Andrew Deitch is associate chief investment officer at the Children’s Hospital of Pennsylvania (CHOP). Deitch works with the chief investment officer and two other non-investment professionals to manage the hospital’s $1.8 billion foundation and $480 million pension fund.
From 1998 and until joining the hospital in 2007, Deitch was assistant director, then co-director of alternative investments at the Pennsylvania State Employees’ Retirement System, where he was instrumental in building the pension fund’s private equity program. Prior to joining the pension fund, Deitch helped grow and manage his family’s retail chain.
In today’s Q&A, Deitch discusses the impacts of mature private markets, his approach to uncertain markets and the effects of changing the Affordable Care Act on the hospital and its underlying investments.
Deitch graciously spoke with Trusted Insight on October 18, 2016 and again on January 19, 2017. Our conversations have been condensed and edited for clarity.
Trusted Insight: Private equity is ubiquitous in modern institutional asset allocations, but in the 90s that wasn’t true at an institutional level. How has private equity, or private markets more broadly, evolved in that time since you began?
Andrew Deitch: Yes, as you said, it was not ubiquitous at all in 1998, at least among larger public plans and many private institutional LPs.
We saw the benefits and successes of private equity really come to the fore in the early days. There was the opportunity to capitalize on an industry that had not matured yet. It was still taking advantage of market and pricing inefficiencies.
With the maturation of the industry and additional competition and various sectors getting crowded in that process, it is tougher today to get the same returns. On a relative basis, private equity is still an asset class that's very desirable and attractive, but it's tougher to get the out-performance that was possible in the 90s and early 2000s.
Trusted Insight: How has a maturing private equity market changed your investment perspective and thesis? Are you driven to more niche markets or must you rely on the relationships built in the 90s?
Andrew Deitch: Various niche strategies have developed and some of those are attractive. That's a natural part of the maturation process of any industry, right? You get more specialization. One has to be careful though. Just because a strategy is specialized, or a manager specializes and claims to have deep expertise in a particular sector, does not by itself make it more attractive than a generalist manager who has a lot of experience and success.
It's not a top-down theme of ours to go after only specialist managers. Over the years at Children's Hospital of Philadelphia, we certainly have broadened our net to try to bring in and evaluate more specialist managers, because there are more and more good ones these days than there used to be. But we're not abandoning really good generalist managers who also have a way of adding tremendous value.
I think your thesis is correct. As the industry has matured, it opens up opportunities for specialist managers. We try to obviously be selective in choosing any manager, but we are certainly open to specialist managers now. We don't have that many, but we're always looking.
Trusted Insight: Along with that maturation is a push into new investments structures: direct investment, joint ventures, etc. To what degree is the industry moving from a typical long-term, two-and-twenty fund model to structures more tailored to specific investment opportunities?
Andrew Deitch: I don't personally see an end to the typical ten-year lockup fund and two-and-twenty structure anytime soon. All these other vehicles are evolving, and I think that will continue.
But I also think that there will still be an appetite, particularly among smaller institutions that don't have the resources to do direct investing or don't have enough capital to commit to separate accounts. They will still have an appetite, by default, to go into some of these primary funds with the traditional structures.
In aggregate, maybe that diminishes gradually over time, but I don't see that going away anytime soon. However, even within the traditional commingled fund concept, I believe there is an opportunity for innovative structures with potentially better alignment. We would certainly be open to that.
Trusted Insight: You began at Pennsylvania State in 1998. Shortly thereafter, the dot-com bubble occurred. Then you began at Children's in mid-2007 right before the 08-09 financial crisis. Did those major market events give you any insights into the current market environment?
Andrew Deitch: Having been through the dot-com bubble and then the financial crisis gives me a sober and hopefully realistic view of the markets. For example, what can happen when it looks like there is a bubble developing or the dangers of escalation in exuberance or valuation momentum. It gives me a sense of realism and appreciation for the need of downside protection across the portfolio.
Having gone through the other cycles, I’m certainly aware that there is danger in today’s market, given pricing we're seeing and leverage levels creeping up again. Valuations in private equity, private valuations across the board, are supported by an artificial regime of low interest rates. Bubbles are getting created; however, it's hard to say if we're going to see that kind of down cycle.
I would doubt that we'll see a down cycle anytime in the next few years like we saw in the financial crisis. That was due to some factors that I don't think exist to the same extent now. But it's hard to rule that out, too. Returns on a relative basis in private equity, for example, still look pretty good, but you always wonder what the unforeseen catalyst is that's going to derail us.
At Children's Hospital, it makes us all the more cautious. We're always so selective, but in an environment like this, I would say the bar has gone up another notch or two. We will have occasions where we'll reject something that six, seven years ago we may not have. We're in a position where we have a good portfolio of strong managers. Overall, we're happy with our managers. In terms of allocations, we're pretty much on target with where we want to be. We can afford to stay patient, keep the bar really high and do not plan any major changes to the portfolio other than some tactical moves or adding managers.
Trusted Insight: In the next few weeks, the Affordable Care Act will be removed or replaced or altered. To what degree do you anticipate that affecting either the portfolio itself or your medium to long-term approach to the portfolio as it pertains to the hospital system?
Andrew Deitch: Yeah, that's a great question. I really don't have any visibility or insights into how that's going to play out. I haven't heard any views on that from our leaders at the hospital. I'm sure privately they may have different insights and different views on how it might play out, but it's probably too early for even them to have a developed view as to the impacts.
Obviously, a lot will depend on replacement if it is repealed. Instead of a total repeal, it is more likely there would be repeal of a lot of it, but some would stay intact and then there would be replacement and restructuring of the health care system, which may end up being not negative. It may end up being positive, but my intuition is that if people end up not being covered that are covered now, that can't be good for any hospital system.
It may end up being neutral and not having much impact. Some of the other policy initiatives with the new administration that don't apply to health care could have just as much impact on the hospital and the portfolio as whatever is done with the Affordable Care Act, to the extent that the macro economy is affected one way or the other.
I just think it's too soon to tell what's going to happen and what the impact is going to be on the hospital and the foundation. Even if there were some impact on the hospital, that doesn't necessarily mean we would feel an impact on the foundation portfolio. We've had strong operations at CHOP. That trend has continued through various cycles with limited need to call on the foundation for liquidity.
In terms of how we structure the portfolio, we're diversified and prepared for negative scenarios if one would come about. If there were ever a need for liquidity, the foundation’s portfolio, as it is now, would be pretty well-prepared for that. It would take a very extreme scenario to cause us to make major moves in asset allocation from where we are right now.
Trusted Insight: Hospital investment offices as a sophisticated entity are relatively new entrant into the institutional investment universe. What role do you see them playing over the next decade or so?
Andrew Deitch: I would think their influence will only grow. I don't know if hospitals as a group will ever be big enough to dictate terms or to have enough leverage to influence terms of funds.
As a growing institutional set of clients, they have appetites that GPs and institutional asset managers would definitely want to pay more attention to going forward.
I'm not sure how monolithic our, the hospital systems', appetites are or whether there's much of an agreement or pattern to the kinds of investments or the kinds of asset allocation. So, I’m not sure whether there’s any directional appetite for certain kinds of investments that you would expect because each institution is so different.
Overall the hospital group of clients would perhaps tend to be somewhat conservative in terms of their asset allocations just because of their businesses and real estate holdings and so forth.
Trusted Insight: Is there anything that I failed to ask that I should know about you, about CHOP or about health care investing in general?
Andrew Deitch: At Children's Hospital, what keeps me going and motivates me, in addition to day-to-day being in the markets and the excitement of that, is the mission of a place like Children's Hospital of Philadelphia. It's one of the best medical institutions in the world. It does fantastic things for kids. It's achieving breakthroughs all the time in new treatments and clinical innovation. It's such a presence not only in the Philadelphia area, but increasingly worldwide.
The people there are just fantastic. The doctors, researchers, nurses, everyone from the leadership on down is just very high caliber, so impressive. To me, it's inspiring to see a group of people at the top of their field, at this one institution, all passionate about helping kids and saving kids' lives. I don't work day-to-day with them at the hospital, but we are part of that. The foundation supports that. We support the mission. It's very motivating, inspiring to have that to work toward. There are a lot of other great institutions that do great work, but I find that's definitely a meaningful part of what I do. It inspires me to help keep our bar very, very high in everything we do.
See who else was featured on Trusted Insight's Top 30 Hospital Investors list. Read Trusted Insight's full collection of exclusive interviews here.
From 1998 and until joining the hospital in 2007, Deitch was assistant director, then co-director of alternative investments at the Pennsylvania State Employees’ Retirement System, where he was instrumental in building the pension fund’s private equity program. Prior to joining the pension fund, Deitch helped grow and manage his family’s retail chain.
In today’s Q&A, Deitch discusses the impacts of mature private markets, his approach to uncertain markets and the effects of changing the Affordable Care Act on the hospital and its underlying investments.
Deitch graciously spoke with Trusted Insight on October 18, 2016 and again on January 19, 2017. Our conversations have been condensed and edited for clarity.
Trusted Insight: Private equity is ubiquitous in modern institutional asset allocations, but in the 90s that wasn’t true at an institutional level. How has private equity, or private markets more broadly, evolved in that time since you began?
Andrew Deitch: Yes, as you said, it was not ubiquitous at all in 1998, at least among larger public plans and many private institutional LPs.
We saw the benefits and successes of private equity really come to the fore in the early days. There was the opportunity to capitalize on an industry that had not matured yet. It was still taking advantage of market and pricing inefficiencies.
With the maturation of the industry and additional competition and various sectors getting crowded in that process, it is tougher today to get the same returns. On a relative basis, private equity is still an asset class that's very desirable and attractive, but it's tougher to get the out-performance that was possible in the 90s and early 2000s.
Trusted Insight: How has a maturing private equity market changed your investment perspective and thesis? Are you driven to more niche markets or must you rely on the relationships built in the 90s?
Andrew Deitch: Various niche strategies have developed and some of those are attractive. That's a natural part of the maturation process of any industry, right? You get more specialization. One has to be careful though. Just because a strategy is specialized, or a manager specializes and claims to have deep expertise in a particular sector, does not by itself make it more attractive than a generalist manager who has a lot of experience and success.
It's not a top-down theme of ours to go after only specialist managers. Over the years at Children's Hospital of Philadelphia, we certainly have broadened our net to try to bring in and evaluate more specialist managers, because there are more and more good ones these days than there used to be. But we're not abandoning really good generalist managers who also have a way of adding tremendous value.
I think your thesis is correct. As the industry has matured, it opens up opportunities for specialist managers. We try to obviously be selective in choosing any manager, but we are certainly open to specialist managers now. We don't have that many, but we're always looking.
Trusted Insight: Along with that maturation is a push into new investments structures: direct investment, joint ventures, etc. To what degree is the industry moving from a typical long-term, two-and-twenty fund model to structures more tailored to specific investment opportunities?
Andrew Deitch: I don't personally see an end to the typical ten-year lockup fund and two-and-twenty structure anytime soon. All these other vehicles are evolving, and I think that will continue.
But I also think that there will still be an appetite, particularly among smaller institutions that don't have the resources to do direct investing or don't have enough capital to commit to separate accounts. They will still have an appetite, by default, to go into some of these primary funds with the traditional structures.
In aggregate, maybe that diminishes gradually over time, but I don't see that going away anytime soon. However, even within the traditional commingled fund concept, I believe there is an opportunity for innovative structures with potentially better alignment. We would certainly be open to that.
Trusted Insight: You began at Pennsylvania State in 1998. Shortly thereafter, the dot-com bubble occurred. Then you began at Children's in mid-2007 right before the 08-09 financial crisis. Did those major market events give you any insights into the current market environment?
Andrew Deitch: Having been through the dot-com bubble and then the financial crisis gives me a sober and hopefully realistic view of the markets. For example, what can happen when it looks like there is a bubble developing or the dangers of escalation in exuberance or valuation momentum. It gives me a sense of realism and appreciation for the need of downside protection across the portfolio.
Having gone through the other cycles, I’m certainly aware that there is danger in today’s market, given pricing we're seeing and leverage levels creeping up again. Valuations in private equity, private valuations across the board, are supported by an artificial regime of low interest rates. Bubbles are getting created; however, it's hard to say if we're going to see that kind of down cycle.
I would doubt that we'll see a down cycle anytime in the next few years like we saw in the financial crisis. That was due to some factors that I don't think exist to the same extent now. But it's hard to rule that out, too. Returns on a relative basis in private equity, for example, still look pretty good, but you always wonder what the unforeseen catalyst is that's going to derail us.
At Children's Hospital, it makes us all the more cautious. We're always so selective, but in an environment like this, I would say the bar has gone up another notch or two. We will have occasions where we'll reject something that six, seven years ago we may not have. We're in a position where we have a good portfolio of strong managers. Overall, we're happy with our managers. In terms of allocations, we're pretty much on target with where we want to be. We can afford to stay patient, keep the bar really high and do not plan any major changes to the portfolio other than some tactical moves or adding managers.
Trusted Insight: In the next few weeks, the Affordable Care Act will be removed or replaced or altered. To what degree do you anticipate that affecting either the portfolio itself or your medium to long-term approach to the portfolio as it pertains to the hospital system?
Andrew Deitch: Yeah, that's a great question. I really don't have any visibility or insights into how that's going to play out. I haven't heard any views on that from our leaders at the hospital. I'm sure privately they may have different insights and different views on how it might play out, but it's probably too early for even them to have a developed view as to the impacts.
Obviously, a lot will depend on replacement if it is repealed. Instead of a total repeal, it is more likely there would be repeal of a lot of it, but some would stay intact and then there would be replacement and restructuring of the health care system, which may end up being not negative. It may end up being positive, but my intuition is that if people end up not being covered that are covered now, that can't be good for any hospital system.
It may end up being neutral and not having much impact. Some of the other policy initiatives with the new administration that don't apply to health care could have just as much impact on the hospital and the portfolio as whatever is done with the Affordable Care Act, to the extent that the macro economy is affected one way or the other.
I just think it's too soon to tell what's going to happen and what the impact is going to be on the hospital and the foundation. Even if there were some impact on the hospital, that doesn't necessarily mean we would feel an impact on the foundation portfolio. We've had strong operations at CHOP. That trend has continued through various cycles with limited need to call on the foundation for liquidity.
In terms of how we structure the portfolio, we're diversified and prepared for negative scenarios if one would come about. If there were ever a need for liquidity, the foundation’s portfolio, as it is now, would be pretty well-prepared for that. It would take a very extreme scenario to cause us to make major moves in asset allocation from where we are right now.
Trusted Insight: Hospital investment offices as a sophisticated entity are relatively new entrant into the institutional investment universe. What role do you see them playing over the next decade or so?
Andrew Deitch: I would think their influence will only grow. I don't know if hospitals as a group will ever be big enough to dictate terms or to have enough leverage to influence terms of funds.
As a growing institutional set of clients, they have appetites that GPs and institutional asset managers would definitely want to pay more attention to going forward.
I'm not sure how monolithic our, the hospital systems', appetites are or whether there's much of an agreement or pattern to the kinds of investments or the kinds of asset allocation. So, I’m not sure whether there’s any directional appetite for certain kinds of investments that you would expect because each institution is so different.
Overall the hospital group of clients would perhaps tend to be somewhat conservative in terms of their asset allocations just because of their businesses and real estate holdings and so forth.
Trusted Insight: Is there anything that I failed to ask that I should know about you, about CHOP or about health care investing in general?
Andrew Deitch: At Children's Hospital, what keeps me going and motivates me, in addition to day-to-day being in the markets and the excitement of that, is the mission of a place like Children's Hospital of Philadelphia. It's one of the best medical institutions in the world. It does fantastic things for kids. It's achieving breakthroughs all the time in new treatments and clinical innovation. It's such a presence not only in the Philadelphia area, but increasingly worldwide.
The people there are just fantastic. The doctors, researchers, nurses, everyone from the leadership on down is just very high caliber, so impressive. To me, it's inspiring to see a group of people at the top of their field, at this one institution, all passionate about helping kids and saving kids' lives. I don't work day-to-day with them at the hospital, but we are part of that. The foundation supports that. We support the mission. It's very motivating, inspiring to have that to work toward. There are a lot of other great institutions that do great work, but I find that's definitely a meaningful part of what I do. It inspires me to help keep our bar very, very high in everything we do.
See who else was featured on Trusted Insight's Top 30 Hospital Investors list. Read Trusted Insight's full collection of exclusive interviews here.