Investment Committee – June 15, 2015

Investment Committee – June 15, 2015


CHAIRPERSON JONES: I’d like to call the
Investment Committee meeting to order, please. The first
order of business is roll call, please. COMMITTEE SECRETARY HARTER: Henry Jones?
CHAIRPERSON JONES: Here. COMMITTEE SECRETARY HARTER: Bill Slaton?
VICE CHAIRPERSON SLATON: Here. COMMITTEE SECRETARY HARTER: Michael Bilbrey?
COMMITTEE MEMBER BILBREY: Good morning. COMMITTEE SECRETARY HARTER: John Chiang
represented by Frank Moore? ACTING COMMITTEE MEMBER MOORE: Here.
COMMITTEE SECRETARY HARTER: Richard Costigan? COMMITTEE MEMBER COSTIGAN: Here.
COMMITTEE SECRETARY HARTER: Rob Feckner? COMMITTEE MEMBER FECKNER: Good morning.
COMMITTEE SECRETARY HARTER: Richard Gillihan represented by Katie Hagen?
ACTING COMMITTEE MEMBER HAGEN: Here. COMMITTEE SECRETARY HARTER: Dana Hollinger?
COMMITTEE MEMBER HOLLINGER: Here. COMMITTEE SECRETARY HARTER: J.J. Jelincic?
COMMITTEE MEMBER JELINCIC: Here. COMMITTEE SECRETARY HARTER: Ron Lind?
COMMITTEE MEMBER LIND: Here. COMMITTEE SECRETARY HARTER: Priya Mathur?
COMMITTEE MEMBER MATHUR: Morning. COMMITTEE SECRETARY HARTER: Theresa Taylor?
COMMITTEE MEMBER TAYLOR: Here. COMMITTEE SECRETARY HARTER: Betty Yee?
COMMITTEE MEMBER YEE: Here. CHAIRPERSON JONES: Okay. Thank you very much.
Before we start our meeting, I would like to take a moment
of personal privilege regarding a lifetime achievement
aware that one of our members — staff members received.
Anne Simpson, CalPERS Senior Portfolio Manager, and
Director of Global Governance was given a lifetime
achievement award for her corporate governance work by the
International Corporate Governance Network at their 2015
annual meeting earlier this month in London. The award is given annually to individuals
who have demonstrated exceptional achievements
in the field of corporate governance and contributed to significant
improvements in one or more jurisdictions. In giving the
award, ICGN recognized Anne for being associated with the
creation and practice of good corporate governance principles around the world for the last 30
years. Anne has dedicated much of her career to working
for more effective and transparent corporate governance
principles, including increased shareowner rights. This
award is well deserved and all of us at CalPERS are very
proud of her. So why didn’t you join me in congratulating
Anne. (Applause.)
CHAIRPERSON JONES: And on a separate note, CalPERS received a commendation from the Best
Responsible Investment Report by a Large Pension Fund
for Responsible Investor for its second sustainability publication
titled, Towards Sustainable Investment & Operations,
Making Progress.
This is the second time CalPERS has been recognized by Responsible Investor for their
sustainability report. The report explains the fiduciary
framework for CalPERS has adopted to integrate sustainability and across the total fund,
illustrates recent achievement, and outlines a vision
for the future. I understand Anne and her team are here this
morning in the auditorium. On behalf of the Investment
Committee, thank you for all of the great work. So thank
you, Ms. Simpson. (Applause.)
CHAIRPERSON JONES: Okay. Thank you. Now, we will go to the Executive Report, Chief
Investment Officer Briefing. Mr. Eliopoulos. CHIEF INVESTMENT OFFICER ELIOPOULOS: Terrific.
Mr. Committee Chair, Mr. Jones, thank you so much. Good
morning, Committee members. I’ll be on the briefer side today in my comments,
because we have a very full agenda in front of us today.
But some — two important topics. One, last month we presented the Investment Office Roadmap
update that included a discussion of the cross-over
point between the level of contributions and investment
income that we receive on the one hand, and the increasing
costs and benefit payments that we pay out on the other.
To address this new cash flow environment, we
are, as the Committee is aware, taking many steps over the
past few years to restructure our portfolio in order to
reduce cost, risk, and complexity throughout the
portfolio. Our vision for the next five years is towards
repeatable, predictable, and scalable strategies. In the area of external management, we currently
have approximately $90 billion invested with external
managers. We want to continue to have access to external
investment talent, but at the right number, scale, and
cost. As we have restructured the portfolio in favor of a
more total fund strategy between 2007 and now, we’ve
reduced the total number of external managers from
approximately 300 to 200. Over the next five years, we hope to streamline
this number further to have approximately 100 external
managers going forward. Streamlining to seasoned proven
managers with larger capital commitments ensures more
competition for our capital, better performance we
believe, and more favorable fee structures. Our goal is to have fewer, more strategic
relationships with external managers. As I mentioned last
month, this strategic portfolio restructuring includes our
ongoing commitment to emerging managers and the creation,
as we’ll hear later in the agenda today, of a new
opportunity for successful emerging managers to compete
for new capital commitments and transition to larger
direct relationships in CalPERS portfolio. This new opportunity provides CalPERS continued
access to a pipeline of successful new investment platforms, and you’ll hear more about that
in our agenda item later today. And Laurie Weir will be
leading that discussion.
Second, and lastly, I did — apropos of recognizing our tremendous corporate governance
team that we have here at CalPERS, the proxy voting
season is drawing to a close, and as this Committee
is very well aware the long-standing priority for CalPERS
in the area of access to the proxy. Proxy access, as we’ve
been reporting to the Committee, has been what
really is the focal point of the 2015 proxy season.
Proxy access helps to ensure that corporate boards are accountable to the shareowners.
It gives shareowners and the United States the right
to nominate director candidates on a company’s ballot
or proxy statement. As the proxy season now draws to
a close, we’ve had several notable proxy access victories
in 2015, including at Chevron, at Kohl’s — it’s a
company that CalPERS filed a shareowner proposal — McDonald’s,
Occidental Petroleum, and Duke Energy. To date, our corporate governance staff have
tallied 78 shareowner votes on proxy access in this proxy
season, and we’ve been successful in 51 of the 78. That’s
a 65 percent approval rate. We think that is a tremendous
tipping point for this issue, and we’re very gratified
that so many shareowners across the country have really
worked together to make this such a pivotal year.
Lastly, one shout-out for our website redesign project, which is undergoing, which has the
tangential effect of allowing us to enhance our proxy
voting disclosures. So coming in July, the Global
Governance Section of the CalPERS website will include
a link to the proxy voting section that will give the public
access to all our votes at CalPERS once they are cast.
And this will be another great enhancement to what
we’re already doing.
So with that, Mr. Chair, that’s my report. Be
glad to take any questions. CHAIRPERSON JONES: Okay. Seeing no questions.
Thank you, Mr. Eliopoulos. The next item on the agenda is Consent Action
items. Do I have a motion. COMMITTEE MEMBER LIND: Moved.
COMMITTEE MEMBER MATHUR: Second. CHAIRPERSON JONES: Moved by Mr. Lind. Second
by Mrs. Mathur.
Seeing no discussion. All in favor say aye?
(Ayes.) CHAIRPERSON JONES: Opposed?
Seeing none. The item passes. The next item on the agenda is Consent
Information Items. And, Mr. Jelincic, you have a quick
question or — because if it’s a discussion, I want to
pull it off and put it at the end. COMMITTEE MEMBER JELINCIC: I think it’s a
quick question.
CHAIRPERSON JONES: Okay. COMMITTEE MEMBER JELINCIC: On the federal
lobbyist, one of the things that happened this week is the
markup of the SEC spending bill, which leaves it flat,
rather than the increase that the administration had asked
for. It limits the SEC’s ability to use its reserves.
And most problematic, it actually bars the agency from
adopting regs to require political disclosure. And so my
question is what has staff been doing on this, and
separately, what has K&L Gates been doing on it?
CHIEF INVESTMENT OFFICER ELIOPOULOS: There have
been many times in the past where CalPERS has moved to
encourage Congress to make available funding to the SEC in
the past. I’ll have to follow up with you on this
particular instance in this past week with the
representative and our Corporate Governance staff.
Danny. COMMITTEE MEMBER JELINCIC: And Danny is going
to take the other half of the question.
LEGISLATIVE AFFAIRS DIVISION CHIEF BROWN: Danny
Brown, CalPERS staff. This will be an item that we’ll definitely
be able to report more on next month. Mr. James
Andrus is actually in D.C. this week with K&L Gates
having some meetings, meeting with the Senate Finance
Committee staff, both Dems and Republicans, to talk about this
funding issue for both SEC and CFTC, and meeting with
a number of California delegates. So it is something that
we’re aware of and working on, and so we’ll report back
on the progress.
COMMITTEE MEMBER JELINCIC: Thank you. CHAIRPERSON JONES: Okay. Thank you.
Okay. Seeing no further requests for information on these items, we will now move to the next
item, which is the Item 5, Global Governance Policy Ad
Hoc Subcommittee Report. And for a report on that,
I call on the Vice Chair of the Global Governance Policy
Ad Hoc Subcommittee, Mr. Slaton.
VICE CHAIRPERSON SLATON: Okay. Thank you, Mr.
Chairman. The Global Governance Policy Ad Hoc Committee
met on May 20th, 2015. The Subcommittee elected
Henry Jones as Chair and myself as Vice Chair and reviewed
the purpose and a draft workplan for the Subcommittee.
The Subcommittee will meet on June 17th to review
the Core Principles of the Global Governance Principles.
And that completes my report. CHAIRPERSON JONES: Okay. Thank you, Mr. Slaton.
Okay. The next item, action agenda items. We go
to Item 6, Revision of the Total Fund Investment Policy
Regarding the Liquidity Asset Class. Mr. Baggesen.
SENIOR INVESTMENT OFFICER BAGGESEN: Good morning. Eric Baggesen, Senior Investment
Officer for Asset Allocation and Risk Management. I’m
joined by Andrew Junkin from Wilshire Associates and
Allan Emkin from Pension Consulting Alliance.
Agenda Item 6A is a continuation of information that’s been brought to you in both the April
and May time frame. This agenda item deals with the interim
asset allocation targets, and most specifically
the discussion around the liquidity asset class.
As requested by the Investment Committee Chair, we’ve written this agenda item, which is an
action item. We’ve written this with two options. Option
1, which is the staff recommendation, incorporates a reduction
to the liquidity asset class target from two percent
to one percent, and expands the range around the
liquidity asset class target to a range of plus or minus three
percent centered on that one number.
There are some common elements in options 1 and
2. The common elements are a simplification of the
purpose of the liquidity asset class to being cash
available to meet expenses, and also to simplify the
benchmark for the asset segment to the 91-day T Bill,
which we believe is consistent with the cash type of a
benchmark. Option 2 maintains that target for liquidity
at its current level of two percent and maintains
the range around that liquidity target at plus or minus
one percent. So that just maintains the status quo.
There is, in Attachments 1 and 2, policy language related to each of these options. And then
in Attachments 3 and 4 we have a opinion letters from Wilshire
Associates and Pension Consulting Alliance.
And before asking if you have any questions, I
would just make three simple comments about this agenda
item. The staff recommendation is for Option 1, but the
staff are completely comfortable implementing either
Option 1 or Option 2 at the Investment Committee’s discretion.
The recommendation of Option 1 reflects activities that have happened in the Finance
and Administration Committee where the concept
of a reserve account under the control of the Finance Office
and our Chief Financial Officer has been established.
We believe this reserve account is actually one of the
underpinnings that allow us to make the recommendation that
we have in Option 1 to reduce the liquidity asset class.
It’s important to recognize though that there’s still discussion to be happening about the
structure of the reserve account. That information will
be brought by the Chief Financial Officer, I believe, beginning
in the August meeting. And that information will
be brought to the Finance and Admin Committee, particularly
to establish an understanding about the target level for
the reserve account, and also around the parameters that
would impact changing the reserve account level.
One of the elements also that I would like to
comment on is that should the Investment Committee approve
Option 1, the staff will not implement the concept of
borrowed liquidity, until we have brought an information
item to this Committee that would reflect both enhanced
reporting on the potential leverage attached to Option 1,
and also to outline the procedures by which this kind of
capability would be controlled. And I think with those comments, I would ask
if you have any questions or if you’d care to
inquire of PCA or Wilshire Associates regarding their opinion
letters which are supportive of Option 1.
CHAIRPERSON JONES: Okay. Thank you, Mr. Baggesen.
Mr. Jelincic. COMMITTEE MEMBER JELINCIC: So, at this point,
the issue of the size of that reserve fund is still up in
the air, and the issue of who manages and how it gets
managed is also still to be resolved, correct? SENIOR INVESTMENT OFFICER BAGGESEN: Yes, I
believe that those would be elements that would be part of
the discussion when the Chief Financial Officer brings
that to the Finance and add minute Committee, Mr.
Jelincic. COMMITTEE MEMBER JELINCIC: Okay. So, at this
point, they’re not resolved as far as you know?
SENIOR INVESTMENT OFFICER BAGGESEN: That’s correct.
COMMITTEE MEMBER JELINCIC: Thank you. CHAIRPERSON JONES: Mr. Lind.
COMMITTEE MEMBER LIND: I can’t believe there is
one additional shred of information that staff could bring
to us on this item. (Laughter.)
COMMITTEE MEMBER LIND: As both of the consultants said, this is a tool for our Investment
staff to use. I am confident they will use it well.
And I would — I’ll make a motion that we adopt
a recommendation — or Option number 1, the
staff’s recommendation.
VICE CHAIRPERSON SLATON: Second. CHAIRPERSON JONES: Okay. It’s been moved by
Mr. Lind to adopt Recommendation 1, staff’s recommendation,
second by Mr. Slaton. All those in favor, say aye?
(Ayes.) CHAIRPERSON JONES: Oppose?
Hearing none. The item has passed. Thank you very much.
SENIOR INVESTMENT OFFICER BAGGESEN: Thank you
very much. CHAIRPERSON JONES: Okay. We’re on to Agenda
Item 6B, which is another agenda item from our asset
allocation area. Agenda Item 6B, again, is a continuation
of information that’s been put before this Committee most
recently at the May meeting. This is related to the
Long-Term Care Fund and the periodic asset allocation work
that is required by the policy guiding the investment
activities around that fund. The staff recommendation in relation to this
is to maintain the existing asset allocation
structure that was established in 2012. This recommendation
is predicated on the simple element of further
activities to happen within the stabilization program that’s
been in implementation phase for the last couple of
years. And until that stabilization program has been
completed, it’s very difficult to know exactly the
structure of the liabilities. And therefore, it sort of
makes moot the issue of asset allocation activity until we
can understand that. So I think with that comment, I would ask
if you have any questions, with the notation that
there is a bit of policy language in the attachments to this
agenda item. The policy language is basically working to
bring the structure of asset allocation for the Long-Term
Care Program into a consistent framework that we
use for the PERF. So we’re establishing a liquidity asset
class with a target of zero and a range of plus one percent.
There is no negative range on that.
And we’re also inserting some language that would
allow us to bring an agenda item to this Committee asking
for approval to postpone asset allocation-related activity, where it could be foreseen that
we would not be able to come to a conclusion of that activity
for a variety of reasons. And it’s simply just a
workload management kind of an issue, and it is at
the discretion of the Investment Committee. And I’d be happy
to take any questions.
CHAIRPERSON JONES: Thank you. Mrs. Mathur.
COMMITTEE MEMBER MATHUR: Thank you. Well, I think this — the staff’s recommendation
is consistent with the Pension and Health Benefits
Committee’s and the Board’s desire to really stabilize the
Long-Term Care Fund and program. And I think we’ve
actually made quite a lot of progress over recent years.
And so as a result, I will move that with respect
to the Long-Term Care Fund, we maintain the current asset
allocation for the fund, we approve the proposed revisions
to the Statement of Investment Policy, and we approve the
proposed revisions to the CalPERS Total Fund Investment
Policy. COMMITTEE MEMBER LIND: Second.
CHAIRPERSON JONES: It’s been moved by Mrs. Mathur, second by Mr. Lind.
Any further questions? All those in favor say aye?
(Ayes.) CHAIRPERSON JONES: Oppose?
Hearing none. The item passes. Thank you very much.
SENIOR INVESTMENT OFFICER BAGGESEN: Thank you
very much. CHAIRPERSON JONES: Okay. Now, we move to Item
7A, Request for Approval of Contract for Responsible Contractor Policy Consultant.
CHIEF INVESTMENT OFFICER ELIOPOULOS: Great. I’ll be joined shortly by Ms. Laurie Weir.
This — 7A is an action item. And it’s a request for approval of a contract for a Responsible
Contractor Policy consultant. And I’ll turn it over to
Laurie. SENIOR PORTFOLIO MANAGER WEIR: Good morning,
Investment Committee members. Laurie Weir, Targeted
Investment Programs. Investment Committee approval is needed whenever
staff seeks to engage a Board consultant. Over the past
many years, staff has worked with PCA on revisions to and
the administration of the Responsible Contractor Program
Policy as well as labor issues across the total fund.
Staff has come before the Investment Committee several times in the past two years requesting
minor extensions to or amendments to PCA’s contract.
With this agenda item, staff recommends the Investment Committee provide the authority
to enter into a contract with PCA for up to five years and
up to $150,000. This will reduce the need for interim agenda
items authorizing changes to the PCA contract.
But before I end this brief presentation, I
wanted to take a quick moment to provide an update on
staff’s engagement with SEIU on their work related to
negotiations of security and janitorial contracts across
the State of California. Staff has encouraged relevant real estate
managers, those are real estate managers with assets in
areas where negotiations are either ongoing or expected,
to keep good lines of communication open and to urge
appropriate parties to negotiate in good faith. Several of CalPERS managers have met with
or have agreed to those open discussions with SEIU.
Staff well encourage — will continue to engage with
labor and managers and encourage all parties to continue
to talk until resolution is reached.
And that ends my presentation. And I’m happy to
answer any questions. Thanks very much. CHAIRPERSON JONES: Thank you, Mrs. Weir.
Mr. Jelincic. COMMITTEE MEMBER JELINCIC: Well, Allan and
Curtis are about the only two people in the Investment
Office who were here when I got here. And I certainly
value institutional knowledge. I also acknowledge that
Allan has done a good job. He’s had the labor folks that
have dealt with him have felt he’s a straight shooter.
But I do want to raise the question of what was
staff’s discussion about whether it’s time to put some new
eyes on this just because it’s been so long? SENIOR PORTFOLIO MANAGER WEIR: Yeah. So staff
always considers the best and most highly qualified
consultant when seeking consultant advice and services.
And staff carefully considered this and determined that
PCA has unusual and unique qualifications in this
instance. PCA and Allan Emkin’s role, as you alluded to,
Mr. Jelincic, with CalPERS on labor-related issues
predates the establishment of the RCP Policy. Allan
helped draft the very first RCP Policy and has been
involved in the administration and improvement of the
policy over the last 20 years. Allan is a credible advisor on labor-related
issues and is viewed as objective and fair and reasonable
in his advice on these issues across the total fund. And
it was for those reasons that we determined that PCA
continued to have unusual and unique qualifications and
staff decided this was the best course of action.
COMMITTEE MEMBER JELINCIC: Thank you. CHAIRPERSON JONES: Ms. Taylor.
COMMITTEE MEMBER TAYLOR: Laurie, I wanted to
thank you for that. And I agree, I think that PCA has got
the experience necessary, in my opinion, to do this. But
I also wanted to thank you for pointing out that you’re
looking into the program’s with the labor folks that came
and spoke. I think they work for Universal or something
like that. And I appreciate that you’re monitoring that
and that you’re going to keep monitoring that moving
forward. We appreciate your work on that. So thank you.
CHAIRPERSON JONES: Okay. Thank you. This is a
action item. COMMITTEE MEMBER JELINCIC: I’ll move it.
COMMITTEE MEMBER HOLLINGER: Second. CHAIRPERSON JONES: Okay. Moved by Mr. Jelincic
and seconded by Mrs. Hollinger. Any further discussion?
All those in favor say aye? (Ayes.)
CHAIRPERSON JONES: Opposed? Hearing none. The item passes.
Thank you for the report. Next item on the agenda is 8A, Targeted
Investment Programs and Manager Restructure Update.
(Thereupon an overhead presentation was presented as follows.)
SENIOR PORTFOLIO MANAGER WEIR: And we have a
PowerPoint. I’ll just give this a second here. There we
go. SENIOR PORTFOLIO MANAGER WEIR: Ted, did you
have any opening remarks. I can just allude to
your — okay. So Ted did a fabulous job of teeing up this
conversation in his CIO remarks a bit earlier this morning.
And so I will go straight to —
SENIOR PORTFOLIO MANAGER WEIR: — Slide 4. Laurie Weir, Targeted Investment Programs.
Emerging Manager Transition Program. As staff engaged
with emerging manager firms and stakeholder groups
during the development of the five-year plan, staff heard
clearly from all parties that there was an issue.
And that issue was that we have robust emerging manager programs, but once a manager grows
big enough to grow beyond the definition of an emerging
manager, which is typically a fund 1, fund 2 and less than
a billion dollars of assets under management, that those
firms go into a kind of a limbo where they are not
big enough necessarily to compete for large capital commitments
in large established manager pools.
And so in response to that concern, we included a
workstream in the five-year plan to establish parameters
and criteria for transitioning managers to direct
mandates. The establishment of this manager transition
program is particularly timely in light of the portfolio
restructuring that Ted referenced earlier this morning
that will result in fewer relationships with larger
investment managers across the total fund. The new
Manager Transition Program will help fill the gap between
emerging managers and large established managers. SENIOR PORTFOLIO MANAGER WEIR: As illustrated
on this slide, emerging manager investment commitments
range from a low of about $8 million to a high of
$150 million. And emerging manager programs include external
manager, mentoring manager, fund of fund, or advisor
oversight. On the other hand, the pool of established managers
is expected to have investment commitments that
start from a low of $350 million and move quickly to in
excess of multi-billion dollar relationships with CalPERS.
So how does a manager grow from the new small emerging phase to become large enough to compete
for a spot in our established manager pool, and
importantly, how did CalPERS continue to have access to new
investment platforms that have demonstrated early success?
SENIOR PORTFOLIO MANAGER WEIR: The establishment of a new manager transition program answers
both of these questions. The asset classes that have emerging
manager programs, private equity, real estate, and
global equity will have the opportunity for continued investment
with successful emerging manager firms through
the new manager transition program.
While each asset class is different, in each case, the manager transition program will
provide the opportunity to invest in follow-on funds and
incrementally larger commitment amounts with significant
additional time to test and prove the skills and capacity
of investment manager firms.
The goal is to establish a pipeline of external manager talent to invest with managers as
they grow large enough to compete for significant investment
strategies when there is an opening and an opportunity
to do so in our pool of large established managers.
Asset classes will be able to review potential transition candidates from our emerging manager
programs as well as from outside emerging manager programs
where managers meet our definition of a transitioning
manager. The evaluation criteria to determine transition
candidates are the same for all manager decisions across
the total fund. The key categories of that evaluation
are, first, historical performance, second, strategy and
value creation, management team and talent, asset
allocation and portfolio fit, and finally alignment of
interests with CalPERS. The parameters of the transition program are
purposefully broad to allow asset classes thoughtful and
flexible administration of the program going forward.
Managers will have to constantly compete to meet or exceed
expectations in order to remain in the manager transition
program. Asset class staff will make all decisions to
invest or to remove a manager from the transition program
should their performance not meet expectations. SENIOR PORTFOLIO MANAGER WEIR: Over the course
of the next five years, the transition program will commit
up to $7 billion to approximately 15 transitioning managers. As you can see from this chart,
with continued commitment to our emerging manager programs
of up to $4 billion dollars, the combined capital commitments
to emerging and transitioning managers is up
to $11 billion. To assure asset class flexibility, it is important
to note that these amounts are not hard investment
targets, but estimated program amounts. Based on investment
opportunities that are pursued, actual commitment amounts
may be less than the maximum stated here. Staff will track and report activity on both
emerging and transitioning manager programs and will
report to the Investment Committee on commitment amounts,
as well as issues and successes as the program matures in
the come years. SENIOR PORTFOLIO MANAGER WEIR: The objectives
of the manager transition program are to generate
appropriate risk-adjusted returns by investing with managers
with demonstrated success in their first and second
investment strategies, to have continued access to investment
opportunities with successful firms and increased representation of women and minority-owned
firms in CalPERS portfolio, and finally, to provide
a path of growth and opportunity for emerging managers
at to build their firms to a size large enough to compete
for entry into our pool of large established managers.
So the next part of my presentation will go on to
talk about diversity and inclusion initiatives. So Mr.
Chair, if this is an appropriate time to pause and see if
there’s any questions, that might be good. CHAIRPERSON JONES: Yes, that’s correct, Laurie.
Mr. Jelincic. COMMITTEE MEMBER JELINCIC: I’ve never been
a big fan of contracting out, in case you hadn’t
gotten the hint along the way. But one of the things that
I notice is that we do not have an Emerging Manager Program
in fixed income and historically we have not. Why is
that? CHIEF INVESTMENT OFFICER ELIOPOULOS: I’m going
to ask Curtis to come up here. COMMITTEE MEMBER JELINCIC: The other old-timer
come on down. CHIEF INVESTMENT OFFICER ELIOPOULOS: It’s
a relatively — the external piece is a relatively
small part of the fixed income program, and fairly
specialized. With that, I’ll —
SENIOR INVESTMENT OFFICER ISHII: Curtis Ishii, global fixed income.
So that’s a good question. We use external managers for specialist type — specialty
type products in general, bank loan products, some high yield.
We haven’t found a lot of diversity managers in that
space. We did find one high yield manager, and they proved
to be unsuccessful.
In general, our model is one of internal management, as you well know. So you could
see it’s — in general, the use of external managers for
fixed income is trying to what we define as a strategic relationship.
And we define that as information and services.
Services being their analysts and things of that nature.
So they tend to have to be bigger than us.
That tends not to fit the diversity model, because they tend not to be big enough. So
international is a good example. We got no — when we did
a search for emerging markets, we got no managers applying,
even though we reduced the number of the hurdles.
So it is difficult for us to find managers in the
fixed income space. If we had a core product and we went
outside, I think we would have more managers apply. But
as you well know, we do that internal and we’ve never gone
outside on that. COMMITTEE MEMBER JELINCIC: Thank you.
CHAIRPERSON JONES: Okay. Mrs. Mathur. COMMITTEE MEMBER MATHUR: Thank you, Mr. Chair.
Well, I think is a real step up in our Emerging Manager Program, and I appreciate so much
all of the work that you and your team have gone to develop
this. Clearly, you identified a hole that we had
in our program, and made this a much more meaningful and hopefully
effective program for both the managers themselves and for
CalPERS. And I think it also demonstrates a meaningful
commitment to the emerging manager space, particularly at
a time when we’re reducing the number of managers sort of
across the — across our entire portfolio. So I’m really
pleased with the work that you have done, and look forward
to seeing how it plays out over time as we implement it.
Thank you. SENIOR PORTFOLIO MANAGER WEIR: Thank you.
CHAIRPERSON JONES: Okay. Thank you. And I will
echo Ms. Mathur’s comments. I know that we have been —
you’ve been working on this for some time. And at the
beginning of your effort to work on this project, I know
people wanted immediate answers. And you said, no,
there’s a process that we have to follow, including
outreach to those managers that are affected. And as a result of that, it seems to be a
high degree of support throughout the industry.
So I just want to applaud you for the work you’re doing and
also not losing site, however, that our main goal is
returns, so that we can pay benefits. So I appreciate
the work on this.
I do have one question. On the — it’s 240 of
the iPad, and I don’t see the page of the report, but it’s
the Diversity and Inclusion Steering Committee work.
SENIOR PORTFOLIO MANAGER WEIR: Um-hmm. CHAIRPERSON JONES: And it talks about the
Investment Office talent management diversity recruitment
efforts. And what’s the status of that, because I know
that’s been discussed before, but I haven’t seen the
fruits of that labor yet? SENIOR PORTFOLIO MANAGER WEIR: I couldn’t
have asked for a better segue to the next section
of my presentation. Are there any other — are we
good with questions about transition?
CHAIRPERSON JONES: Yes. SENIOR PORTFOLIO MANAGER WEIR: All right.
So moving on. Under the direction of the CIO,
the Investment Office has established a steering committee
to lead all of the Investment Office diversity and inclusion
initiatives. The steering committee is guided by Investment
Belief number 10, which states strong processes and
team work and deep resources are needed to achieve CalPERS
goals and objectives, diversity of talent, including
a broad range of education, experience, perspectives and
skills at all levels, Board, staff, external managers and
corporate boards is important.
The steering committee is comprised of the CIO
and the COIO, the SIO of Global Equity, as well as two
senior portfolio managers, that’s Anne Simpson and myself,
as well as two investment officers. To ensure that the investment initiatives
are aligned with CalPERS as a whole, the steering
committee collaborates with the the broader enterprise,
including Human Resources, our Diversity Office Program,
and the Legal Office. The steering committee develops
goals and priorities and provides direction and oversight
on the three diversity and inclusion workstreams,
which are corporate boards, external managers, and talent
management. There are significant efforts underway in
each of these three areas. You are most familiar with
our efforts under Anne Simpson’s leadership around Board
diversity. You’ve often heard from me about emerging
and diverse manager initiatives related to our external
investment manager diversity and inclusion initiatives.
Currently, much of the steering committee’s focus
is on initiatives to better understand and to increase the
diversity of our Investment Office staff. Talent
management efforts include continuing our important
relationships with the Toigo Foundation including welcoming a new Toigo Fellow as an intern
later this month on the Investment Office; expanding the posting
of job opportunities and engagement with the diverse
stakeholder groups to assist in securing diverse candidate
pools to compete for open positions in the Investment
Office. We are about to launch a survey of Investment
Office staff to better understand and to establish a
baseline of the survey — of the Investment Office
diversity so that we can judge the success of our future
efforts as we go forward. We are seeking to establish new strategic
partnerships with diverse organizations to inform and
align the Investment Office with industry best practices,
and understanding the diversity of the pipeline of talent
that is entering the institutional investment and finance
fields today. And we’re doing that by finding — doing research
and finding information on, for instance, the diversity of
University of California and MBA programs across the
country. And we are also seeking to better understand and
we will be reporting this at a next opportunity before
you, the diversity, for instance, of the CFA institute and
members of the CFA as an organization. The D&I work related to talent management
is in different phases of maturity. In some cases,
the work is long established and ongoing, such as our
relationship with Toigo and the posting of job opportunities
on diverse stakeholder websties. In other cases, the
work is new and developing in scope and process, and staff
will provide more detailed reports on these efforts as
progress is made and milestones are met.
The work we are doing across all three of these
workstreams has informed the development of the agenda for
our upcoming diversity and investment forum slated for
September 10th at the Sacramento Convention Center. And
Mr. Chair, if I haven’t answered your question, I’m happy
to try to do so. Thanks very much.
CHAIRPERSON JONES: Okay. Thank you very much. I’ll circle back.
Mrs. Mathur COMMITTEE MEMBER MATHUR: Thank you. I just
wanted to commend the sort of redoubled efforts around the
Investment Office demographics where I think we have sort
of a persistent issue. And I know you’ve been — you’ve
been working on it, but this is an area that I think we
really need to improve in. So thanks. CHAIRPERSON JONES: Okay. Mr. Bilbrey.
COMMITTEE MEMBER BILBREY: Thank you, Mr. Chair. I just wanted to note on Attachment 1 such
a comprehensive report and detailed work that the staff has
done this year. This has been an excellent report for
me to see all the work that’s been going on. And I thank
all of you on my behalf and on behalf of the Board and the
members for this work.
I also wanted to note — I noted that the workers
who came and spoke last month from SEIU. I noted you have
done some interaction with them and are moving forward.
So I thank you for that work as well. SENIOR PORTFOLIO MANAGER WEIR: Thank you.
CHAIRPERSON JONES: Thank you. Yeah, I have — it’s kind of a question and
a comment on the database, the data — 3-D,
the Board database. And as most know, that CalPERS and
CalSTRS invested in an initiative to identify potential
candidates to serve on corporate boards throughout America.
And that was in response to corporate America saying
they couldn’t find diverse candidates, women and minorities,
to serve on those boards.
So we’re saying now here’s a list, and that some
400 members, as I understand it, is now on that list. But
then when I checked the hit ratio of that list, it’s
dismal. And so now the question is, is they’re saying
that part of the problem is that board directors are
staying so long and the boards are not being refreshed, so
there’s no openings. And the question is, is at Toigo last week
they talked about — certain companies was talking
about having advisory Board members to bring in minority
and women to serve in advisory capacity, so that when the
current director step downs, they would already be
ready to step in. So what is our view on that particular
issue? Maybe Anne can.
SENIOR PORTFOLIO MANAGER SIMPSON: Thank you very
much. Anne Simpson, Director of Global Governance. As
you rightly note, Chair, we’ve got a problem with boards
in many countries, which is boards being stale. And particularly in the United States, tenure
is getting longer. Now in due course, nature will take
its course eventually —
(Laughter.) SENIOR PORTFOLIO MANAGER SIMPSON: — but we
really don’t want to wait that long, so this was the logic
behind our proxy access campaign. One group of companies
that we focused on were companies where the Board patently
lacked diversity. And as Ted mentioned earlier some of
the companies where we’ve won, for example at eBay, those
companies were targeted because of the lack of board
diversity. So as you rightly say, we were focusing on
supply, because we were told that was the problem. Now,
we need to focus on demand. The issue of advisory boards
isn’t something that we’ve looked at, but I think this
would be a really good issue sit down with Toigo and talk
to them about and see whether this is something where we
could work together. CHAIRPERSON JONES: Okay. Thank you very much.
Okay. Thank you. You can proceed. SENIOR PORTFOLIO MANAGER WEIR: There we go.
Are we ready to move on to CalPERS for California
or are there any other —
CHAIRPERSON JONES: Yes. Thank you, Laurie. I
see no further questions, so we’ll move on to the next
item on the agenda. CalPERS for California Report.
SENIOR PORTFOLIO MANAGER WEIR: Thank you so much. Right. Thanks.
So Agenda Item 8B. This agenda item presents the
2014 CalPERS for California Report. Key findings of the
report include California investments total $25.7 billion,
or eight and a half percent of the total fund during the
reporting period. During that time, over 320,000 jobs were
supported in private equity and real estate and
infrastructure asset classes. The report is compiled each
year with the help of Pacific Community Ventures. And Tom
Woefel of PCV is here to present the highlights of this
year’s report. Tom.
(Thereupon an overhead presentation was presented as follows.)
MR. WOEFEL: Great. Thank you, Laurie, and thank
you all for having us today. My name is Tom Woefel. I’m
with Pacific Community Ventures, and this is the fifth
year that we’ll be presenting findings from the CalPERS
for California Report. And we’ll also be sharing some
highlights from this year’s California Initiative Report.
So to begin with, the CalPERS for California Report.
MR. WOEFEL: This report is a comprehensive examination of CalPERS in-State investments
as of June 30, 2014. And the report employs a number of methodologies,
including GIS, or geographic information systems, mapping
to understand where each of CalPERS investments are
occurring in California. We also look at the total number
of jobs that are supported within the private markets
asset class, and then we also do case studies for
individual investments in the private markets asset
classes. And the private equity section, I should note,
has a break-out box for the California Initiative Report,
and it includes an electronic link to the PDF electronic
version of the full report on the CalPERS website.
MR. WOEFEL: So some of the high level findings that Laurie mentioned. As of fiscal year 2014,
CalPERS California investments totaled $25.7 billion.
This represents a 24 percent increase from 20.8
billion as of last fiscal year-end. Additionally, these
investments represent 8.5 percent of the total fund’s
activity as of fiscal year-end.
And then within the private markets assets classes, they support a total of 320,000 jobs.
Now, within the public equities and fixed income
asset classes, the companies that are receiving investment
employ just over one million people.
However, the public markets asset class has a
less direct relationship to CalPERS capital and the
underlying operations of those companies, given CalPERS is
one of many investors in public markets. MR. WOEFEL: So this next slide depicts the
location of each of CalPERS investments across the State.
And the different colored dots represent the different
asset classes. And then the larger the dot, the larger
investment that CalPERS has made. And so you can see that
CalPERS investment activity is centered within the Bay
Area as well as within the greater Los Angeles area. MR. WOEFEL: New turning to some highlights
from this year’s California Initiative Report.
So private equity’s California Initiative has the primary
objective to achieve appropriate risk-adjusted returns
that meet or exceed industry benchmarks.
But as an ancillary objective, it also seeks to
invest in traditionally underserved areas where
opportunities may have been bypassed, really aiming to
impact the economic infrastructure of the State of
California. So our research with the California Initiative
Report seeks to really look at these ancillary objectives
of the California Initiative. And since inception in
2001, the California Initiative has received over $1
billion. And based on the current active companies within
the California Initiative, there’s a total of $309
million, of which 222 million, or 72 percent is invested
in California companies. And California companies are
defined as companies that are either headquartered in the
State or have a plurality of facilities or employees
within the State. And so similarly, there’s 156 total active
companies. And of those, there are 108, which are defined
as California companies. MR. WOEFEL: So this next slide depicts the
ancillary benefits for the California Initiative, and some
of the highlights there. So as of fiscal year-end, amongst active companies, there was 35 percent
employment growth since the time of investment. That
exceeds California as well as U.S. employment growth
benchmarks for the private sectors.
Thirty-six percent of California Initiative companies are located in traditionally underserved
areas from institutional equity capital, and then
48 percent of employees are considered low to moderate income.
This indicates that the California Initiative portfolio
companies are providing opportunities to individuals from
underserved communities. And then 32 percent of dollars are invested
in companies that have at least one woman officer,
and 38 percent of dollars are invested in companies
that have at least one minority officer. So amongst the
portfolio companies, it’s clear that there are — there’s
leadership — diverse leadership as well as women
leadership amongst the companies, and this exceeds U.S.
benchmarks. MR. WOEFEL: Now, this last slide, before I
turn it over for questions, depicts the total number
of jobs that have been created through the California
Initiative. So this is different from jobs supported,
in that these are jobs that have been created since the
capital infusion into each of these companies.
And so looking at all of the companies that have
received investment over the life of the California Initiative, there have been a total of 27,256
total jobs that have been created. And amongst that number,
there have been 10,433 jobs that have been created
in California.
And the different shading of the bars depicts the
number of jobs that have been created amongst the first
phase of the California Initiative, as well as the second
phase, known as the Golden State Investment Fund. So you
can see that amongst the total jobs that have been
created, phase 2 has really been driving a lot of the job
creation results. And so with that, I’m happy to turn it over
for questions.
CHAIRPERSON JONES: Okay. Yeah, I have a question. It’s on page three of the presentation.
And it talked about companies headquartered in California
receiving investments through CalPERS created over a
million jobs, employ over a million people. And so some places you talk about in California, but I’m
assuming this is headquartered in California, so how much
or to what degree are those really in California?
MR. WOEFEL: Right. So on this slide, all those jobs that you see are California based jobs.
And there is different methodologies that we employ for
the private markets asset class versus the public markets.
And when we’re talking about the jobs that CalPERS
investments are really supporting, we look primarily at the
private asset classes, private equity, infrastructure, and
real estate, given there’s a much more direct relationship
between the capital that CalPERS is deploying and the
underlying operations of those companies that are receiving
investment. In the case of the public markets, really
that one million figure is to give you a sense
for the size and breadth of the companies that are located
in California that are within the public markets that are
receiving investment. So it’s much more difficult to
kind of make that linkage between the capital that CalPERS
is providing to those companies, given CalPERS is one of
thousands of investors oftentimes in these same companies.
CHAIRPERSON JONES: Okay. Thank you. Okay. Seeing no further questions, thank you
for the report.
MR. WOEFEL: Thank you. CHAIRPERSON JONES: We now go to Item 8C,
Investment Compliance Program Review. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
Thank you, Mr. Chairman. Wylie Tollette, Chief Operating Investment Officer from the CalPERS
Investment Office. Joining me is Brian McQuade who is
a manager in our Investment Compliance Program.
(Thereupon an overhead presentation was presented as follows.)
CHIEF OPERATING INVESTMENT OFFICER TOLLETTE: And
this standing Committee item is our third year in a row
presenting the annual review of the Investment Compliance
Program. This year’s presentation is actually remodeled
on the program review outline approved by the Investment
Committee, so many of the pages will look familiar to you.
Similar to the other program reviews, it requires adaptation to each investment program we use
it for, and you’ll see that.
The way this discussion will progress is I’ll provide introductory remarks covering the
executive summary, and how this program integrates with
our Investment Beliefs. I’m going to turn the
middle of the deck over to Brian who’s going to cover key
elements of the investment compliance activities. And
then finally, I’ll wrap it up with a review of the new elements
within the program and our strategic direction. So
I look forward to your questions and your feedback
during the presentation.
CHIEF OPERATING INVESTMENT OFFICER TOLLETTE: An
executive summary of where we stand is the investment
compliance program is in a maturation phase. We continue
to progress this effectively. You heard some elements of
that last month as we covered the Target Operating Model
element. Compliance is essential to ensure that all of
the different elements of our investment activities and
operations perform in accordance with investment policy,
relevant regulation, laws, and regulatory pronouncements.
That’s really what they’re focus is. Our core upcoming initiatives are really designed
to continue to enhance our compliance activities, as well
as to work more closely with our enterprise compliance
program. And you’ll hear more about that as we progress
through
the deck. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
This slide should look familiar. I don’t — it’s been a few months since we’ve actually presented
a program review using the typical template, but you
might remember that the green boxes are where we have sort
of nexus with one of our activities, and one of our Investment
Beliefs. The yellow boxes are where we have nexus with
one of our activities in the Investment Beliefs. And
there’s some work to do or some degree of tension or outstanding
activity. I’ll quickly highlight some of those. So under Investment Belief 2, the long-term
horizon, the business model there really has to do with
all of the work that this Committee has seen around our
investment policy revisions project. The investment policies for CalPERS have been developed and
refined over many, many years. And as we briefed the Committee
on in February and March, we are undergoing a multi-year
effort to clean those up, because they’ve — over
those many years, they’ve really — they’ve grown significantly
in complexity. They’ve incorporated procedures
into them, and so we’re still — we’re about two-thirds
of the way through that effort. We’ll be coming back
with additional policy revisions relative to each of the individual
investment programs later in the year. And you’ll hear a
little bit more about that from Brian in a moment. The
yellow box there reflects the fact that we’re only halfway
or two-thirds of the way through that effort. Under Investment Belief 5, you’ll see a yellow
box there at the top relative to the program role. And
that has to do with our relationship with the enterprise
compliance. That has been a sort of — source of ongoing
discussion within CalPERS. And I have an update on where
that discussion is going. And it’s actually going I think
in a very good place. You’ll also hear about that in the
Risk and Audit Committee later this week. The yellow box under 7, under sort of risks
must be rewarded. That has to do with the scope
of our program and essentially the fact that we have, as
you’ve just heard from Laurie and Ted, many external managers.
And this year, we’ve made a more fulsome effort
to actually conduct, what we call, operational due diligence
on all of those managers. And there’s a lot of managers,
and we have one operational due diligence fellow.
So he’s very busy. You’ll hear about that in just a moment.
I have a slide to cover what operational due diligence
covers in more detail. We’re making good progress, but
the fact that it’s yellow really reflects the fact
that we have quite a large amount of work ahead of us over
the next few years in that space.
And then finally, the yellow under 10, which is
really team work and resources, that has to do with the
fact that up until very recently we had a senior position
in our ICOR team that was open, the Senior Portfolio
Manager position. But I’m excited to report that’s been
resolved and I’ll be talking about that a little bit
later. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
So with that, I’ll turn it over to Brian.
PORTFOLIO MANAGER McQUADE: Great. Well, thank you, Wylie. And good morning, Committee members.
My name is Brian McQuade. I’m a portfolio manager
within the Investment Compliance and Operational Risk
Division within the Investment Office. And I’m pleased to
provide you with yet another annual update regarding the
progress the team that I lead has made in promoting a culture
of compliance within the Investment Office.
Beginning on slide 5, I want just highlight that
our group and its functions are really based upon what we
see from external investment managers. So it’s our view
that we should hold ourselves to the same standards that
one would find in an external investment manager like one
that CalPERS would hire. Additionally, CalPERS — or, I’m sorry, ICOR
works with staff at all levels to foster a proactive and
collaborative approach with an emphasis on getting
compliance right the first time. Further more, we know
that failure to manage compliance risk is often more
costly than not having a function at all. PORTFOLIO MANAGER McQUADE: Our core functions
are incorporated into a robust governance and oversight
framework both within — both within and outside the
Investment Office. As you can see on slide 6, my group
has a collaborative working relationship with key internal
CalPERS stakeholders, including the Enterprise Compliance
Division, the Legal Office, and the Office of Audit
Services. We provide periodic reporting of ICOR’s
activities to the Investment Office’s Operating Committee,
in addition to monthly reports that you’re aware of on
items such as policy violations, placement agent
disclosures, investment proposal activities. This governance structure that’s in place
provides me with the ability to report out on our
activities to multiple oversight bodies, and provides me,
you know, with great support within this governance structure, you know, to address issues as
they come up. This governance structure is really what allows
me to effectuate our business model, which Wylie will
cover in a bit. PORTFOLIO MANAGER McQUADE: These next two
slides I shared with you last year. I wanted just
to update you as to the progress and the status of our implementation
efforts on various functions, since my group was started
in late 2011. As you can see, this critical first line of
defense function is maturing very well, and in most cases,
is at a business-as-usual state. One of the core functions that we’ve developed
within the Investment Compliance Program is training. And
the training is mandatory for all full-time investment
staff. On slide 23, which I won’t pull up here, you can
see that if you wish in the appendix, I’ve listed the
various topics that investment staff are required, you
know, to listen to every year. PORTFOLIO MANAGER McQUADE: On the next slide,
I did want to come back to an issue that I brought
up last year to you. I’d expressed concerns in my
remarks then about the progress being made up to that point
obtaining an inventory of laws. So an inventory of laws
is key in my playbook, if you will, to making sure that
we’re complying with everything.
I’m pleased to now report that earlier this year
working with our Legal Office, I’ve received a very
comprehensive inventory of State of California laws for
several key areas, thereby moving this initiative forward.
I’ll be working closely with the Enterprise Compliance Division using as a basis much
of the work provided by our Legal Office to strengthen
compliance and internal control functions. You’ll receive
an important update on this and other activities from Kami
Niebank tomorrow at the Risk and Audit Committee.
PORTFOLIO MANAGER McQUADE: On slides 10 and 11,
I wanted to provide the Committee with a couple of key
updates to demonstrate how we are maturing the Investment
Compliance Program. Directing your attention to the middle of
slide 10, you are, of course, familiar with our
past efforts to identify, report, and remediate policy exceptions,
and also the work that we are doing to help revise
and review the current state of policies and move them
to a more robust framework.
As those surveillance functions are now firmly in
place, I introduced some additional reviews that I refer
to as forensic testing within my group, where my team was
evaluating patterns of data to identify practices that
might warrant further attention. a couple of examples
here might be changes in portfolio turnover rates.
Another example might be the appearance of window
dressing, which would be certainly, you know, an improper
activity. I do provide periodic reporting on these and
other initiatives to our senior investment officers. And
I’m pleased to report that there have been no findings in
this area — in these areas. Finally, I have implemented robust reporting
to Wylie and the Operating Committee that he
chairs on a variety of topics ranging from policy testing
activity to the status of outstanding internal audit issues,
in order to keep this important oversight body aware
of open issues and emerging trends.
PORTFOLIO MANAGER McQUADE: On slide 11 — let me
go back here. There we go. On slide 11, our group has taken the lead
on the identification of new laws, rules, or regulations
that could apply to the Investment Office. In the
past year, there was an example I did want to note to
the Committee of something that we actually did have to
put in place. You may be aware of certain U.S. sanctions
that the U.S. placed on Russian companies that
were doing business with Ukraine. So the Investment Office
needed to take steps to comply with these requirements
as they came out about a year ago.
When these came out, my group analyzed the requirements in consultation with our Legal
Office and took appropriate steps to place restrictions
on trading in certain equity and fixed income issues within
our trading systems Charles River Development, and BlackRock
Aladdin. PORTFOLIO MANAGER McQUADE: Moving to slide
12, I wanted to highlight some of our work benchmarking
against peer organizations. For some backgrounded,
I administer a group that was originally founded in 2007
of audit risk and compliance professionals affiliated with
pension funds, foundations, endowments and sovereign
wealth funds. Today, we have about 100 members from almost
65 different organizations around the world.
I facilitate peer exchanges on a variety of interesting
topics, ranging from personal trading to best execution. A
list is on slide 22, if you care to look at the various
topics that our group discusses on a routine basis.
Importantly, in 2014, my group designed and administered a survey to identify the staffing
and the structure, organizational reporting, and core
functions of the membership in their compliance functions.
And we received a very high turnout, about two-thirds
of our membership responded to that.
PORTFOLIO MANAGER McQUADE: A couple of key takeaways from that survey I wanted to share
with you are on slide 13. One is is the major takeaway
is that we observed that there is a wide diversity and
practice among compliance. So there — one thing that we
noticed in particular is that only about half of our
peer organizations have actually identified a Chief
Compliance Officer.
Another observation, mostly about large plans, which is on the right-hand part of that slide
that I wanted to share is that the vast majority
of our peers actually do have investment compliance functions,
and personal trading policies in place, similar
to CalPERS. And I would say that that would make sense,
given that the typical large public fund is going to have
a mix of internal and externally managed investments
which certainly increases their complexity level.
In reviewing the results, I can tell you that CalPERS is a leader in compliance practices
among its peers. And with that, I’d like to turn it
back over to Wylie, who will discuss or business model
and upcoming initiatives.
Thank you. CHAIRPERSON JONES: Maybe this is a good time
to have — see if — they have a couple questions.
Mr. Jelincic. COMMITTEE MEMBER JELINCIC: And this may be
setting you up for the next part of your talk. You know
I’m concerned about whether — where this is housed. It
is a — it’s been decided it’s a conflict of interest for
me to set the criteria for evaluating the CEO, because I
might go back to work at least part-time, and the SEIU
contract is likely to still be in place, and it may or may
not have the same incentive language it does. And, at that point, the Chief Executive Officer
could direct the CIO to direct the SPM to misevaluate the
PM so as to impact my salary. I think it’s really
farfetched. And quite frankly, if the CEO, the CIO or the
SPM we believe would do that, we’ve got other problems.
But that is what it is. So we’ve now got ICOR reporting to the CIO,
who has been delegated the authority of setting
the compensation and the incentive comp for that
unit. The people in ICOR are largely in the group that
gets incentive pay, which is in part based on the
performance of the whole fund. So I see some very real
potential conflicts there.
You know, in loan — no loan review reports to
the loan production people. They tend to report to the
risk people. And so my question really is why do we house
this in Investments rather than move it over to Risk and
Compliance and ECOM and over there? CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
Thank you for the question, Mr. Jelincic. I
think that’s actually — I’ll address the question in two
parts, first in terms of sort of the reporting structure,
and then second, relative to the incentive compensation.
So first, relative to the reporting structure, the topic is actually covered quite specifically
in the Risk and Audit Committee a little bit later
this week. So I’m hesitant to sort of steal all of their
thunder, but I’ll do a bit of a preview.
COMMITTEE MEMBER JELINCIC: Just — I will —
it’s coming up there too, so, yeah. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
So late in 2014 and early into 2015, staff and
the Enterprise Compliance Unit in conjunction with the leader
of our internal audit function convened a working
group to examine this exact question, and how we’re
structured, and how the ICOR team is governed and reports.
And this question was relevant not just for the
ICOR team, but actually for the development of compliance
functions throughout the enterprise covering other areas
of the business, such as benefits, health, operations,
contracting. You can think about compliance having
relevance throughout the office not — investments is
certainly an active area, where we already have that in
place, but it’s likely that we have compliance activities
occurring throughout the enterprise. And that working group’s charge was to look
at the structure, as well as best practices as
highlighted here in Brian’s deck, what some peer — similar
peer organizations were doing.
As you’ll hear in Risk and Audit, staff’s recommendation — assessment and recommendation
was to progress what’s called an integrated compliance
model. And an integrated compliance model essentially
relies on program level resources, such as Brian and
his team, who are experts in their particular area being
embedded within each of those programs, Investments now, but
in the future potentially having similar types of subject
matter experts focused on compliance within other programs,
Benefits, Health, Operations, Contracting, et cetera,
with centralized oversight, reporting, and accountability
within the enterprise compliance team. So the enterprise compliance team would still
have policy authority, oversight, and receive regular
reporting and have the ability to dip down into all of
those various investment compliance activities, benefit
compliance activities, health compliance activities to
make sure that they were being done in accordance with
CalPERS standards, and the responsibility of centralized
reporting up through Risk and Audit. And that is essentially the answer. And I
hope I didn’t steal too much of Risk and Audit’s
thunder, but the short answer is, is that we believe the integrated
compliance model is the right model for an organization as
large and with as many complex and differing business
activities. If we were just doing investments, you wouldn’t
necessarily have enterprise compliance and investment
compliance be in separate units. But because we’re doing
investments, we’re doing health plans, we’re doing benefit
programs, we have many other very diverse business
activities occurring in the office, the idea of trying to
centralize subject matter expertise and sort of pull it
into a unit, I think that there was — there was
consternation and concern around the sustainability of
that model over the long term, being able to retain
subject matter experts in a unit that is somewhat disconnected from the underlying business
units. Like I said, you’re going to hear this again
in Risk and Audit, but it’s definitely a subject
of — has been a subject of much discussion. And I’m
pleased that staff came forward with the recommendation
to progress this integrated model. I think it’s the right
model. COMMITTEE MEMBER JELINCIC: Thank you.
CHAIRPERSON JONES: Mrs. Mathur. COMMITTEE MEMBER MATHUR: Thank you, and thank
you, Mr. McQuade for your presentation. You mentioned
that you’re trying to create this culture of compliance.
And it seems to me that compliance and risk management,
its sister program, are sort of a balance between
checklist and judgment. We’re — philosophically, sort of
where do you think we land and where do you think we
should be in terms of compliance sort of balancing those
two elements or any other elements that you think are
relevant that I haven’t mentioned? PORTFOLIO MANAGER McQUADE: Yeah, I mean, I
would say that that’s a really valid question, and
I’m happy to answer that. So I think within the Investment
Office, speaking for the Investment Office, I would
say that we have a good mix there. So we certainly have
defined processes, and the ability to address issues
as they come up.
But one of the things that I know that I can tell
you anecdotally, that I know that the culture of
compliance is working, is that I have staff approach me
all the time to say, “Brian, I’m thinking of doing
something, is this okay or not?” You know, so I’m not necessarily, you know,
pointing them to a checklist, but it’s that culture that
our group is accessible and that we’re not viewed as a
cop, if you will, so — and that we’re there really to
make sure that staff feel comfortable to bring issues.
And that if they do, they’re certainly not retaliated
against, that there’s a, you know, culture of openness and
that sort of thing. So I don’t know if that answers your
question. COMMITTEE MEMBER MATHUR: That is helpful.
There’s been a lot of research done around operating room
settings and other medical settings where there’s sort of
a surgeon, or a doctor, there are nurses, there are other
support staff. And where there has been sort of this
culture of having this top person, the doctor or surgeon,
have the final say and fear among those below them of
actually raising questions if they have concerns about how
something has been — being done or you’ve missed a step
or maybe you should consider this, I think that is
important also in this context, that they’re not be that
sort of — yes, there’s a hierarchy to some degree, but
there ought to be this openness and — to questioning and
input from all levels. And are we cultivating that and
how are we doing that? PORTFOLIO MANAGER McQUADE: Yeah, I mean, I
would say that we have gone to great lengths to
ensure that folks have the ability to come forward and
not face retaliation. We have multiple ways to do that
between an ethics helpline, you know, coming to me. I
have office hours sessions during Form 700 time, you know,
when people have questions there. We have various governance
committees where folks can come there. So I can tell you that there isn’t one person
who’s invoking fear within folks that would prevent them
from bringing things forward. COMMITTEE MEMBER MATHUR: And I’m not trying
to cast aspersions or indicate that there might
be a problem, but I think it’s more to me about team work
and how teams work, and that everybody has valid say, and
there’s no fear sort of reprisal for raising questions
or concerns, particularly among the junior — the more
junior staff. And I guess — so maybe that’s really under
the CIO’s purview.
CHIEF INVESTMENT OFFICER ELIOPOULOS: No, I was
going to jump in, because I think we’ve done a really good
job over the course of the last three years building out a
very positive environment. One of the key pieces that
Brian is an advocate for and has worked really well is
this notion of operating events. So we’ve built a very
positive, inclusive environment that anyone in the office
can raise their hand and say, hey, this operating event —
something happened that — not according to our
procedures, and it’s a very safe environment, is a very
encouraged environment. In fact, we went through — I think it was
about three years ago when we brought this forward.
Lot’s of discussions with all levels of the staff to
say this is a very welcoming environment. We want to get
as many examples of operating events as possible,
because that’s the only way we’re going to know how to fix
things, you know, what’s broken. And we were — particularly
during the first year rolling that out, very insistent
on congratulating people for raising their hands
just for that very reasons, because you want a very
positive environment for people to have that discussion
about what’s working well, what’s not working well.
If you have a negative environment, then you’ll never
get to that fixing. And I think your allusion to the hospital
setting is very apt.
COMMITTEE MEMBER MATHUR: Thank you. CHAIRPERSON JONES: Okay. Thank you. You may
proceed. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
Thank you. Another element that I believe actually helps foster the type of environment
where everyone in the office is actually encouraged
and free to question activities is the fact that we have
carved off the risk taking and monitoring functions into
a separate line of reporting up to the COIO position.
And Brian mentioned earlier the Operating Committee,
which is the governance — our internal governance committee
within the Investment Office that oversees the investment
compliance activities that Brian covered.
And, in fact, we review the operating events that
Ted just mentioned in detail at that committee, and the —
again, to try to foster the environment where people are
encouraged to talk about operating events, mistakes that
they may have made, and how — what we can do to improve
the control environment in the — in our activities to
help make sure that they don’t happen again. Our activities are conducted by humans, and
humans make mistakes. That’s — it’s important to
acknowledge that. And it’s, in fact, important to
actually be as open and as honest and as sort of free to
talk about that. And we really make great strides and
efforts in our operating committee to do that. And, in
fact, Brian and his team review the operating events at
each Operating Committee. Sometimes some months there’s none, some months
there’s four or five, but they’re a significant part of
our discussion at the operating committee. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
This is the high level organizational structure for the ICOR function. You can see Brian’s
name on there as well. And as I mentioned earlier, we’ve
had a significant sort of hole in the functions
since Carol Moody left earlier this year. But I’m quite
pleased to report that we have successfully recruited
and hired our newest team member her name is Kit Crocker.
She’ll be joining us in July to fill the senior portfolio
manager position highlighted on this. And I think
Kit may be in the audience. And, Kit, if you wouldn’t mind
waving and saying hello. There she is.
SENIOR PORTFOLIO MANAGER CROCKER: Delighted to
be here. Thank you. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
Thank you very much. We’re very excited to have
Kit join us. She brings over 25 years of experience to
the team, very relevant experience. As you may recall
from our discussion on the Target Operating Model last
month, one of the things that the Investment Office is
increasingly realizing is that our asset management activities are very much governed towards
the liability structure of the organization. That positions
us in a fashion similar to an insurance company. And
that is exactly where Kit Crocker hails from. It was
several different insurance companies, both Alliance
and Norcal Mutual, under belt. We’re really looking forward
to having that new perspective coming in to the
investment compliance function.
CHIEF OPERATING INVESTMENT OFFICER TOLLETTE: So
in terms of strategic plans where are we going? I’m very
much looking forward to working with Kit and the team to
help refine our strategic plan. At a high level, I think
our key is to continue refining our internal processes and
the governance to enhance that control environment, and in
particular, working with the enterprise compliance team,
which continues to build out its strategic direction. And
as I keep saying, you’ll be hearing more on that as Risk and Audit tomorrow.
And we’re very much looking forward to making sure we refine that, and that that works to
be An effective relationship over the long term.
CHIEF OPERATING INVESTMENT OFFICER TOLLETTE: Strategic initiatives for the coming fiscal
year. As I mentioned earlier, we’re going to be
entering phase two of our investment policy revision project.
You might recall that phase 1 involved pooling many
procedural elements out of the investment policy and
placing those into staff procedures. The second piece of
that is to go through each of the programs continue to refine
them. And we’ll probably have to take another pass at
the total fund policy. It’s still a pretty hefty document
and we’re looking forward to continuing to refine that
and simplify it consistent with our overall goal of looking
at ways to reduce complexity in the office. I think the
complexity of our documentation is another area where
that complexity lives, so we’re going to be continuing to
try to ferret that out and simplify it where possible.
I’ve mentioned working with ECOM closely. And
finally, manager review and monitoring. As you heard from
Ted earlier in the discussion, the way we assess and
monitor managers is going to be very critical over the
coming five years as we look to really refine the list of
managers we want to work with, how we look at and review
those managers is — also needs to be refined. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
And to that end, I’m going to talk about a new
element of the ICOR program here on slide 19, operational
due diligence. The primary purpose of operational due diligence
is to identify and assess the non-investment risks
within an investment manager. ODD, as operational due
diligence as is sometimes referred to, complements investment
due diligence and underwriting, so the two should
work hand in hand. So you’re looking at the investment
returns and structure. And then you’re also looking at
the operations of a different — of a particular investment
manager. The focus of ODD is on operational elements,
such as the custodial elements, the trading relationships,
their auditor, their — how they address their internal
accounting, how they address their internal compliance
functions within that external manager. On-site visits by
specialized CalPERS staff support this complementary assessment.
Last year, with the dissolution of the Absolute Return Strategies Program, our hedge fund
program, we — the ICOR team was able to adopt Kevin Hirst,
who’s a portfolio manager, who has five years of operational
due diligence experience in the hedge fund space.
Hedge — operational due diligence really grew up in
the hedge fund segment of the investment industry, primarily
following the Madoff scandals or sort of the mid-2008
where sort of the independence of the auditor, the independence
of the custodian with hedge funds came under a great
deal of scrutiny. And investment owners took it on
themselves to either contract out for operational due diligence,
which was actually the most common way of approaching
this task or to insource it.
CalPERS took the option to insource it, so we’re
very happy to have Kevin’s experience progressing the
operational due diligence – it’s kind of a mouthful –
elements within the program. And you can see there in the
table on the lower left, the visits that have been
undertaken so far this year. And that’s really just in
the first half of 2015 focused primarily in private
equity. And we’re getting to the point where we’re almost
all the way through the global fixed income program.
CHIEF OPERATING INVESTMENT OFFICER TOLLETTE: Excuse me. Frog in my throat.
In conclusion, made very significant progress transitioning from de novo status. I included
de novo in there as a bit of a tribute to Carol Moody.
That was her Latin. And I wish her well in her semi-retirement.
We continue to improve the operations of our ICOR
function. And again, we’ll work this year, in particular,
to collaborate with our ECOM partners to build out — to
help build out their internal functioning. So with that, I think we’ve reached the end
of our presentation, but I’m quite happy to take
questions Mr. Chair.
CHAIRPERSON JONES: Okay. Seeing no further questions. Thank you for the report. Appreciate
that. CHIEF OPERATING INVESTMENT OFFICER TOLLETTE:
Thank you. CHAIRPERSON JONES: We do have a request from
the public to speak on this item. Mr. Ben Vernazza
from Financial 2nd Opinions and Precision Fiduciary
Analytics. This speaker is on and you will have three
minutes and you can see the timer right before us here.
MR. VERNAZZA: My name is Ben Vernazza. I’ve been a CPA for 54 years, a registered investment
advisor for 38 years. And I sold my investment advisory
practice in 2012.
I’m going to talk today about the stepchild of
modern portfolio theory, which is uncompensated risk. The
statement of trusts says it’s necessary for you to deal
with diversification and removal of uncompensated risk.
Fiduciaries do a good job of managing compensated risk. But by doing so, they ignore what uncompensated
risk might be left. Until recently, academics have come
up with programs to analyze uncompensated risk, but they
were not realistic in the real world, so the managers
really ignored them. But now we have big math and
algorithms. So uncompensated risk is no longer an orphan.
It’s a stepchild. Now, as a fiduciary, you’re responsible for
uncompensated risk on the entire portfolio getting the 100
or 200 managers and putting them into what is your
portfolio. Now, last month, there was a very significant
Supreme Court case nine zip, 9-0 on the vote. And it was
Tibble versus Edison. And it basically said it’s
necessary to have a prudently established monitored
uncompensated risk strategy, because if you are in breach
of that or anyone — any fiduciary is, the six-year
statute of limitations doesn’t start until you end the
breach. Very significant. That means there’s a clawback indefinitely.
Now, I looked — so the takeaway from that case
is that it’s important to install a prudent procedural
process for managing and monitoring uncompensated risk.
So I looked at CalPERS investment policy statement. I
looked at the 20-member SACRS, each of their investment
policy statements, and only three out of 21 investment
policy statements mentioned anything about compensated,
uncompensated, systematic unsystematic risk. So let’s give an example of what might — could
occur from paying more attention to this. You have $300
billion, SACRS has 135. Let’s say there’s 65 —
CHAIRPERSON JONES: Mr. Vernazza your time is up.
MR. VERNAZZA: Pardon me? CHAIRPERSON JONES: Your time is up.
MR. VERNAZZA: Okay. Can I just — CHAIRPERSON JONES: No, your time is up.
Thank you. Thank you. That concludes the — if you have some paperwork, certainly leave it
with our staff that —
MR. VERNAZZA: Yes. And it’s in — and you also
have a copy of it in the back of the public —
CHAIRPERSON JONES: Thank you. Thank you. Okay Okay. Thank you. Okay. So that reaches the
end of our Committee meeting. And I guess we could pause
for five minutes and then go right into closed session.
Oh, Public comment. Okay. Sorry about that. L.R. Roberts CSR Chapter 2. I’m sorry about
that. MS. ROBERTS: Thanks to staff for noticing
that I said Item 10 instead of 9.
I spoke with you in the past about your real estate policy regarding displacement, but
how you also have a relationship through your Health Benefits
with CVS. And CVS is investing in real estate for their
new stores. CVS, since I was here last time, successfully
got rid of the local market, a minority-owned grocery
store at Franklin and Sutterville, the closest grocery
store to my family’s home in central Oak Park.
CVS is now battling the Curtis Park neighborhood on how the store is set up. Part of the — this
is a part of an ongoing problem between huge corporations
and neighborhoods. Examples are the successful
battle that we had in Oak Park to keep McDonald’s out of
Oak Park, the Fresh & Easy decided not to come to Oak Park,
because they — partly due to their refusal to follow
our community norms.
Recently, I was approached in my role in another organization, the Women’s League, where I
was their Housing Chair and served still on their public
policy committee. Petrovich and Safeway are battling
Curtis Park concerns in the old railyards. Safeway wants
to put in 16 pump stations at the old raidyards within
blocks of the the Sacramento Children’s Home. Petrovich
is developing their railyard. Neighborhoods — neighbors
are complaining about housing not matching the
neighborhood’s design. Disability and senior groups are complaining
about units with several stair cases and no ramps.
I see this development all over. The townhouse style of housing, which has a staircase inside,
which will not be a place where we can age in place,
and then there’s stairs going to the outside. They’re building
this housing everywhere.
Petrovich had a party at this development and did
not invite the neighbors. And when the neighbors showed
up to complain, they were told to go back where they came
from. So we need to think about our real estate investment, especially when it’s sort of — it’s
through somebody we have a health care relationship
with. And one last concern, rents are soaring, not
only in Oak Park where I live, but in the Bay Area.
And now I notice that housing prices are soaring. And
the last time that happened, we had a bubble burst. So this
is concerning to me.
Thank you. CHAIRPERSON JONES: Okay. Thank you very much
for your comments. Okay. So that concludes the open session.
We will take a five minute break to — so that
we may break into closed session. So that concludes the
open session meeting.
Thank you very much.

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