asset class and being able to bear some of the illiquidity risks that are associated with it, because these are ultimately unlisted investments. So you can’t trade in and out of them like you can on listed equity.
But in the context of smaller pension funds and more medium-sized pension funds and institutional investors, they are quite underallocated to the asset class. And I think it’s a function of a couple of those factors – illiquidity, education, and the like.
But on the developed world and, if you look further afield, alternatives have much higher allocations than allocations under Reg 28. So in the South African context you can have up to 13% of your fund in alternatives, where in many developed markets that number is much higher, and many pension funds and institutional investors are hitting their thresholds. So in certain markets you can do up to 40% in alternatives, giving a sense as to how much headroom there is to grow in the South African context.
RYK VAN NIEKERK: While we were talking, I looked at your cumulative performance graph included in the fund fact sheet, and it’s actually very interesting. The fund has performed, since inception, around 5% per annum year to date, minus 2.3%, but you compare it to the Capped Swix [shareholder weighted index], which is 9.8%. So it has definitely outperformed the Capped Swix. But your benchmark is the CPI plus 7%. That is before fees. So, if you take off the fees, around CPI plus 5%. And then if you take CPI at 3%, you’re looking at around an 8% target, which is probably in the current market pretty ambitious.
But what’s clear to me is that the performance is a lot more stable than the Capped Swix. The Capped Swix took a massive hit this year, like I think many indices did. It definitely should be in a portfolio because of, probably, a stable return, but the performance seems to be interesting.
DAVID MOORE: [Chuckling]. Yes. I think you hit the nail on the head there Ryk, in terms of stability of return. We’re not looking to be rock stars here, to achieve CPI plus 10/15%. I think in this environment, as you said, even 8% is ambitious. So can you get to those numbers easily? Probably not. Can you get there taking a lot of risks? Yes. That’s not what we’re in the business of doing. We’re looking to structure something that is complementary to our clients’ portfolios, that gives you an element of stability and low correlation.
And yes, we’d love to be able to say we are hitting CPI-plus-seven year on year consistently, but unfortunately this year has been a rough ride. Nevertheless, we’re resilient. The aim is to provide kind of a smooth, uncorrelated return, and that’s really by asset selection and manager selection which drive that. Infrastructure assets, for example, lend themselves to that return categorisation. And because you don’t have any proxy in the traditional world for large-scale infrastructure assets and what they return, and how they perform, you typically get a nicer kind of a smoother ride, so to speak, from a return perspective. And if you add the credit to the mix there too, you add contractual return series to different return series, you end up kind of getting a smoother return outcome.
RYK VAN NIEKERK: But why CPI plus 7%? From the graph it doesn’t seem as if you have achieved that during the period since inception in October, 2017. Why CPI-plus-seven?
DAVID MOORE: Well, I think from the perspective of the illiquidity of the products, there is an element of our wanting to be paying our clients commensurately for the liquidity risk they’re bearing. So CPI-plus-seven is an outcome that makes sense relative to traditional asset classes.
At least, when this programme was initiated, in terms of its performance, 2019 was actually a really good year for the product, and it actually achieved its CPI-plus-seven gross outcome. However, it has regressed somewhat, given 2020, but we continue to aspire to get that return outcome, given that this is an illiquid asset class, and there is an element of money being tied up so that you can sell and get out tomorrow. So we want to give clients an appropriate return for that illiquidity and/or the things we’ve committed.
RYK VAN NIEKERK: David, thanks so much for your time today. That was David Moore. He’s head of alternative investments at Alexander Forbes Investments.