The Exchanges

Q I guess we should dive in right there. So where do we want to be right now?

A Yeah, I think the big challenge that we're having and assessing this is how to separate The short-term tactical side of things with the long-term view. I think the long-term view is actually really interesting right now. If you look at, we just went through a full rerunning of all of our assumptions, and we've got equity assumptions in the sixes, the sevens, even higher for emerging markets, and then a treasury assumption at . Six percent right in line with the yield right now. And you run that through, and you see a huge equity risk premium that there is a case for taking beta on right now over a ten-year time horizon. And that's true for credit as well, where sure, again, just like equities, there could be another leg down, but the yield is pretty attractive and should compensate you fairly well for the default cycle that we're likely to go through. That's really interesting over the long term. In the short term, I think it's just Really hard to look at things and say, all right, we're moving forward and markets are going up and we're going to buy more when it feels like the market's gotten a little bit ahead of itself and we're more likely to see a snapback in the wrong direction.

AI assessment note: “there is a case for taking beta on right now over a ten-year time horizon.”

Q Yeah, and how do you do that? Do you have 400 clients? You have an OCIO business with twenty billion dollars, and you have ten million of capacity in a manager that many of the clients may want access to. How do you allocate that out?

A So we have an allocation policy that we stick to every time there's capacity constraints, and what we do is, when a manager or fund is approved, and we believe that there'll be capacity constraints, we make all consultants aware of it through email, and they can choose whether it's a fit for their client or not, Work with clients to see if they want to allocate, and then we gather all the interest, and so let's say, in that example, we think we'll get ten million dollars of capacity, and we get twenty million dollars of interest from our clients. We take that twenty million dollars, put it in a list, and we give that back to the manager, and they make the decision of how they want to allocate, so we're not making the choice of one client over another. We're not choosing OCIO over advisory. They all go in together, And the manager makes that decision. Certainly when we have over allocations, we're pushing for the manager to make more room for us so our clients can get fully allocated. But when they get cut, it's either pro rata or some clients don't get in.

AI assessment note: “we give that back to the manager, and they make the decision”

Q How do you think about the people side of the cultural fit?

A That was hard, and we can get into it because we're a fifty-person partnership, so in some ways, it's a challenging process to get a vote from 50 partners, but it also gives you really good representation of your entire employee base, so you get a really good sense of where things stand and how employees will feel about this process and about a change in ownership. So that was probably the longest part of our process. Having our partners keep it confidential for what amounted to about seven months, Which is a borderline miracle at the end of the day. We got partners involved, and that doesn't mean all 50 partners were on every call, but we had different work streams of diligence. We're investors in Hightower equity. Through this transaction, we had to do due diligence on Hightower as a business. We had to understand that strategic opportunity of rolling out funds and investment solutions to the advisors, so we put a diligence work stream on that. We had to understand integration and what that would look like. Who would be working with who between NEPC and Hightower if we were to integrate and work together? So lots of people got involved in the process and that helped create buy-in across our partnership. And then there's a financial aspect too. We made sure that all of our 350 plus employees are getting something out of this transaction. There's a bonus for every single person…

AI assessment note: “Who would be working with who between NEPC and Hightower if we were to integrate”

Q How's your team going through their typical due diligence process remotely?

A So we've got heads of public markets, hedge funds, private equity, and real assets. We met as a group and came up with some consistent ways that we'd approach virtual onsites. We wanted to make sure that we don't think it's any less quality of work, but we wanted to make sure we had a consistent process across our teams. So we said, we've got to do video. And we've got to make sure that we get several members of an investment team together at once. I think that's one of the most important parts of going on site. It's not just seeing that they actually have office space and meeting someone face to face. It's seeing how a team engages with one another, who defers to who, who's really driving the room, how they go back and forth. Is it a collaborative environment that they work within, or is there Just one or two folks who are the alphas in the room, understanding that can really give you a better sense of how they make decisions and how they drive to investment conclusions. So we want to make sure that we do that, recognizing that whether it's a zoom call or some other form of video isn't going to capture that fully. We at least have to take our best shot at that. And then we're trying to do some enhanced operational due diligence. Since we can't get onsite with managers that we haven't been onsite with before, We're having our operational due diligence team do some additional wo…

AI assessment note: “came up with some consistent ways that we'd approach virtual onsites.”

Q Have you at NEPC gone into that business?

A We have. We were probably a couple years late, more than a couple, I'd say. We were, we were late getting into that business. It was, uh, 20 11, 20 12 when we launched our OCIO platform. Probably from a pure business perspective, In the least scalable and, uh, and least NEPC friendly kind of way. I think in that client first mindset and that belief in our fiduciary responsibility that we have, we didn't want to launch funds. We didn't want a one size fits all model for our clients. So we have what is now a large OCIO business with probably over twenty billion dollars, over 50 clients. Every portfolio that we build is bespoke. There's some benefits to that for the client. It means that it's customized to their specific needs. It means when they come on, we're looking at every manager existing in their lineup and not blowing everything out. Whether it's a top rated manager for us, if we think it's a good manager and an appropriate manager, we may keep them in the portfolio. And, you know, if they decide to leave us someday, which we hope doesn't happen, they're not creating transaction costs, having to liquidate out of A couple of different funds and then move into something else. They still own all the assets. So we just thought at the end of the day that that was the better model for our clients. It's a much less scalable model for us. It means we've got a set of portfolios tha…

AI assessment note: “We have. We were probably a couple years late”

Q All right, Tim, let's turn to some closing questions. What's your favorite hobby or activity outside of work and family?

A It's probably running. Could be golfing, but it's probably running, and it's funny how that's evolved for me. I mentioned I was a runner in college, so it was a competitive thing for me at first, and it evolved to be just a physical activity to stay in shape. Now it's become more of a family activity and more about the mental health than anything else. One of my favorite things to do on weekends is get out and run, run six or eight miles, and I'll be pushing one kid in the stroller and another kid riding the bike with me. So there's the family element to it, but Mindfulness and meditating is all the rage now. Everyone talks about that, and as I've heard people talk about it and listen to it, what I hear they get out of it, I've come to realize is what I get out of running. Just that clearing of the head, being in the moment, and being aware. It's as much about the mental health as is the physical health for me these days.

AI assessment note: “It's probably running. Could be golfing, but it's probably running”

Q When you have that Diverse of a range of clients. How do you approach the core problem of how you serve them?

A I think at the end of the day, the investment objective is to earn a certain return to beat a benchmark, beat a liability, beat a long-term return objective. So if we can boil it down to the core investment goals and the core organizational goals, we can get to some themes that make sense across all clients. But the way that we organize is for our consulting practices to organize by those client types. So every client is unique, but there's certain things that are similar for all healthcare organizations. All healthcare organizations are going to think about their day's cash on hand, how much liquidity they have, and they're going to think about all the regulations that come with healthcare and the consolidation that's going on there. All public pensions are going to think about their long-term discount rate, their funded status, The political dynamic within their own jurisdiction. All corporate plans are going to think about liability-driven investing and whether they want to be in their pension plan long term. So there's certain themes across each client type that are similar, and so we organize our consultants to really focus on one segment versus another so they can specialize, and then they can bring those insights to our research team, and we can take those insights and try to find the strategies that fit with those insights.

AI assessment note: “the way that we organize is for our consulting practices to organize by those client types.”

Q So Tim, you mentioned seven months where all 50 of your partners knew this was happening. Were there any surprises along the way that took this, what sounds like a nice path, where you thought this might derail?

A There were. It feels like a long time ago, given everything that's played out. There was a moment where there was a rumor out there that we were being bought by one of our competitors, which if you're going to have a rumor out there, having it be the wrong rumor is actually ideal because you can deny it and you don't have to give any more information. So I can say the idea that Mercer was buying us was not accurate at all. So we could just deny, deny, and not worry about it. As it got close, the number of people that get involved, not within NEPC or within Hightower, but the different investment bankers, the law firms, it feels very confidential, but there's a lot of eyes that get on this thing, and it started to filter out again. And we were hearing from investment managers to our employees that there was something in the works. They didn't know exactly what. We were far enough along at that point that we could have sped things up to get things done, even though it felt like we were going as fast as we possibly could. Those were the external moments that we worried. Is something going to pop up here that really derails things or just gets us really distracted? I think there were a lot of internal moments too within the partnership, getting that buy-in. There were lots of points where partners wanted more information, wanted to be more involved. You just can't get everyone invo…

AI assessment note: “There were. It feels like a long time ago, given everything that's played out.”

Q Well, we're going to talk through what you guys have gone through in the business the last couple of weeks. I want to start with this whole concept of consolidation. And in your eyes, what's going on? And open it up to either one of you to start.

A I feel like consolidation has been happening in the consulting world for years and years, that this is just a continuation. We go back 15 plus years to Enes Kanup getting sold to Aon, and it goes on from there. So we're just in the latest cycle of it, which is new and different. The previous phases of consolidation were consulting firms mashing together and trying to get scale in a challenging business where there's not a lot of new growth and you're trying to win market share. Those same challenges have existed for those that got to scale. And we've had to add new business lines as different types of consultants. It's hard to just be one type of consultant, just consult to endowments, just consult to pensions. The tailwind that has helped all of us the last decade is the OCIO channel. And that has been a great source of growth for us and many others. So you look forward and think, how are we going to grow in a business that continues to have fee pressure, just like the investment management world? And you look for another new channel, and you see the RIA space that is growing, that's going through a different kind of consolidation with all these smaller independent RIAs, but you see this tailwind of new wealth coming in there, RIAs needing a lot of investment help, and these platforms that have been created that really maybe don't have that full investment engine that a lot of…

AI assessment note: “consolidation has been happening in the consulting world for years and years”

Q So one of the things that neither of you said as a response from clients Is a client just saying, great for you, what's in it for me?

A I think we've heard that a lot from clients. And Simon, it sounds like you're offering your clients some new services that you didn't have before. It's a little different for us where that institutional service of our business is, we hope, not going to be changed. But there's not a suite of tools that Hightower gives us that we're not already providing for those clients. So we don't have that easy answer for them to say, hey, here's this new thing you're going to get by us working with Hightower. So the answer is a little bit more nuanced, and what we've said is the reason why we're doing this is we think this can make us a more successful business over the long term. It can allow us to invest back into our business, to continue finding new great investment ideas, to pay our people well so they want to be here for the long term and you've got continuity with your team. The other thing is this is going to continue to happen. I don't think these are the last two firms that are going to tie up with RIA platforms. It is a growth story. There's a lot of tailwinds to the RIA marketplace that aren't in place for the institutional world, where we're going to see more of these consolidations, and we know who our dance partner is, and we're ahead on the race, and that's definitely a good thing for us, and we hope for our clients too.

AI assessment note: “what we've said is the reason why we're doing this is”

Q game-changing, and an awakening. If that's not how you would describe your investment management tech, request a demo at ridgeline.ai. And now, back to the show. So once you make this announcement, love to walk through the reactions of various constituents. So Tim, why don't we start with your clients? Because unlike the leak that turned into a blessing, your clients probably didn't know anything at that point in time.

A That's right. So it was all hands on deck to call clients as close to at the same time as we could. We had a essentially two hour window before it started going out through various channels. It was employees first, first thing in the morning, then clients, and then it started hitting the press and becoming public information. There's a wide range across our clients. You have those clients that you've been with a long time that have a lot of trust in you and take a lot of pride in the relationship they have with NEPC, the same way we take a lot of pride in the relationship we have with them. And some of them are excited for the new opportunity for NEPC, and that's great. Really happy for you guys. Let me know what I need to sign. You have other clients that are naturally more skeptical that want to dig in and ask a lot of questions and understand the rationale for it. There's a couple of cohorts of clients that were unique in their reservations about it. One is any clients that we brought on in the last six to 12 months in any competitive situation where we didn't know if a deal would go through. We couldn't say it in that process. And you do feel terrible about that, that you can't be completely upfront and honest when you're trying to build a long-term trusting relationship And you're getting off a little bit on the wrong foot. Those clients appropriately were disappointed by …

AI assessment note: “There's a wide range across our clients. You have those clients that you've been with”

Q So with that type of risk profile and a mothership behind it, like BlackRock, how does that influence how you think about position sizing of that, say, strategic income fund in those clients that use it?

A It's really interesting because it's down the middle from an overall portfolio perspective. It's a reasonable volatility level. It's a return expectation above what you might expect from just getting core bond exposure with 50 basis points of expected alpha on top of that. But within a fixed income allocation, It's a pretty high tracking error strategy when you think about what most fixed income strategies deliver for tracking error. So you have to think of it in a total portfolio context. And so for our clients that are thinking within their fixed income portfolio, they only want so much ball. It's not as much of a fit for our clients that are looking on more of a total return basis and comparing it maybe to a source of alpha from the equity side, then it gets really interesting. And still, you do have to be careful with sizing. A lot of times with some of our Most return-seeking clients, there's just not enough fixed income exposure to get much exposure to this. You really, you maybe only have 10 or 15% of traditional long-only fixed income, and this maybe takes up half of it. But for some clients, it's going to be their biggest fixed income allocation, but it's not going to be that supersized core bond allocation that you're used to seeing in a really classic sixty-forty portfolio.

AI assessment note: “You really, you maybe only have 10 or 15% of traditional long-only fixed income, and this maybe takes up half of it.”

Q What are you seeing in terms of private equity firms? And you get these periods of time where there may be opportunities, there may be pain to take, and clients have to think about the capital commitments they've made.

A We're trying to advise clients. Where they're able to look past any denominator effect they might be seeing in the near term and think about continuing to make those commitments for this year. This could be some of the best opportunities that come along in years for new private market funds. Some clients won't be able to do that. Some clients, the denominator effect will be severe enough that they've got to resize commitments Even in those cases, we'd like them to be careful about that because that denominator effect does hopefully end up being pretty transient. You work your way out of it over time through repacing year over year and not by making a dramatic move in one year. The really interesting thing will be less about the pacing side for private markets and the marks that come in in the first and second quarter for this year, how severe the markdowns are. Well, we'll see how big of a denominator effect it actually is if Some of those private equity funds are conservative in their marks.

AI assessment note: “think about continuing to make those commitments for this year.”

Q And what have you seen across the breadth of your clients in terms of the range of actions that they may have taken during these last couple weeks?

A One segment of our clients that's Really interesting and really challenged right now is the healthcare space, where they are at the front lines of the COVID-in pandemic. And not only from an operating perspective, where it's all hands on deck from a healthcare perspective, but also from a finance and investments perspective, where they're looking at making sure they have liquidity. So most of those clients have been Less focused on new opportunities, less focused on even rebalancing, just making sure that they have credit lines in place, that they have access to liquidity if they need it. There's so much uncertainty for them that they're focused on just maintaining the day to day and less on the investments and looking forward. And then we have other clients that can take a longer view. I think Public funds have been doing their typical rebalancing. It's interesting for public funds, those first few weeks of moving into a work from home environment, Public funds are used to an open meeting aspect and being able to welcome anyone into their meetings to have a voice, and so a lot of them had to cancel their meetings. I think they were able to work in the background. The investment staff was still able to get stuff done, but it was a little bit harder for them to adjust. And then on the private client side, they've probably been doing less, but I think they'll start to do more. Th…

AI assessment note: “One segment of our clients that's Really interesting and really challenged right now is the healthcare space”

Q Do you think that the pacing of your due diligence and on ramping of new investment opportunities will be roughly the same?

A I actually think it'll be slow right now, and right now being the next One to three months, call it. And then I think it's going to ramp up like crazy. One, it'll be a little bit of a backlog. And two, what we were talking about earlier, some of those credit opportunities are going to be coming online. Distressed opportunities are going to be really interesting. I think there's going to be a lot to do in the private debt space, distressed existing credit opportunities that we are going to be cycling a lot of stuff through. And we saw that In 2008 into 2009 from a credit ops perspective, we were just running so many things through because you want to attack it across the liquidity spectrum, both for any given client that's building a diversified portfolio, but also for the various clients that we have, they're going to have different risk return requirements and different risk tolerances. And they've got to have different ways to access the opportunities.

AI assessment note: “I actually think it'll be slow right now [...] And then I think it's going to ramp up”

Q How do you think about The competitive proposition. So there's a lot of other large consultants. You're serving in every different channel, and some just specialized in one. How does the competition work?

A Yeah, it's funny because it would be a lot cleaner for us if we just had one competitor. Then we could figure out how to attack them and, and try to beat them in the best way possible. And when I think about those different client types, we've got a different formidable competitor In each and every segment. So we've got to think about how we stack up against different kinds of competitors. Sometimes we're going up against a global actuarial firm that has global resources offices across the world, but maybe a different overall research mandate where they're trying to build out a database of managers and have an opinion on not every manager, but a vast majority of managers where We're trying to take a much more focused approach to our research and trying to identify just the very best ideas and get those into client portfolios. And then in other segments, we're dealing with more niche players who are very, very focused and looking at a small set of managers, but maybe don't have the resources that we have to cover everything. So we've got to think about the benefit that we bring in being global and being able to cover everything. And in some ways, you feel like you're saying different things to different clients. And I think we're trying to meet Clients meet investors where they are. I think one of the things that we really value about NEPC is that we can be flexible with how we …

AI assessment note: “we've got a different formidable competitor In each and every segment.”

Q And on the investment side, were there any behavioral changes or dealing with behavioral bias that you hadn't had to before?

A Yeah, I think we had to be careful about not getting too short-term, because in some cases, Potential buyers were thinking of OCIO as a much more tactical model, and so we had to be careful about what the marketplace was looking for. They thought they wanted a more tactical trader of their portfolio. That's not our view of how you run an institutional portfolio, and so we had to be careful about that. We'd bring a client on, and six months in, they'd say, once we've implemented things, maybe six months after everything's fully implemented, they'd say, Wait, nothing's changed. You haven't moved the equity portfolio at all. You haven't done anything in fixed income. And we'd have to say, well, our views haven't changed that much. We're trying to think about the long-term. So I think we had to think about that more and make sure that we were comfortable being more long-term oriented, but still looking for opportunities, trading a little bit more and being quick when we saw moves. So we're at our best in OCIO when there's some sort of big event, when we see we're rebalancing, we're re-upping in a way that In a typical advisory model, you've got to wait to the next client meeting to make a recommendation. We can look that equities are down 10%. We still think they have a long-term expected return that's above fixed income. We should be rebalancing now. So being quick to rebalance, b…

AI assessment note: “we had to be careful about not getting too short-term”

Q When you're going to pitch for business, it sounds like you are kind of sensing who's the competition and you're going to care your story. Is there an NEPC story?

A There's an NEPC story that is consistent every time, that we are client service oriented, that clients come first in everything that we do, and you can feel that in our DNA and our culture and how we work together, that it's a Almost to a fault sometimes. It's a yes culture. Between research and consulting, research has to trust that if a consultant is asking a researcher to attend a meeting or asking a researcher to look at a manager, they've got to trust that the consultant's thought about that and understands the value it can bring to the client, and that there's a client benefit to doing it, and the researcher says yes and does it, right? And so that client service aspect, everyone says they're great at client service. I really believe it's part of our DNA. And then the independence, I think, resonates across any of those messages that we are, we're 38 partners who own the business 100%. There's not an outside owner. We're not publicly traded. Whether it's a differentiator or not, that's part of who we are, and that's when we think long-term, five years, 10 years, 20 years out, that's who we want to be. There's been a lot of consolidation in our industry. A lot of those big players have scooped up some of the smaller ones. That's not part of who we are. We're not looking to grow the business and sell out in three years. We're looking to be an independent firm that is passin…

AI assessment note: “There's an NEPC story that is consistent every time, that we are client service oriented”

Q So this stuff comes through the filter. What do those meetings then look like on your team, the qualitative due diligence?

A It's something that I, leading the group, I struggle with sometimes because you want to have consistency of research. You want to be getting towards an NEPC process for manager research where we are consistent and reliable on how we do that. But We don't want to get to the point where it's just a checklist approach, and there's no creativity. We're not allowing the researchers to really go in whatever direction that they need to. So I'd say there's big categories that we want them to cover in those meetings, but each researcher can get to some of those places however they need to. So we try to balance that by giving each researcher the, the freedom to conduct the meetings the way that they want, but also The structure of having to write up what they got out of those meetings in a pretty consistent way. So it could be some of our researchers want a very structured meeting where they're going through each step of the process and point by point getting through their agenda, and that's the way they draw their insights. Others want to just let the portfolio manager start talking and then wait for that point where something sounds inconsistent and then try to not catch them in a trap, but Really figure out is the logic that they're applying here true throughout, or is it just a marketing statement?

AI assessment note: “some of our researchers want a very structured meeting... Others want to just let the portfolio manager start talking”

Q What is that agenda that everybody tries to cover?

A There's nothing revolutionary about that. It's understanding the people, the process, the philosophy that they have, the, the reason why they believe they can outperform throughout time and consistently over time. Trying to get to what biases they have and do they understand those biases. I think the people part to me is the most important. It's, It's not just who they are, but it's how they work together, how they interact, and sometimes that's more subtle things. Sometimes, sometimes there's a named portfolio manager, but you get a group in the room and you realize they're deferring to the director of research on everything, and that's the real power player here. And that, you may like the strategy either way, but it's a really important insight that if anything ever happens there, if, if that person leaves, it's much more important than if the portfolio manager leaves. So getting to some of those Subtle but important points is, I think, a critical part of the research process.

AI assessment note: “It's understanding the people, the process, the philosophy that they have”

Q I gotta ask for a sneak preview. Is there, as you're looking out to January, is there anything that you're seeing that doesn't feel like consensus?

A We see a lot of late cycle dynamics starting to play out in the market, and I'm struggling with whether to call that consensus or not, because it feels like when we talk to other multi-asset managers, allocators of capital, We're hearing similar things from them. We're hearing similar viewpoints that are pretty consistent with that. When we look at the overall market picture and what's in the press and what people are forecasting, what's priced in the markets, it doesn't feel as consensus all of a sudden. The market is still pricing in pretty lofty expectations for earnings growth. The market is pricing in pretty modest increases in Fed policy over the next year or two years. So It feels non-consensus to the calculus of the market dynamics, but feels like it's pretty consistent with what we're hearing from other allocators of capital, so I don't know if that's consensus or not.

AI assessment note: “It feels non-consensus to the calculus of the market dynamics”

Q You started the public side with a big set of data. How do you go about thinking about that initial filter with private assets?

A There are some databases and tools that you can use to gather information about what funds are out there in the marketplace. The striking thing to me, when I moved into the chief investment officer role, I had spent less time on the alternative side than I had on the long only and asset allocation side. And so I had lived in a world where you've got managers Banging down your door every day, telling you how smart and good looking you are and laughing at all your jokes. And all of a sudden, I've seen the private equity side where it's almost reversed, where we've got to go pound the pavement. We've got to go build the relationships. We've got to get out to conferences and understand who's out there and go out to the Bay Area and try to get access to some of these name brand high profile managers, particularly in the venture space. So it was striking for me how much different it is. So there's the database work up front to understand who the overall, the universe of managers is, but the experience of knowing the space and building a manager relationship over multiple years is so important on the private equity side in a way that, I mean, certainly you want to build long-term relationships with managers on the traditional side as well, but in most cases you can pick up the phone with a long-only manager and say, hey, we'd like to allocate to you, and it can be done pretty quickly.…

AI assessment note: “there's the database work up front to understand who the overall, the universe of managers is”