Foundation blends active and passive investment management to reduce costs and enhance returns

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By Charles Hodge | 11 February 2016

A charitable foundation, established by a family many years ago, restructured its investment portfolio to lower investment expenses, increase strategic market exposure, and manage investment risk.

Issue: Foundation’s investment managers’ broad mandates providing unremarkable results

The foundation had an investment management structure that was not strategically aligned to any one specific result; generally, it had broad goals of reducing operating costs and providing more benefits to grantees. It had added investment managers over the last several years who maintained a generalist approach rather than offering asset-class expertise. This led to overlapping strategies.

Solution: Create an efficient, focused asset allocation using active and passive managers

After reviewing their spending and growth needs, the foundation set a goal to restructure its underlying long-term investments. It wanted to find a combination of asset class specialists that could focus on specific areas of expertise with secondary goals of reducing overlap and streamlining costs.

Milliman prepared an asset allocation study to provide various expected risk and return scenarios for the foundation to consider. In the study, Milliman provided different potential allocations of asset classes to find a risk-return combination that was attractive to the foundation. To determine which asset classes to use, Milliman worked with the foundation to select those classes with a risk and return profile consistent with their goals and in line with their target expectations. We then examined multiple allocations to identify the strategy consistent with their global view of risk and return expectations. To initiate the process of implementing the strategy, Milliman provided investment manager searches for each asset class to find both best-of-class active managers and a blend of inexpensive passive managers. Next, the foundation selected domestic and international active managers with asset-class specific skills and historical success in generating alpha. The new active positions were complemented with index managers to provide broad asset-class exposure at lower-than-active management costs .

Restructure Managers for Diversification, Value-add and Cost Reduction

Outcome: Foundation investments strategically aligned to produce both cost-efficient and value-added returns

With the new strategy in place, the foundation is now expecting better, more predictable returns. And even as the total number of managers increased, the overall cost structure is less than the legacy strategy. The resulting portfolio is more in line with the foundation’s long-term goals for expected return and is consistent with its risk and return expectations. Milliman will continue to work with the foundation to monitor and evaluate the strategic allocation of the portfolio as well as the performance and cost structure of the underlying managers. After the initial analysis and implementation with Milliman, the manager structure of the foundation is more clearly defined in terms of equity exposure, using passive indexes to gain market exposure at a lower expense, while adding active managers who may add value (alpha). Milliman will also assist with monitoring the investment policy statement, which defines the asset allocation and provides specific guidelines for evaluation.