Outsourced CIO assets from pension funds slipped over the past year. Here's why managers aren't concerned.

Institutional demand for outsourced CIO services motored ahead in 2023, even as the baton in the race to drive industry growth showed signs of passing from defined benefit pools to endowments, foundations and defined contribution plans.

Pensions & Investments’ annual survey of leading OCIO managers for the year through March 31 showed worldwide outsourced assets under management rebounding 16.7% to $3.07 trillion, from a 2.8% drop the year before.

Outsourced AUM for U.S. clients, meanwhile, rose 14.4% to $2.15 trillion, following a flat prior year.

By U.S. client segment, DB plans — which the year before posted stronger gains in outsourced AUM than endowments, foundations and defined contribution plans — went from first place to last in the latest tally.

Outsourced AUM for U.S. DB clients — adjusted to account for State Street Global Advisors not breaking out its DB client AUM after reporting $62.5 billion the year before — slipped roughly 1.9% to $563.9 billion.

That decline came during a year that saw the Bloomberg Global EQ:FI 60-40 index jumping 15.2%, suggesting weak net flows for outsourced DB assets.

By contrast, OCIO managers reported AUM growth of more than 20% for both defined contribution plans, to $327.4 billion, and mission-based endowments and foundations, to a combined $383.8 billion.

The defined contribution segment likewise led the way in the number of clients outsourcing plan assets, up 39% to 29,814. Over the same period, the number of DB clients slipped 0.6% to 2,209.

Some analysts expect that new pattern of leadership to persist going forward.

Endowments, foundations and defined contribution should remain the fastest-growing institutional investor segments in terms of both the number of clients and outsourced AUM, predicted Amanda Tepper, managing partner of Westport, Conn.-based Chestnut Advisory Group, a management consultant to asset managers and investment solutions providers.

DB, by contrast, on the back of sponsors' growing appetite for pension risk transfers, will remain a “shrinking asset class,” Tepper said.

OCIO managers said that challenge to DB’s pride of place in the OCIO universe is an ironic outcome of the success managers have had in helping clients achieve fully funded pension plans, leaving clients in a position to move those liabilities off their balance sheets, should they choose to do so.

The past year “was really good in terms of outcomes for our clients (and) that meant we had a record year for risk transfer activity,” said Rich Nuzum, Mercer’s executive director, investments and global chief investment strategist.

While all of the big OCIO client segments are attractive, each has its own rhythm, and DB’s rhythm is particularly interesting now, Nuzum said.

“With a lot of our clients, we’re going to drive them to the destination and we’re going to help them park the car, and then it’s not our car anymore,” he said.

Mercer retained the top spot in the latest rankings with a 39% jump in worldwide institutional outsourced AUM to $469.2 billion and a 58% surge in U.S. outsourced assets to $198.4 billion, helped in part by two sizable acquisitions.

On April 3, 2023, Mercer closed the liftout of Australia’s BT Westpac business, “which brought us A$63 billion, more than 15,000 underlying employer clients, more than 850,000 (plan participants) and more than 300 new colleagues,” Nuzum said.

Less than a year later, on March 15, Mercer acquired Vanguard’s $60 billion, endowment and foundation-heavy OCIO business.

That DB client “rhythm” is something top OCIO managers say they should embrace.

“It’s a lost client for the correct reason,” said Michael Cagnina, senior vice president and managing director of SEI’s institutional business.

SEI has helped 76 different institutional clients reach that goal over the past decade or so, Cagnina noted. SEI ranked 13th in the latest survey with a 3.9% gain in worldwide OCIO assets to $90.6 billion, down from ninth place the year before.

Ryan Marshall, managing director and co-head of BlackRock's multiasset strategies and solutions investment group, likewise took a philosophical view: "It is part of the nature of serving pension clients ... and I assured my team that's something that we should celebrate, if that's our clients' objective."

"If we are very good at helping clients achieve that objective, I’m highly confident that we’re going to replace that AUM … with additional AUM, and we’ve been able to do that,” Marshall said.

BlackRock, which remained in third place in the latest rankings with a 7.6% rise in worldwide outsourced AUM to $240 billion, reported 29 U.S. DB clients as of March 31, down two from the year before. Outsourced DB assets fell 11% to $57.9 billion.

Industry leaders that have focused on DB insist that that market segment will remain a central pillar of their OCIO businesses going forward, even if DB-related flows have become more of a two-way street of late.

The types of organizations and the size of organizations interested in pursing outsourcing opportunities continue to expand significantly, said Timothy Braude, global head of multiasset solutions with Goldman Sachs Asset Management.

GSAM, in May, proved it was doing more than talking the talk in that regard, with its announcement that Atlanta-based UPS had tapped GSAM to manage its $43.4 billion in North American defined benefit assets, with UPS’s internal investment team forming the nucleus of a new Atlanta-based hub for GSAM’s OCIO business.

Five to 10 years ago, “if you had a $2 billion to $3 billion mandate” every 18 months, that would have really stood out, but today “we’re seeing $10 billion mandates trade every quarter,” Braude noted. It’s a chunky business and the chunks are getting larger and they’re coming more and more frequently, he said.

GSAM remained in second place in P&I’s latest ranking, with worldwide institutional outsourced AUM of $328.9 billion, up 33% from the year before and U.S. AUM of $211 billion, up 14.5%.

And even if DC outsourcing is accelerating now, there are reasons to remain focused on DB plans, Braude said.

Defined contribution investment outsourcing is “a different type of investment problem,” with a focus on curating lists of managers that DC plan participants can access.

“A DB portfolio is far more intellectually stimulating from an investment problem and investment solution standpoint, and that’s how you attract and retain really talented investors — you give them challenging problems to solve,” Braude said.

Still, with the growth of net DB exposures under pressure for much of the industry, OCIO executives say other market segments, including defined contribution, endowments, foundations, healthcare organizations and, more recently, public pension funds as well, are taking up the slack.

SEI’s Cagnina said nonprofits, in all their variety, are the fastest-growing segment of SEI’s business now. At present, the firm’s 181 nonprofit clients are just behind its 188 DB clients, but over the coming five to 10 years, the share of that client segment should rise to 65% to 70% of the firm’s client base, he predicted.

Nimisha Srivastava, head of investments, North America, with Willis Towers Watson, said while pension risk transfers weighed on her firm’s DB totals last year, DC assets posted strong growth.

The firm, which remained in fifth place with $163 billion in worldwide institutional outsourced assets, down 1.2% from the year before, reported a 25% drop in U.S. institutional DB assets to $39.9 billion, partly offset by a 22% gain in DC assets to $25.4 billion.

“As DB plans decline, assets in DC are growing and one of the solutions we’re really excited about is we launched our Lifesight pooled employer plan last year, which the firm anticipates will be capable of delivering strong growth over the coming year, Srivastava said.

Other OCIO managers likewise attributed their strong growth last year mainly to DC-related flows.

Defined contribution clients powered CAPTRUST Financial’s 61% surge in U.S. institutional outsourced AUM to $138.1 billion for the year through March 31, accounting for roughly $47 billion of its $52 billion gain in assets, said Matthew Patrick, senior manager, defined contribution with the Raleigh, N.C.-based OCIO provider.

The number of CAPTRUST DC clients, meanwhile, jumped by 240 to 1,330, dwarfing the firm's more modest increases in endowment, foundation and defined benefit clients.

The growth in DC assets, while up from between 20% and 35% in prior years, marks a continuation of a trend, with sponsors of ever-larger DC plans looking to clear their decks as much as possible to better focus on big-picture goals, such as getting more of their employees enrolled and giving them the education they need to get the most out of their company retirement offerings, Patrick said.

For sponsors that continue to own all of their plans' investment decisions, by contrast, the thorough oversight that entails can often find them spending an inordinate amount of time making a single change to their mutual fund lineups, Patrick said.

One of the biggest recent changes, meanwhile, has been a rising awareness of the legal risks sponsors face over investment-related decisions, which has left sponsors looking for ways to minimize those risks, he said.

Chestnut's Tepper said that charged legal environment has kept some OCIOs away from the DC market segment but Patrick said CAPTRUST isn't one of them, contending his firm's "robust" processes leave it well positioned to address any legal challenges.

CAPTRUST ranked eighth for P&I's latest survey, up from 10th the year before.

Mark Andersen, senior vice president and manager of Callan’s trust advisory group, said a handful of big DC client wins boosted his firm’s OCIO business last year to $33.7 billion, up 45% from the year before. Callan reported 31 clients as of March 31, up two from the year before, with its DC client total climbing to 20 from 18.

DC plans “are large and growing, and DB plans are large and maybe shrinking,” so even though DB plans will be around for a very long time, an argument can be made for focusing on DC, as Callan does, Andersen said.

As for the relative charms of DB and DC, market participants say DB OCIO mandates, with their greater complexity, offer higher fees while requiring greater oversight. When all is said and done the attractiveness of the two segments may well be comparable, some executives said.

Andersen said thinner basis point fees have to be weighed against the relatively large size of DC-related mandates.

One industry veteran, who declined to be named, said while OCIOs typically garner higher fees for managing outsourced DB pools, the time horizon for a DC plan is theoretically perpetual while that of a DB plan might be much shorter — a trade-off OCIOs have to ponder as they consider what opportunities to pursue in building their businesses.

Still others said they see no reason to choose one over the other.

NEPC’s 73% gain in worldwide institutional outsourced AUM to $106.6 billion for the year through March 31 was powered by a combination of new DB and DC clients, said Scott Perry, a partner and head of portfolio strategy with the Boston-based consult and investment house.

“We had a number of large defined contribution programs that engaged us for OCIO mandates … and then there were a lot of advisory clients that we had relationships with that asked us to play a bigger role in their investment programs,” he noted.

Meanwhile, more broadly, all signs point to a growing appetite for OCIO services, analysts said.

“Solutions are winning. Solutions is where it’s going in the long term,” noted Chestnut’s Tepper.

“We just saw a large increase in RFPs” last year, most in the back half, which helped Russell start the year with $20 billion in yet-to-be-funded OCIO mandates, said Lindy Freeman, global head of institutional with Russell Investments.

And that momentum has continued into 2024, with the strongest quarter Russell has ever seen in terms of new searches in the Americas, Freeman said.

Russell edged up to sixth place in the latest rankings from seventh the year before on the strength of a 6% rise to $161.6 billion in worldwide institutional outsourced AUM.