The Exchanges

Q What are the types of changes you would have made your portfolio, say in a period of time like COVID?

A COVID was interesting for Australian superannuation funds because not only were we dealing with all of the financial market challenge, at the same time we had the government coming out and announcing that people could take money out of their superannuation. In Australia, when markets tend to go south very quickly, the Australian dollar also tends to go south very quickly, which means where we hedge some of our international exposure, we can end up with lots of collateral calls on our currency hedges. So liquidity in those moments is already in demand, and then to have the government turn around and for the first time ever actually allow people to take money out of superannuation for their own personal use in COVID created an additional liquidity challenge for us. So I think first and foremost in a crisis, this is always true. Liquidity, cash is king. We were fortunate we actually went into that period through our dynamic asset allocation process, underweight risk assets, and overweight cash. So we were running about nine percent cash going into COVID. So that helped enormously. First, be prepared. So we entered from a position of strength. I think then as COVID started to present, Following our process, we quickly formed a view on what we thought that collateral that would go out of our fund, so the external liquidity demands would be, and it turned out we were within five perc…

AI assessment note: “we leaned heavily into risk assets in COVID, and we were buying”

Q I'd love to circle back to this very unique feature of HESTA of being so concentrated in a female membership base. How have you thought about how you might approach investing differently with the importance of diversity coming through in your membership?

A It is something we're incredibly passionate about. Firstly, I want to make sure that I'm harnessing diversity in my investment team. We're quite unique at Hester. We have a female chair, a female CEO, and a female CIO. Not by design, just sort of by accident, but again, it's quite unusual in the market, and broadly, fifty-fifty over time across the board and executive management. Within the investment management team, we're running over 40% female, which is very high. Relative to the financial services industry and benchmark. So we've been fortunate. I often get asked, well, how do you do it? How on earth do you find these women? And my answer is often they find us. They're great women in the industry who want to work in an inclusive environment with purposeful capital, and they find us, which is an incredible big brand opportunity. We then want to make sure that our managers are leveraging diversity. So every two years we undertake a survey asking our managers to outline the people managing our capital. So we don't want to know how many women are in your finance team or your marketing team or your HR team. We want to know how many people are in your investment team managing our money. And when we started that survey back in 2018, the number was 17%. So quite low. From there, we started sharing case studies of excellence about the different processes, different managers were us…

AI assessment note: “We then want to make sure that our managers are leveraging diversity.”

Q What was the early setup in your pension experience in Australia?

A Would have been in the nineties and the pension industry at the time was still quite nascent. Remember Australian pension funds really started to sort of come into existence in the eighties as part of the Creation and the sacrifice of salaries in a high inflation environment to really try and achieve dignity in retirement. The fund was, by today's standards, relatively small, really early in terms of the sophistication of the investments, a lot of outsourced models, early in terms of the regulatory oversight, because they weren't significant financial organizations at the time, they were relatively modest and relatively low risk. So I was there to sort of watch how the system has evolved since then. Back then, the fund that I worked for, they offered a defined benefit only for white collar workers, blue collar workers, Had much different insurance, much lower contributions and very different terms. So I was really thrilled the time that we were there that we undertook a process to bring equality and equity into those two arrangements and really start to make superannuation accessible to everybody because everybody really deserves dignity in retirement.

AI assessment note: “Back then, the fund that I worked for, they offered a defined benefit only”

Q As you're trying to drive that culture, how do you set up the day to day or the week to week, either internal meetings or where people sit so that it does work the way you'd like it to?

A It's funny you talk about where people sit. I think there's a lot in that. We do actually rotate teams through time. And for that reason that I think sitting together sometimes creates a level of intimacy and That you might not otherwise have. So by rotating teams over time, you get different teams to engage differently. I think that's a lever we've used. We do meet together regularly as a team. We have monthly meeting cycles around different functions, whether it be research, whether it be risk management, whether it be portfolio management, and really, where are we? What are we looking at? Where are the risks emerging? What are the factors we're exposed to? And we bring all of the teams into those at the right level and moments. So I think that really provides that constant understanding of what people are saying and allows a forum so people can contribute.

AI assessment note: “We do actually rotate teams through time... We have monthly meeting cycles”

Q How do you go about making investment decisions?

A We start with models. And the models, you know, in many ways will tell us what decisions we should be making. So we ground ourselves in that process, and then we challenge it. And then we say, gee, where could we be wrong? What are we missing? We think about the objectives. It's telling us inflation is cheap. Not only is it cheap, but it's a really great hedge for our clients' liabilities. So we were buying inflation Back in 2019, when it was pricing at one percent, we were loving inflation. So, well, let's buy some of that. It's both the values and the insights that gives us, but it's also constantly going back and looking at our portfolio against our objectives and making sure that it continues to make sense. And ultimately, it's a discussion. We get all of our team around the table, all of our leaders. And we talk about markets. We talk about where we are in terms of being risk on, risk off. We talk about any emerging threats and opportunities. We talk about capital scarcity. We talk about liquidity. We always want to have a game plan on liquidity if we need it. With all of that, we make decisions.

AI assessment note: “We start with models. And the models, you know, in many ways will tell us”

Q As you look at the opportunity set today, where are the areas that you're interested in tilting?

A There are some things that are getting interesting. We often see market segments moving at different paces. It feels definitely like credit has been early to dislocate. We're obviously seeing defaults really starting to pick up in the U.S. especially. Seeing credit becoming more difficult to access. We're seeing balance sheet repair being required in certain segments, especially US real estate. That provides an opportunity for people like us that are providing capital to really come in, try and help solve those balance sheet challenges, but do so at a price that makes sense for the risk that we're taking. And probably, to be honest, we think we're being overpaid for the risk we're taking in the current environment of scarcity as banks are pulling back. We're definitely looking for opportunities like that to really leverage and create value for our members. I would argue inflation is still looking really reasonable. And again, in an environment where we see a lot of secular themes, really probably quite positive for inflation. It seems to us like a cheap hedge to be adding to the portfolio, especially even ILBs now. Inflation linked bonds with real yields really rising over the past while, locking in and protecting some of that real yield for our members is attractive.

AI assessment note: “It feels definitely like credit has been early to dislocate.”

Q When you see an opportunity like that on the margin, how do you go about diving in?

A Existing relationships are obviously easier. We're staying in touch constantly. When they're existing relationships, it's quite easy to accelerate investment. Oh, great. Let's just add another clause in our mandate and add another mandate to the side or change the nature of the existing mandate up or down. I think that's a very easy execution point. New managers. We want to start with that clarity of what are we going after? What does great look like? And then find a universe of managers that fit that niche. Start with a funnel, start with your universe of managers. We actually work with global advisors to do that as well. We have our own contacts. We have our own networks. We shake the trees globally with all of those. But we also work with advisors to shortlist the universe, and then we compare and contrast our lists and sort of start to shortlist into our preferred managers. From there, we'll go through an RFP process, really starting to get deep in terms of the team and the process, the philosophy, talent, et cetera, ultimately makes a decision. New managers can take more time. When you want to invest, you want to be doing those 12 months out. So we've spent the last 12 months really getting ready in case markets do provide attractive opportunities in various areas.

AI assessment note: “Existing relationships are obviously easier... New managers. We want to start with that clarity”

Q Before you can make those trade-offs and try to add value with that flexibility, you have to start with somewhere. What is that initial objective as you lay it out?

A It's a real return objective, and the reality is one of the most important things for us is maintaining our members' trust. We need them to believe and understand that we are acting in their best interest and trying to manage all the risks to generate their retirement income. We think the best way to do that is to also perform really strongly relative to our peers and our competitors. So one of our objectives is to continue to maintain that relative performance, but also we have objectives related to the responsible investment of the capital. So obviously we are committed, and we were one of the first major funds in Australia to commit to net zero by 20 50. We set ourselves an interim target in 2020, a third reduction in our carbon emissions by 2030, and pleasingly two years in, we've achieved that objective, so we've increased it to 50% now. That's embedded in our incentives. We're also now targeting attempts in allocation to climate solutions by 2030. So again, important objective, how we want to make sure that what we're doing are effective and really low cost and creating value for our members. So again, making sure we achieve fee targets and continuing to drive that scale benefit for our members is important. And then everybody ultimately has incentives Collaborate and drive the culture and be the leaders that we need in our business, and so I think that balanced scorecard…

AI assessment note: “It's a real return objective, and the reality is one of the most important things”

Q What are the messages that you reinforce as a leader of this team that you found most impactful in helping the people ensure that they're working together?

A Yeah, that's a great question. I think I'd start by saying markets require discipline and we are long-term investors. We are patient capital. We need to sort of keep that in mind and maintain our discipline, even through times when behaviorally it's very difficult. I definitely encourage a process that is very data driven, founded in theory. We're not a team of punters. That is not the process we have built. And I think through that, it allows a level of discipline of decision making and conversation that is unique and enables people to contribute. So rather than talking about whether equities are cheap or expensive, we're talking about, well, what are our beliefs around how equities behave? What really is driving our views on earnings growth into the future or multiples into the future? How do we see risk premiums evolving or cash rates or term premiums? And really being able to have a deep conversation about our alignment and our differences.

AI assessment note: “markets require discipline and we are long-term investors. We are patient capital.”

Q What are the characteristics of the partners that you prefer?

A I think the name partners says it all. We like people that actually think of us as partners, so not as a third party capital provider into a pooled fund. We want people that can come to the table, share research, share insights, and craft mandates together. We like people that see it as a long-term relationship. They see us as growing capital. They understand the growth that we can bring and the sophistication with which we can act, and they price that appropriately. So obviously part of our role is to make sure that we're generating strong net performance for our members. We want to be partners with people that really drive our thinking. We want to share ideas and insights, and some of those partners publish great research. They have dedicated people available to talk through deep issues. So yeah, I think it's much more now than just managing money. It's definitely a deeper, more sophisticated relationship.

AI assessment note: “We want people that can come to the table, share research, share insights”

Q What are some of the things you're most concerned about?

A Where should I start? I think just in terms of where we are in the cycle, it is definitely feeling late cycle to me. It doesn't mean it's tomorrow. We're spending a lot of time thinking about, well, how long is late cycle this time? We're seeing a lot of indicators that are traditional recession indicators triggering. Obviously we've got an inverted yield curve. We've got leading indicators starting to slow. We're seeing employment starting to turn. High inflation, rising interest rates. These things are quite traditional late cycle indicators, but we do have a few things that are a bit different this time. As is always the case, you know, we have fairly strong corporate balance sheets at the top end of town. We sort of are seeing a bifurcation in terms of the haves and the have nots. The haves being those that are fortunate enough to have savings, to have locked in debt at low terms. So they're actually generating surplus earnings and interest at the moment. Versus those that were already stretched, maybe don't have many assets, are suffering the cost of living crisis, suffering higher cost of debt, and really starting to feel the pinch of a slowing economy. That is something we're watching closely, and we just don't think equity markets have really priced that risk at the moment. Longer term, though, I think we're really thinking deeply about the climate transition. We know t…

AI assessment note: “I think just in terms of where we are in the cycle”

Q What would you like to achieve internally in your investment operations that you're not yet doing?

A We're starting to play with artificial intelligence and how it might make us better investors. There's a few early models on neural networks and equities, which are starting to sort of show Some promising signs. Making sure that we understand exactly the assumptions that are feeding models and we can still make good decisions is critical. We're balancing those two things. We haven't really incorporated a lot of alternative data yet. So I think that's a really interesting opportunity for us as we move forward is how will the whole nature of investing change as we get these new tools and these new data sets and how do we make sure that our ability to add value isn't eroded? And better still, how do we make sure that we're on the right side of that, taking advantage of those opportunities? I think that's going to be a really big emerging area in the future. And I do think as an asset owner, we are in an incredibly privileged position, having access to such a broad range of information. We get information from investment banks. We get information from researchers, think tanks. Global peers. Consultants. You just think about the oceans of data and information coming into our building. I think our opportunity is to use generative AI to maybe harness some of the insights better and really achieve something unique and different.

AI assessment note: “We haven't really incorporated a lot of alternative data yet.”

Q As you went through your path from getting started to ultimately the CIO seat, what did you learn about how you wanted to deploy a pool of capital like this?

A I was quite fortunate coming into Hester because it was an inflection point for Hester in terms of the investment capability when they'd really decided to now start to internalize and insource and really build an investment team. So I did have that moment of pause just to think, well, it's not often you get a blank sheet of paper to build a team and a process and really what type of process do I believe is going to be in the best interest of Hester's members? I think you always start with the objectives. What really matters for the business? What really matters for the members? And how do we make sure that we bring our identity to life in our investment process? And what was clear is what matters to our members obviously is generating retirement income and achieving real returns so that they can actually have purchasing power in the future. So that focus on real return generation as well as managing the tails was important. We have over a million Australians as members. The membership is 80% female, and they come from the health and community services sectors. So they have quite high expectations in terms of how we are responsible stewards of their capital. They really want to see their capital, not just generating strong financial performance, which is critical for their retirement incomes, but also to be invested responsibly. So we knew responsible investment was going to be …

AI assessment note: “focus on real return generation as well as managing the tails was important”

Q What are the biggest frustrations or challenges in taking your portfolio and applying these metrics today?

A I think the reality is this is change. Financial professionals aren't necessarily trained in these things. We definitely need a team that cares enough about the problem to be willing to invest the time and energy to try and solve it. So we talk about being solutions capital. We want to think at the problem level, the system level, and then figure out how we can use capital to earn a return and help solve the problem. Now that requires people to lean in, to have a real growth mindset, to try and, you know, understand problems that might be outside of their day jobs. And really like a lot of it's scientific, you know, to really think and absorb a lot of scientific information to try and understand the impacts. So we've done a lot of work on growth mindset. We talk a lot about finding space for people to be curious and pursue these things. And I think that's a really important part of being successful in change.

AI assessment note: “Financial professionals aren't necessarily trained in these things.”