Record returns notched in pandemic head list

A global pandemic in its second year, historically strong equity markets and a new occupant in the White House dominated headlines during the past year, while the return of inflation and regulatory and legislative changes were also among Pensions & Investments' top 10 stories of 2021.

The top story this year — chosen by P&I's editors — is the economic impact of the COVID-19 pandemic. As it lagged on, a historic market recovery spurred in part by actions taken to prevent an economic crisis, brought about record returns for many public pension funds and university endowments. Other big stories of the year included newly elected President Joe Biden and his administration working to reverse the policies of former President Donald Trump, the return of inflation for the first time in decades, new legislation intended to boost Americans' retirement savings, asset owners taking more ESG-related action than ever after years of education efforts, and a litany of changes in the top positions at some of the largest pension funds and endowments in the country.

When a coronavirus outbreak emerged at the end of 2019 and markets suffered a precipitous dive in March 2020, with many fearing the worse was yet to come, no one imagined in the span of less than 18 months, public pension funds and university endowments would find themselves reporting historically high investment returns.

That is, however, what happened, as the ripple effects of global actions taken swiftly by central banks, as well as unprecedented fiscal stimulus, helped drive extraordinary returns and supercharge already-outstanding performance by growth-oriented stocks. For the year ended June 30, the MSCI Emerging Markets index returned 41.3%, the S&P 500 index returned 40.8%, the MSCI ACWI index returned 39.9% and the MSCI EAFE index returned 33%.

Among the 96 U.S. public pension funds tracked by P&I for the fiscal year ended June 30, the median return was 27.3%, light years ahead of the median return of 3.14% among plans for the prior fiscal year. Even more significantly, the excellent returns provided welcome relief for the universe of plans that had seen little improvement in their funding ratios over the past decade because of steady reductions in return assumptions, despite the longest bull market in history.

The Milliman Public Pension Funding Study estimated that the aggregate funding ratio of the 100 largest U.S. public pension plans reached 85% as of June 30. The 100 plans tracked by P&I had an aggregate funding ratio of 73.1% as of June 30, 2020, basically flat from eight years earlier, at 73.2%.

College and university endowments chalked up even higher fiscal-year returns. Of the 40 university endowments with more than $1 billion in assets tracked by Pensions & Investments as of Oct. 27, the median return for the year ended June 30 was 36.7%.

While industry experts cited endowments' generally higher allocations to venture capital and private equity for the higher median returns, it was still the extraordinary year for public equities in the pandemic era that drove the highest results.

Washington University in St. Louis reported the highest net return of all tracked endowments at a net 65.1%. Scott L. Wilson, chief investment officer of Washington University Investment Management Co., which oversees the $15.3 billion endowment, said in an October interview that emerging markets equities drove its outperformance.

"We have great partners on the public side, and where we can, we like to invest alongside them in their highest-conviction ideas," Mr. Wilson said. "For us, it was really emerging markets. We found really interesting ideas in investing in frontier markets and that's been a huge source of alpha for us."

After Mr. Biden took office on Jan. 20, he and his administration took swift action to reverse Trump administration moves. In March, the Department of Labor announced it would not enforce ESG and proxy-voting rules initiated by the previous administration.

The ESG-related Trump-era rule had stipulated that ERISA plan fiduciaries cannot invest in "non-pecuniary" vehicles that sacrifice investment returns or take on additional risk. The Trump-era proxy-voting rule, which outlined the process a fiduciary must undertake when deciding on a proxy vote, drew sharp criticism from asset owners and the sustainable investing community.

On Oct. 13, the DOL unveiled a proposal for a new rule that would explicitly permit retirement plan fiduciaries to consider climate change and other ESG factors when selecting investments and exercising shareholder rights. The proposal also would eliminate the statement in the proxy-voting rule that "the fiduciary duty to manage shareholder rights appurtenant to shares of stock does not require the voting of every proxy or the exercise of every shareholder right." The 60-day comment period for the proposal concluded at midnight EST on Dec. 13, and a final rule will likely be announced in mid-2022.

Mr. Biden's DOL in June also announced plans to issue a proposed rule that could broaden who is considered a fiduciary under ERISA. On June 11, the DOL announced it would amend the regulatory definition of the term fiduciary "to more appropriately define when persons who render investment advice for a fee to employee benefit plans and (individual retirement accounts) are fiduciaries" within ERISA and the Internal Revenue Code. The rule is expected to be officially proposed in 2022.

In 2018, a three-judge panel at the 5th U.S. Circuit Court of Appeals in New Orleans had vacated an Obama administration-era rule that broadened the definition of fiduciary duties.

The third top story was the return of inflation. As rising inflation began to emerge in 2021, spurred in part by supply chain issues, observers in the institutional investing industry questioned whether inflation was a long-term issue or simply a transitory effect of the gradual reopening of the economy during the second year of the COVID-19 pandemic.

In a May interview, Matthew Nest, Boston-based global head of active fixed income at State Street Global Advisors, said the hike in inflation came primarily from the kind of supply-and-demand forces that haven't been seen in the modern era.

"We are observing classic early recovery moves in markets. We've seen higher curves, tighter spreads, higher rates," Mr. Nest said. "All pretty typical market behavior in this stage of the cycle. I think what's been different has been the speed of recovery, and that's caught some people off guard."

Precisely how long the first truly inflationary environment in decades was going to last was a guessing game for everyone in 2021. In an April 28 statement following the conclusion of its two-day policy meeting, the Federal Open Market Committee said that while inflation has risen, it has largely reflected "transitory factors."

As rising inflation persisted into December, Federal Reserve officials formally dispensed with any idea that inflation is simply transitory. Consumer prices had risen 6.8% in the year through November, the fastest pace of increase since 1982.

As a result, the Fed decided to escalate their battle against inflation. In its most aggressive move yet, the Fed shifted to end their asset-buying program earlier and signaled it favored raising interest rates in 2022 at a faster pace than economists were expecting. The Fed said it will double the pace at which it's scaling back purchases of Treasuries and mortgage-backed securities to $30 billion a month, putting it on track to conclude the program in early 2022, rather than midyear as initially planned.

The fourth top story of the year was legislation to provide new avenues for retirement savings as well as allay a long-standing multiemployer pension plan funding crisis. Versions of retirement security packages were introduced in 2021 in both the House and Senate that follow up on the Setting Every Community Up for Retirement Enhancement Act, known as the SECURE Act, signed into law in late 2019. The bills will likely form a SECURE 2.0 package in 2022.

In May, the House Ways and Means Committee reintroduced the Securing a Strong Retirement Act of 2021, and in November, the House Committee on Education and Labor approved the Retirement Improvement and Savings Enhancement Act, or RISE Act. The former bill, originally introduced in October 2020, includes provisions requiring 401(k), 403(b) and SIMPLE plans to automatically enroll eligible participants, and the latter bill offers minor financial incentives to employees if they join workplace retirement plans. The House is likely to vote on the bills or a combination of the bills in 2022.

In the Senate, the main retirement-related bill is the Retirement Security and Savings Act, reintroduced in May after an earlier version in 2019 stalled. Among its provisions — some of which are included in the House bills — are an increase in the tax credit for small businesses starting a new retirement plan, raising the "catch-up" contribution limits to $10,000 from $6,000 for individuals over 60 with 401(k) plans, improving access to guaranteed lifetime income products and allowing employers to match contributions to retirement accounts of employees paying off qualified student loan debt.

On March 11, Mr. Biden signed the American Rescue Plan Act of 2021, a far-reaching $1.9 trillion COVID-19 relief package that included $86 billion in federal assistance grants to pay the benefits for the most at-risk multiemployer pension funds if they can show the grants will help them survive for 30 years.

ARPA also included two provisions to assist single-employer funds: One permanently extends the amortization period for calculating unfunded liabilities to 15 years instead of seven years, and the other extends smoothing rules for interest rates used to calculate pension liabilities that would have started phasing out in 2021.

The fifth top story of the year was the continuing emergence of environmental, social and governance investing as more asset owners began taking concrete action after years of discussion and board education. The headline event representing its progress was COP26 in November, which saw the debut of the Glasgow Financial Alliance for Net-Zero, a private sector-led initiative to reach net-zero emissions by 2050 which has more than 450 financial institutions representing assets of more than $130 trillion across 45 countries.

After institutional investors' ESG-related priorities changed following last year's emergence of COVID-19 and the impact of worldwide protests following the killing of George Floyd by police in Minneapolis, 2021 began with the growing consensus that ESG investing had gone mainstream.

Sustainable investment assets globally grew 15% over the past two years to reach $35 trillion, according to the Global Sustainable Investment Review 2020 released in July. The report from the GSIA and US SIF said that at the start of 2020, the U.S. and Europe dominated, with 80% of sustainable assets there. Canada's market had the highest proportion of sustainable investment assets at 62%, followed by Europe at 42%, Australasia at 38%, the U.S. at 33% and Japan at 24%.

Other signs of the growing dominance of ESG investing were: The DOL (as seen above) issuing a proposal for a rule on incorporating ESG processes into investing, and even asset owners in states with legislatures that have historically dismissed the impact of ESG investing began incorporating ESG statements into their investment policies, such as the $196.1 billion Texas Teacher Retirement System, Austin, in September.

One of the more notable stories in the continuing evolution of ESG investing was a flurry of announcements from asset owners that they would divest from fossil-fuel investments. Among them was Harvard University, which announced that its Cambridge, Mass.-based $53.2 billion endowment would make no direct investments in fossil-fuel companies going forward. Other universities soon followed, including Boston University, which announced in September that its $3 billion endowment would immediately begin to divest from fossil fuels, and Dartmouth College, Hanover, N.H., which revealed in October that it had decided in early 2020 to divest from fossil fuels in its $8.5 billion endowment.

In addition to divesting from fossil-fuel holdings, Boston-based Harvard Management Co., which manages Harvard's endowment, has also committed to achieving net-zero greenhouse gas emissions across its portfolio by 2050.

Money managers began to steer efforts in 2021 toward diversity, equity and inclusion through high-profile introductions of new senior executive positions within their organizations. The efforts by an industry that historically has struggled to create a diverse workforce came as those shortcomings were spotlighted in 2020 during the COVID-19 pandemic and the death of George Floyd.

During the year, Pensions & Investments covered dozens of moves by the largest U.S. institutional investors to bring aboard executives in charge of DEI efforts. Among the most notable were:

• Devin Glenn, previously assistant director of DEI at law firm Skadden, Arps, Slate, Meagher & Flom, was named managing director and global head of diversity, equity and inclusion at Blackstone Inc.
• Marlene Timberlake D'Adamo, previously the Sacramento-based California Public Employees' Retirement System's chief compliance officer, was named to the new role of chief diversity, equity and inclusion officer at the $488.6 billion pension fund; and
• Sabrin Chowdhury, previously associate partner in McKinsey & Co.'s organization practice and interim director of Americas diversity and inclusion, was named as executive vice president and global head of inclusion and diversity at Pacific Investment Management Co.

"DEI is relatively new to the asset management world and there's so much work to do, and it's so nice that organizations are taking an interest," said Indhira Arrington, New York-based managing director and global chief diversity, equity and inclusion officer at Ares Management Corp., in a May interview. "When you think about asset management, it's one of the last frontiers of DEI."

After years of runaway economic growth, China rolled out regulations that unnerved foreign investors that had eagerly taken advantage of the thriving young market. Analysts pointed to Beijing's unexpected halt in November 2020 of Hangzhou-based Ant Group's record initial public offering, and the subsequent $2.8 billion antitrust fine levied against its Alibaba Group affiliate, as significant signposts for regulatory risks.

Fears that China's government could be targeting foreign investors or private companies came to a head in July when Beijing announced a clampdown on the thriving online education sector. Regulators said exorbitant education costs were a burden on the average citizen that was standing in the way of reversing China's declining birthrate. Over the following three trading sessions, the MSCI China index dropped more than 12%.

"Recent regulations have signaled that the Chinese authorities are prioritizing social fairness/stability over the capital markets in areas that are deemed public goods or important to strategic policy goals," said Kinger Lau, Hong Kong-based chief China equity strategist with Goldman Sachs (Asia) LLC, in a July report titled, "Investing under a new regulation regime."

About $6 trillion of the country's $18 trillion stock universe could potentially be impacted by regulations in pursuit of Beijing's social policy goals, Mr. Lau said in the report.

Among the largest and most notable U.S. institutional asset owners, the year 2021 meant changes in leadership. Two changes were unfortunately due to untimely deaths.

In February, David Villa, executive director and CIO of the $157.9 billion State of Wisconsin Investment Board, Madison, died at age 66, and in May, David Swenson, the chief investment officer at Yale University who helped revolutionize how college endowments are managed, died at age 67. He had led the university's $42.3 billion endowment since 1985.

At SWIB, Mr. Villa was succeeded by Edwin Denson, the board's managing director, asset and risk allocation, and at Yale, Mr. Swensen was succeeded by Matthew S.T. Mendelsohn, previously a director at Yale overseeing its venture capital portfolio.

The largest U.S. pension funds saw significant leadership changes as well. At the $321.9 billion California State Teachers' Retirement System, West Sacramento, Chief Operating Officer Cassandra Lichnock was named the new CEO, the first woman to achieve the post in its 108-year history, replacing the retiring CEO Jack Ehnes.

At the $250.8 billion Florida State Board of Administration, Tallahassee, Executive Director and CIO Ashbel "Ash" Williams Jr., retired on Sept. 30 after two separate, lengthy tenures as its top official. Lamar Taylor was named interim executive director and chief investment officer.

Theresa Whitmarsh, executive director of the $181 billion Washington State Investment Board, Olympia, announced her intention to retire on Dec. 31. She will be succeeded by Allyson Tucker, currently the board's CIO, effective Jan. 1.

At the $72 billion Pennsylvania Public School Employees' Retirement System, both Executive Director Glen R. Grell and CIO James H. Grossman Jr. will retire in 2022. The system's board at its Nov. 18 meeting approved the retirements, a move that followed six board members in June calling for Messrs. Grossman's and Grell's removal from their respective roles. The June resolution was withdrawn at the time with no reason given. PennPSERS is currently under federal investigation after the board had discovered an error in its reported investment figures.

Also, on Dec. 1, Mansco Perry III, executive director and CIO of the $127.9 billion Minnesota State Board of Investment, St. Paul, announced that he will retire in 2022.

On Dec. 9, Britt Harris, the president, CEO and CIO of the University of Texas/Texas A&M Investment Management Co., Austin, announced he would hand the CIO reins to Deputy CIO Rich Hall, effective Jan. 1. Mr. Harris will remain president and CEO of the company overseeing the university's $53.2 billion endowment.

Finally, on Dec. 13, it was announced that Alex Done, the CIO of the $266.7 billion New York City Retirement Systems, will depart on Dec. 31.

Lastly, one of the more notable leadership changes is still in process.

CalPERS, the largest U.S. pension fund, has yet to hire a new CIO following the August 2020 resignation of Yu "Ben" Meng. After a long suspension, the search resumed in July and at press time, finalist interviews were scheduled for mid-December.

While there were many big mergers and acquisitions in 2021, perhaps the most notable one never came to fruition. Aon PLC and Willis Towers Watson PLC scuttled their planned merger in July to end an antitrust suit filed by the U.S. Department of Justice. The two announced the plan in March 2020 with the intention of creating an $80 billion firm through an all-stock, $30 billion deal.

The collapse of the deal, which would have merged the second and third largest investment consultants, did not portend a slowdown of mergers and acquisitions in 2021.

Manager consolidation, especially in the alternatives arena, was as significant a trend as ever. Two notable deals were Owl Rock Capital Group and Neuberger Berman Group's Dyal Capital Partners completing their merger with special purpose acquisition company Altimar Acquisition Corp., and Ares Management Corp. agreeing to buy Landmark Partners from BrightSphere Investment Group for nearly $1.1 billion.

Other deals included: the closing of Morgan Stanley's previously announced acquisition of Eaton Vance on March 1, Franklin Templeton's announcements that it would acquire private equity secondaries firm Lexington Partners as well as custom indexer O'Shaughnessy Asset Management, and T. Rowe Price Group plans to acquire credit manager Oak Hill Advisors.

Alternatives have gradually become accepted as an obvious component of institutional portfolios as the old 60% equities/40% fixed income model becomes untenable given record-low interest rates for a decade. The search for yield has resulted in greater and greater allocations to private equity, venture capital, real assets and now private credit among the most traditionally conservative asset owners.

The year 2021 brought about major turning points in the alternatives arena. Asset owners with mature venture capital programs saw extraordinary results. While precise venture capital index data for the year ended June 30 is not yet available, the Cambridge Associates LLC U.S. Venture Capital index returned 50.1% for the year ended Dec. 31.

"The last time we saw returns like this in venture capital was in 1999, and there are some structural changes that contributed to this fiscal year's environment that I think helped the performance," said Margaret Chen, global head of Cambridge Associates' endowment and foundation practice in Boston, in an October interview.

"One is that companies are staying private longer (due to) their need for capital, and the private markets are providing more of that capital. So that has been helpful. The second is that this market has been helpful for IPOs. Those that did go out, the market welcomed them, and that has been helpful," Ms. Chen said.

The year also saw a flurry of mergers between alternative investment firms and insurance companies. Managers cited the addition of insurers' permanent capital to their assets under management and new, major clients that are part of an estimated $23 trillion insurance industry as drivers of the activity.

The largest such deal was Apollo Global Management's announcement in March it would acquire Athene Holding Ltd. in an all-stock deal that values Athene at about $11 billion and is expected to close in January 2022.