Markets run through Keith Skeoch's blood.
The CEO of Standard Life Investments has lived and breathed economics — which he describes as his profession by training — ever since his first job out of college with the U.K.'s Government Economic Service more than 30 years ago. He served another stint as chief economist at London-based stockbroker James Capel & Co., which later became HSBC Securities. So when it comes to running a money management company, Mr. Skeoch's approach has been decidedly more “macro” than “micro.”
Mr. Skeoch became CEO at Standard Life in 2004; he joined the company in 1999. So far under his watch, assets under management have risen about 50%, to £160.6 billion ($260 billion) as of March 31. The portion managed for external clients is nearly half of that total, compared with less than 20% at the end of 2004. International expansion is also part of the growth strategy, with assets sourced from non-U.K. clients soaring to about 35% of the total AUM from next to nothing when Mr. Skeoch came on board.
What do you see as the biggest challenges for the fund management industry? There are three big challenges. The nature of risk in the financial market has changed markedly, which means the nature of returns will change going forward and clients' needs will change. A huge challenge for the industry is that when looking at how we can deliver those solutions, we need to take a longer-term perspective. We need to be much more thoughtful and careful, particularly in the retail space, so that we don't end up launching vehicles that are hot or fashionable, only to learn that any returns only persist for a short time. These two things are very important because of the reputational risk. I happen to believe that as an industry, if we get things right and deliver solutions in the right kind of format, we can have a positive impact on people's lives. The third challenge, which is part and parcel of that, is dealing with regulators and government.
Can you clarify that last point? There are approximately $65 trillion of institutional assets around the world, which represents about 175% of developed world (gross domestic product). Now there's a huge debate going on around the world about short-termism, and whether that short-termism helped to facilitate and deepened the financial crisis. ... One of my worries is that not many people are thinking about the supply of long-term savings as opposed to the characteristics of running the money. We need to, as investment managers, work with plan sponsors and funds to ensure that regulators and policymakers recognize some of the unintended consequences of running policies in a way that actually forces (institutional investors) to take a much more short-term view. ... It's not just that current macro policy and prudential framework pushes you into a particular direction, but (that it) is actually constraining the investment freedom of the fund managers. Their ability to access attractive long-run returns — which show up in the short term as very large risk premia — is being made very difficult.
What sort of impact do you think that will have on fund management? I think we're up for a period of profound change and I think that period of profound change is really just beginning. ... Over the next five to six years, the way that we put together portfolios and the contents of that portfolio will have to change quite radically.
How might that affect investment strategies? In a simple example, let's take corporate bonds and equities. Do we really want to think about them in terms of different asset classes? Actually they are basically a call on the same set of cash flows. It's just a question of your rights and where you stand in the capital structure. So maybe one of the emerging asset classes should simply be to make sure that you build a portfolio that has exposure to this particular set of cash flows and how you diversify away inflation, which is clearly something in which people are thinking more deeply. ... As you start to think about the world in terms of different asset buckets that make up your risk parameters, you start to think about what true diversification really is. If you can combine (sources of returns) that are truly diversifying and uncorrelated at the points of stress, that's the way you limit drawdown in your portfolio..
How have changes in the investment environment changed the way you're running Standard Life Investments? Quite deeply. Our best-selling product is the Global Absolute Return Strategy, which resulted from the need to deliver a well-diversified return engine in our own pension fund back in 2004. That product was seeded with about £1 billion and has grown to over £15 billion under management today. GARS began with quite a strong debate amongst the trustees and it was recognized that we needed to put some kind of de-risking in place for our own pension fund. When we analyzed the problem carefully, we also realized we needed a return engine that's going to have a reasonable chance of delivering (additional) returns along with a cash-flow matching overlay that allows you to meet the long-term cash flows. What we did was we gathered some of our investors and some of our most talented people into a room and told them: “Here's a problem, and here's a blank piece of paper. Now remove all your normal investments constraints and come up with a solution.”
Can you run through the process of how GARS began life in order to meet the needs of Standard Life's own pension fund? We worked out very quickly that the return we needed to deliver was something that matched with wage inflation rather than returns on interest rates, because that's simply the liability of the pension fund. The best way of doing that was an absolute-return approach. We then paid a lot of attention on how we constructed the portfolio, looked at diversification, looked to minimize volatility by minimizing drawdown risk, threw lots and lots of stresses at a portfolio. We then had a mechanism by which we built this GARS portfolio by extracting alpha from over 300 investment professionals in Standard Life Investments. We were looking to Hoover up the key insights of the firm largely in macro markets. ... We always thought, to be honest, that it would be a structural success, but we had no idea that the financial crisis was a few years round the corner, and that this form of investing would be so attractive.
What are some of the lessons learned in the development of GARS and other investment strategies? My view is that the gestation or investment cycle in our industry is quite long; to be more precise, it's about seven years. If you have a bright idea, it takes you probably one to two years to put the idea into practice, make sure that it has got alpha and delivers the performance needed. In years two and three, you convince the consultants and the guardians or the gatekeepers whether this works. Then it takes years four and five to sell and build up flow, and after all that, maybe you actually make money in years six and seven. If you believe a product cycle is that long — as we do — it really forces you to do two things: constantly think ahead about client needs and how the grain of the market is changing. Secondly, we need to launch solutions into the market place that will be long-lived in terms of what they do for meeting client needs or a component of client needs.