Prabhu Palani is the CIO of the City of San Jose's Retirement System, one of the 10 largest cities in the U.S., where he manages a $6 billion multi-asset class portfolio for two distinct plans, the City of San José Police and Fire Department Retirement Plan as well as the Federated City Employees’ Retirement System.
In this interview, he discusses his successful experiences working with some of the largest institutional buy-side firms, why the City of San José takes on an endowment-like approach with exposure to private asset classes and how he plans on leveraging the proximity to Silicon Valley to generate healthy returns.
Prior to joining the public sector, Prabhu had a successful career on the buy-side as an investment strategist and portfolio manager with over 20 years of investment management experience with global leaders including Barclays Global Investors, Franklin Templeton Investments, and Mellon Capital. He has been a trusted partner in managing clients’ assets for several leading public and corporate pension plans, endowments and foundations. Prabhu holds graduate degrees from Stanford University and the University of Delaware and has both the Chartered Financial Analyst and Chartered Accountant designations.
Trusted Insight: How has your successful career on the buy-side influenced your current role at the City of San José?
Prabhu Palani: I had the privilege of working with some of the largest institutional buy-side firms in the world and that experience is invaluable in my current role. As a senior investment executive, I was privy to strategic decisions made by investment firms that spanned the gamut from hiring, building investment processes, product creation, pricing etc.
"The reason to grow AUM is not simply to gather assets but to offer solutions to clients. The fine-tuning of solutions and processes to suit market needs and clients’ expectations resulted in that kind of growth in AUM."
Today, in my role as an allocator that experience greatly enhances our ability to conduct due diligence. We have insight into how investment firms think. This insight can help us find managers whose thinking is aligned with ours and with whom we can work over the long term. Also, if you’ve only been an allocator in your career, it is that much harder to truly understand a manager’s security selection process. I feel that it is also important to bring private-sector efficiency to a public process.
Trusted Insight: In one of your previous experiences, you helped boost AUM from $1.5 billion to over $20 billion. Can you elaborate on that experience?
Prabhu Palani: Good investment managers have a strong conviction in their investment processes. The reason to grow AUM is not simply to gather assets but to offer solutions to clients. The fine-tuning of solutions and processes to suit market needs and clients’ expectations resulted in that kind of growth in AUM. As a manager, you should recognize that your mousetrap may not suit every prospect out there. Now I apply that same lens on the allocator side – what are our investment beliefs and needs and how do we find managers whose thinking is aligned to the needs of our beneficiaries - this is the challenge that I work with every single day.
Trusted Insight: You took over as CIO in early 2018. What are some of the initiatives you've implemented so far and what are your plans for 2019?
Prabhu Palani: I am very fortunate to have very knowledgeable and supportive boards, with whose support we have accomplished a fair amount in a short time. Coming into the role, my priorities were to revisit our strategic asset allocation process, fill open positions on the team, and to enhance and codify our governance structure. We’ve been able to accomplish all of these goals within a year.
"Leveraging our location in Silicon Valley to increase returns has been a personal goal of mine. We want to be thoughtful as we go about this."
We are currently working on several initiatives, with the goal of supporting beneficiaries’ returns. The Boards have approved an allocation to venture capital and we are building a strategy around how best to deploy that capital. Leveraging our location in Silicon Valley to increase returns has been a personal goal of mine. We want to be thoughtful as we go about this. What is the impact of SoftBank going to be on the industry? What are the overlooked opportunities in this space? These are some of the questions that we are grappling with. With the advent of services like AWS you no longer need a brand name VC firm and millions of dollars to get your company started. We are trying to be creative in coming up with a structure that can be both effective in terms of returns but also lower or eliminates investment fees. We expect to present some ideas to the Boards in early 2019 for their advice and guidance. Another goal is to come up with a comprehensive fee policy that aligns managers’ interests with those of our beneficiaries. We would also like to visit the subject of ESG.
Trusted Insight: What is your approach to manager selection and fees?
Prabhu Palani: We view managers as long-term partners. We look for a diversity of alpha sources within each asset class. We take fee structures very seriously and it is important for us that our managers’ incentives are aligned with those of our beneficiaries. A question that I like to ask our managers is this – how are your interests aligned with ours? In efficient markets, we are happy to adopt passive strategies where we can get beta exposure very cheaply. Where inefficiencies are present we seek active managers with high conviction whose portfolios are different from the benchmark. Our size allows us to seek niche, alpha opportunities. Managers who offer performance-based fees are viewed very favorably. That way we don’t end up paying active management fees for beta exposure.
"Eventually, the public pension industry must move to a model that affords investment talent the ability to grow their intellectual capital and a compensation level that is competitive."
Trusted Insight: Would you agree that there’s a ‘war for talent’ within the pension industry?
Prabhu Palani: This is always going to be an issue in the public sector. For us, our location is a double-edged sword. On the one hand, we have access to some of the best investment talent in the country and on the other hand, we live in one of the most expensive housing markets. At San José, we’ve been lucky to find extremely talented individuals who value our sense of mission. Eventually, the public pension industry must move to a model that affords investment talent the ability to grow their intellectual capital and a compensation level that is competitive.
Trusted Insight: Is hiring investment professionals that have a GP background an existing and growing trend within the pension industry?
Prabhu Palani: That kind of talent is invaluable and can be hugely additive to a plan’s performance. However, compensation may be an issue in attracting that kind of talent soon enough. I believe the attractiveness of an allocator role and a sense of mission will make this a growing trend.
"Overall, our asset allocation process points us to a more endowment-like approach with our exposure to private asset classes."
Trusted Insight: What steps is the City of San José taking in dealing with the low-return environment in the near to midterm period?
Prabhu Palani: Every public plan is unique in terms of its funding status, the maturity of its plan, as well as the health of its sponsor. We are long-term investors with patient capital. We moved to a functional asset allocation approach this year with the understanding that the beta of ‘growth’ assets is necessary to meet our expected rate of return in the long run. This is counterbalanced by our exposure to ‘zero beta’ assets, assets that can both dampen volatility and provide dry power when markets get dislocated. Given current valuations, you would expect us to have a relatively high exposure to ‘zero beta’ assets which is where we are right now. The decision to allocate across these buckets is made by our strategic asset allocation view which is rigorous and well defined. We are less concerned about short-term volatility in the markets and stay away from tactical bets in the portfolio.
Trusted Insight: Where do you see the most appealing opportunities in the market for public pensions?
Prabhu Palani: Again, it is important to emphasize that each pension plan is unique. Given our risk tolerance and return expectations, our strategic asset allocation model has directed us to emerging market equities and bonds, as well as private assets as areas where expected risk-adjusted returns are attractive. We also have significant exposure to short-term bonds. Overall, our asset allocation process points us to a more endowment-like approach with our exposure to private asset classes.
Trusted Insight: What investment or career advice would you share with professionals that aspire to be a CIO one day?
Prabhu Palani: It is important to grow one’s intellectual capital in every job. A passion for the markets, a constant ability to learn, and breadth of experience will be key. We are blessed in this industry which continues to attract some of the brightest minds. And I would definitely encourage buy-side talent to take a look at the opportunities on the asset owner side.
Trusted Insight: Any final thoughts?
Prabhu Palani: I am fortunate to have an amazing investment team and supportive boards. We've been able to attract investment professionals from top schools and advanced degrees. We are all motivated by doing the right thing for our beneficiaries. This sense of mission, above all else, is what makes our jobs totally worth it.
And to be clear, the views expressed in this interview are my personal views and not those of the Retirement Boards or the City of San José.
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