Susan Manske, chief investment officer of the John D. and Catherine T. MacArthur Foundation, said manager selection has been the primary driver of the foundation’s outperformance over the past two decades.
Looking forward, the foundation faces the challenge of how to evaluate managers in the coming artificial intelligence era that will transform the industry, she said.
Manske is retiring from the $8.7 billion Chicago-based foundation in June and a search has begun for her successor.
In an exclusive interview with Pensions & Investments, the first since announcing her retirement, Manske recalled that when she joined in May 2003, she and her investment staff believed that asset allocation would be the primary driver of outperformance.
“When we started, I think a lot of the mindset was timing and identifying in your asset allocation, deciding which is the best opportunity and moving things around was how you’re going to make money,” said Manske. “We — like everybody else — tried that probably for the first five years, put a lot of time and effort into it, and it really wasn’t all that additive.”
Then, Manske said she and her staff identified their “secret sauce” or competitive advantage as the exposure they got to managers because of the reputation and visibility of the MacArthur Foundation itself.
“Our ability to pick the best managers is the most consistent and additive process that we have, so we double down on that,” said Manske.
For the 20 years ended Dec. 31, the foundation has posted an annualized net return of 8.7%, above the benchmark return of 6.2%. For the one, five and 10 years ended Dec. 31, the foundation returned an annualized net 10.9%, 11.4% and 8.5%.
Looking to the future, Manske said the foundation will continue to spend most of its time trying to evaluate and find the best managers. The new challenge in evaluating those managers, she said, is artificial intelligence.
“How are those managers adopting AI? What skill is it giving them? Are they ahead of the rest of their competitors? How do they think about that, and interestingly, what does that mean about how we evaluate managers?” asked Manske.
The reason for asking these questions, she said, is because the world of money management is changing.
It used to be that she and her staff could look at managers’ returns and risk profiles and decide a given manager would be able to give them great returns.
“Now they’re building all these (data) infrastructures, and we’re trying to figure out who’s going to have the best package of this infrastructure data,” said Manske. “How are they going to use it? How is their model going to have a competitive advantage against the rest of the world? My big concern is: How do we get ready to evaluate that?”
Because of that, Manske wonder how the foundation’s investment staff is going to have to change its skill set to identify how managers are building their data infrastructure.
“We’ve identified three or four managers that we’ve added in the course of the last year, where we think they have that skill. We think that they are ahead of the curve,” said Manske, “but I think as the world goes faster and faster and faster, that’s going to become more and more difficult.”
Manager selection at a premium
Manske said manager selection is certainly at a premium in private equity and venture capital, which have seen lower returns in recent years.
“I think valuations across the board are more expensive now than they were,” said Manske, “so when you start from a higher point, your expected return going forward is lower.”
Manske said the foundation has gotten into private equity and venture capital for all the reasons similar institutions have done so, in order to get into the newest growth business and capture that illiquidity premium.
“I think some of our peers even have more exposure than we do, just because we’re worried about overall down markets, making sure we can handle illiquidity,” said Manske. “I do think manager selection is at a premium, and as you know, in venture capital the best managers make significantly more than the median and most of the median venture capital managers don’t outperform the public markets.”
Manske said the foundation goes through a quarterly rebalancing, through which they are trying to keep the portfolio close to the overall beta exposure they want.
As of Dec. 31, the foundation’s actual allocation was 60.5% marketable assets and 39.5% private assets. Within marketable assets, 34.5% of the total portfolio was in global equities, 16% in U.S. Treasuries and cash, and 10% in marketable credit. Within private assets, 22.6% of the total portfolio was in private equity, 9.1% in private credit/special situations and 7.8% real assets.
“Where some of my peers were very, very heavy in venture capital, they rode it for years until two years ago,” she said. “Then they had these huge corrections, and we don’t think those are great. We would prefer not be in that position. We would prefer not to be having secondary sales because you take a 20% to 30% to 50% discount to do that. We’re much more of a kind of disciplined little engine, where we just keep taking what the market gives us and maintaining our exposure so that we can achieve this 5% real return.”
“We could have a riskier portfolio, and that might give us a higher return, but our committee has said, through our analysis and how we've modeled the portfolio, they don't want that. They want what we're giving them.”
Manske said they are committed to private equity and venture capital, and she doesn’t see the foundation either significantly increasing or decreasing their exposure.
Before joining the foundation in 2003, Manske spent two years as vice president and CIO, trust investments, at Boeing Co., Chicago, overseeing the investment management of that company’s retirement plan assets, which includes the largest U.S. corporate pension plan. She had previously spent 13 years with Ameritech Corp., Chicago, joining the telecommunications company (now a subsidiary of Dallas-based AT&T Inc.) in 1987 as a manager, fixed income, eventually ascending to the role of CIO from 1998 to 2000.
Quantitative risk analysis
“There was a lot more fundamental analysis back then on specific active managers and it was all about expected return, creating a portfolio that had a 5% real return, which we still do,” said Manske.
However, it wasn’t long after arriving that she realized the investment portfolio needed more quantitative risk analysis, and she and investment staff set up an active risk budget process, which was eventually approved by the foundation’s investment committee.
“My intention there was to show that when we're managing against a passive index or a benchmark, we can take a lot of active risk, but from the committee’s perspective, what they want to know is when I’m taking that active risk, am I getting paid for it?” said Manske. “So we set up a structure so they could evaluate that... and largely over time, we’ve achieved that, which is a good thing.”
Manske said the next thing she and her staff did was make the observation that most active managers, net of fees, largely do not outperform their benchmarks, and that is something that an asset owner cannot make up in value.
“We identified the fact that if you take a portfolio of hedge funds, which at the time were the highest risk-adjusted performing managers, you can identify the risks and the exposures that they have and then compare that to a benchmark,” said Manske. “You can add under it derivative exposure to give it the same profile as a long-only manager, but it has a much higher active return.”
Manske said they called the program global overlay, and they continue to run it on all the endowment’s public market exposure.
“I don't think many of my peers were doing that then,” she said. “More are doing it now, but it's probably been the biggest contributor to our excess performance over the last 21 years.”
As she looks ahead to her final seven months as CIO, Manske said her priorities remain the same.
“They always are to try to outperform and generate as much excess return as we can for the MacArthur Foundation,” she said. “My team and I are committed to that, and nothing about that changes.” The foundation has begun a search for her successor.
After she retires, Manske said, she will sleep more, perhaps add two more dogs to the one she already has and spend more time with her 6-month-old grandson and the rest of her family.
“There will be philanthropic charity work in there,” she said, but mostly she is looking to move on to a slightly different place.
“I’m excited about it,” she said.