More endowments, DC plans make OCIO jump

Outsourced CIO managers saw a modest increase in assets across their full and partial discretionary mandates with worldwide institutional investors in the year ended March 31, when AUM rose 4.7% to $1.82 trillion, data from Pensions & Investments' annual survey show.

But across their U.S. client base, OCIO providers captured more rapid AUM growth of 6.4%, reaching $1.23 trillion in full and partial discretionary assets over the year.

In the U.S., defined contribution plans and endowments represented the fastest-growing segment of managers' book of business with institutional clients.

Of note, OCIO managers saw a 67.2% spike in outsourced assets under management with U.S. endowments, reporting $47.6 billion as of March 31. Mandates with U.S. DC clients grew 44.2% to $164 billion as of March 31, survey data showed.

The number of U.S. clients outsourcing also grew nearly across the board by investor type, which showed that managers were successful at bringing on new clients — and not just boosting the size of their existing OCIO mandates or reaping the benefits of market gains — to claim new assets.

In the U.S., managers responding to the survey reported 3,252 DC plan clients, up 66.3% over the year ended March 31. Firms reported 1,788 defined benefit clients in total, up 14% for the year; and 1,140 endowment clients, a nearly 15% increase.

Clint Cary, a Chicago-based managing director and the head of U.S. delegated investment solutions at Willis Towers Watson PLC, noted that "the DC space is a big growth area for (OCIO providers) in the industry," particularly as more plan sponsors grow comfortable outsourcing and OCIO firms gain an established track record.

The number of DC plans reaching $1 billion also is growing, which "just requires that much more time and attention to their (investment) solutions" — hence many moving to an OCIO provider, Mr. Cary said. As DC plans are getting larger, these asset owners are "starting to adopt an institutional approach to managing their programs, rather than the retail plans they started off as," he said.

OCIOs are also being tapped to help DC plans navigate the active regulatory environment. "In the DC space, it all about ERISA fiduciary standards. There's litigation that is always swirling around," Mr. Cary said.

For OCIO providers, the number of U.S. foundation clients remained flat, down 0.7% to 1,176 clients, the survey data found. But outsourced AUM among U.S. foundations rose 19.8% to nearly $58 billion.

Worldwide, managers' total number of institutional outsourcing clients grew 18.1% to 21,034 over the year.

The top three OCIO managers by worldwide full and partial discretionary assets remained unchanged this year, with Mercer LLC again retaining its No. 1 spot with $229.8 billion, an 8.4% increase in assets.

Russell Investments Group LLC, with $170.9 billion in assets as of March 31, retained its place at No. 2 on the list, seeing its assets rise by 4.4% year-over-year. Ranking third was Aon Hewitt Investment Consulting Inc., with assets growing 10.5% to $167.7 billion.

A longer-term analysis of P&I survey data reveals significant asset growth in the OCIO space over the past five years ended March 31, as managers' worldwide discretionary (full and partial) AUM with institutional investors rose 53.9% to $1.82 trillion.

Ryan Marshall, a New York-based managing director and global head of client portfolio solutions at BlackRock Inc., said that historically, its OCIO business largely consisted of mandates where the firm has partial discretion, and clients "wanted to maintain some dimension of control" over their portfolio.

More recently, however, BlackRock's growth in the U.S. OCIO market has helped boost its assets managed with full discretion, he said.

This year, BlackRock reported $127.2 billion in discretionary (full and partial) institutional AUM, rising to No. 4 on the list, up from fifth place last year. Over the year, BlackRock's assets in this channel grew by 20.9%.

"What's driving (this trend) is our growth in the U.S. is the most robust," Mr. Marshall said, adding that hiring managers with full discretion is more common in the U.S. than in Europe.

BlackRock reported an asset split of 77% full discretion vs. 23% partial discretion in the survey.

Mr. Marshall also noted that "the outsourcing industry has experienced fairly rapid growth over the past several years. Part of what is driving that growth is the challenging return environment."

As such, institutions have had to build portfolios with exposure to more asset classes, and, in many cases, seek outside investment advice to do so, he added.

"The trend that we're also seeing is the increased growth in clients wanting to add private asset classes in the portfolio mix," Mr. Marshall continued.

Tim Yates, managing director and head of the OCIO practice at Commonfund, a Wilton, Conn.-based investment manager for endowments and foundations, noted that endowments have also grown in size over the years, which has driven more non-profits to an OCIO model.

"A decade ago, it would be unusual if we talked to a $500 million endowment, but today our largest endowment client is around $1 billion," he said. "We are seeing the larger (endowments), with up to $2 billion, saying it makes sense ... to outsource this function," he said.

The rising complexity and costs of managing their portfolios, plus the array of OCIO models available to them, has also made providers attractive to non-profits, he said.

Commonfund was the second-largest manager of outsourced AUM for U.S. endowments, with $7.9 billion in AUM as of March 31, up nearly 6% from last year. Vanguard Group, Malvern, Pa., was the largest provider this year, with $8.2 billion in this client segment, up 47.8% for the year, the survey found.

Vanguard's overall OCIO assets under management (worldwide institutional with full and partial discretion) was $46.8 billion, up 12% from last year.

The largest managers of combined discretionary and non-discretionary assets for worldwide institutional investors, as of March 31, were Cambridge Associates LLC, with $232.4 billion in AUM, a 2.4% increase over last year; and Mercer, up 8.4% with $229.8 billion. Russell, which had $170.9 billion in assets in this channel, placed third and saw its assets grow by 4.4%. Rankings of the top three managers remained unchanged from last year.

Michael Cagnina, vice president and managing director of SEI Investments Co.'s institutional group, which provides OCIO services, noted that the industry has "changed significantly," with 81 OCIOs in the marketplace as of mid-2018.

That number has grown by about 55% since mid-2012, Mr. Cagnina added, citing data from executive search firm Charles Skorina & Co., Tucson, Ariz.

"Historically, (investors) were evaluating whether they should have an OCIO or a traditional consultant," he said. Now, there are OCIO search consultants, which are being hired to help investors pick the right service provider, he added. Furthermore, OCIOs are being tapped to provide comprehensive services beyond investment management.

An endowment, for instance, may want to know how an OCIO can provide education on getting new donors, Mr. Cagnina explained.

In the survey, SEI reported $97.5 billion in full and partial discretionary assets with worldwide institutional clients, down 5.5% from last year.

C. Kane Brenan, managing director, global head and co-chief investment officer of the global portfolio solutions group at Goldman Sachs Asset Management, New York, agreed that OCIO clients are searching for more holistic advice.

"For pension clients, it's how does the pension plan fit inside the whole corporation. How do they think about the right risk posture for the pension plan and how much hedging they should be doing? For health-care organizations, it's how do they think about all of their pools of capital — an operating pool, an endowment, a pension, a DC plan. How much liquidity should they have as they think about their credit ratings also is an important element when they have four pools of capital. For endowments and foundations, it's what their spend rate is and have they made multiyear grants," he continued.

"It's not just (that) you've got to beat the S&P this year. It's these big picture strategic questions," Mr. Brenan said. "Every year, I think we've added another (OCIO) capability on the advice side."

GSAM reported full and partial discretionary assets of $93.6 billion, up 14.7% for the year.

During the year ended March 31, the 50 largest managers of outsourced worldwide institutional AUM saw their asset mix shift most noticeably within fixed income and equities, the survey found.

Outsourced AUM in equity strategies represented 43.1% of the largest managers' assets, down from 46% last year. In comparison, fixed-income investments represented 38.2% of total outsourced AUM, up from 33.8% a year ago.

OCIO use among defined benefit plans may have contributed to the increase in fixed income, said BlackRock's Mr. Marshall.

An OCIO might seem like the right option for some DB plans, particularly ones faced with the challenge of attracting in-house investment talent to a closed or frozen plan with a shrinking asset base, he said.

"With more plans moving toward a liability-driven investing approach, (coupled with) the performance of the (equity) markets, a larger percentage of the plans are moving toward fixed income and also more plans are looking at pension risk transfers," Mr. Marshall said. Furthermore, "many of these organizations have had in-house (investment) staff who are themselves reaching retirement age," he added.

While DC plans accounted for much of the U.S. outsourced AUM growth during the year ended March 31, OCIO managers reported that their outsourced AUM with U.S. defined benefit plans grew 5.7% to $470.7 billion over the previous year.