David Holmgren is chief investment officer of Hartford HealthCare, Connecticut's premier integrated hospital and care system. Holmgren manages Hartford HealthCare’s $2.2 billion pension, endowment, and insurance assets by overseeing risk management, portfolio construction, asset allocation, manager selection and investment operations. Previously, Holmgren served as principal investment officer for the Connecticut State Treasury and as senior portfolio manager at DSI/UBS. David has 26 year of investment experience in the United States, Europe and Middle East covering traditional and alternative investment management and earned his MBA from Columbia University.
Holmgren was recently named to Trusted Insight’s ranked list of the Top 30 Healthcare Institutional Investors. He graciously spoke with Trusted Insight on December 1. The following interview has been edited and condensed for clarity.
Trusted Insight: Tell me about the Hartford HealthCare endowment and how you got involved in the industry?
David Holmgren: I was going to obtain my PhD in economics, and I was enrolled at the University of Warrick. I took a job in international brokerage in London between university graduation and graduate school, and I got involved in international securities analysis and brokerage and absolutely loved it and was very good at it.
I came back to the United States doing security research and portfolio design. It was thereafter that I pursued a full-time career within investment, first portfolio management before moving over to the sponsor side. My passion was global business investment, so then I went back for my graduate degree in business from Columbia University in 1993.
As far as the question about moving to the hospital side, I was previously the senior investment officer at our state treasury here in Connecticut. After one full election cycle, I resigned to accept a CIO position for a sovereign wealth plan, but decided not to relocate as I was a single dad with three boys in high school. So I accepted the offer from Hartford HealthCare to stay local.
I was really interested in finding something more entrepreneurial given my background in private business and honestly didn’t expect hospitals to be as emerging, challenging and multifaceted as this opportunity turned out to be. As a portfolio manager at UBS/DSI, I ran a billion dollars in just European equities, a billion dollars in just Japanese equities, etc. but when I joined the hospital, we were probably only about a $1.5 billion in total. So it was a unique challenge to create the same global reach and abilities with only a small fraction of scale.
My background, my passion, was always best-in-class and globally-diversified. I was an active portfolio manager, so I always knew the performance benefits and risk management benefits from portfolio management. I was never going to rely on beta so I was never a believer in passive and never an ETF player.
I'm literally the old school of investments, which is active, global portfolio management, and to be able to exercise that global breadth with a smaller pool of assets, to me, was absolutely a brilliant entrepreneurial business and investment challenge. These are the cards you're dealt. Do the best job possible. For me, it was a wonderful, enlightening challenge.
We've grown quite a bit since then, and we're a little over $3 billion now. Although our strong performance reflects this growth, we're pretty well known as being one of the most conservative, risk aware endowments or hospitals out there.
I believe our strong performance while remaining highly risk aware comes from functioning as an investment boutique. We’ve set up our investment office with all the lessons learned from years on the private side. So we're not complacent in any way and try our best to express our investment beliefs. For example, we’re comfortable holding more emerging market equity than our peers, as we see the forward opportunity and valuation relative to other investment opportunities. And we will express those investment convictions in our portfolios. That's what continues to deliver our long-term strong performance and prevents us from getting trampled in the beta trades of our peer groups.
So [how did I get involved with the] hospital? I kind of fell into it, and I have been thrilled by the challenge and the ability to deliver for a not-for-profit enterprise, which is really kind of its own motivation right there.
Trusted Insight: Is this risk aware approach also aligned with your personal investment philosophy?
David Holmgren: Yes, very much so. As a funny story, earlier this year an executive recruiter emailed me about a high-profile family office CIO search. I think a lot of high-performing endowment CIO’s got called about it. The skinny was basically that family wanted performance, a high double-digit return stream. That singular and limited objective is not aligned with the field I had come from. I was shocked the recruiter thought of me. I'm from very large global, diversified, active, risk-aware mentality; I’m way too chicken to be concentrated on just high performance alone. I am risk geek at heart.
Now on the opposite side of the spectrum, it’s also a sore spot as I’m also CIO of our offshore insurance captive portfolio where they don't want any volatility; they don't want to express risks at all. So this doesn't align with my beliefs or my passion either, as first and foremost, I’m about performance, just not in a vacuum. My belief is that risks are meant to understood and then expressed, not eliminated. I truly enjoy digging into the different investment opportunities and understanding the risks, getting risk aware. What I don’t do is pretend that my philosophy is to eliminate risks.
We see that these concepts are not mutually exclusive, but we try to take it to the extreme. One unique example, which is a personal belief, is that I will not invest where I believe the GP could be an embarrassment. That's the type of cultural alignment I bring to our fund. I refuse to let the hospital invest in particular partnerships or investment vehicles where I think we could risk some embarrassing headline exposure. I very much keep to that alignment for a few reasons.
Trusted Insight: How has the portfolio evolved since you joined?
David Holmgren: Night and day. Hospitals were formerly very profitable because they were reimbursed for cost. They never really had to pay attention to the investment management function. There are large endowments built up over time from some of these old not-for-profits, and they kind of have all been ignored because the hospitals weren't reliant on them to keep their operations afloat.
In the last couple of years in the United States, there's been incredible downward pressure on the cost of healthcare services. Hospital revenues, which included reimbursements from the government, have been collapsing. To fill in the gap of the lost revenue from lower reimbursements, hospital administrations have more recently turned to their investment portfolios to start kicking in more. If you look back seven or eight years ago, there were no hospital CIOs. Now, in the last four or five years, I'm going to say there's been about 70 or so large hospital systems have gone out to create investment departments all across the country, because they now need to pay attention to that un-maximized endowment asset just sitting on their books.
That being the background, the portfolio that existed here before my arrival six years ago was very much what you’d guess a treasury-managed, investment portfolio would be. Being a committee-led and treasury-managed fund pretty much was simply 60 percent equity and 40 percent fixed income. Without an investment head though, there were huge unknown concentration bets like more than 75 percent of the equity weight was in U.S. value stocks. About half of that total portfolio was passively managed, and the other half pretty much went into mutual funds from household named managers.
I quickly institutionalized the investment function starting with a holistic review to design our asset allocation around our objective outcomes. Maintaining the goal of long-term preservation, our objectives expanded to center around specific return hurdles within the hospital’s approved risk systems.
In doing so, we institutionalized and globalized the practice. We introduced new asset classes, which would have been problematic under the previous governance structure. Using just fixed income as an example, we went from a platform of just three funds to now eight. From half passive to none now. And from all core to core opportunistic (including RV strategies), hybrid and private debt now. We’ve increased the expected return, greatly lowered the expected drawdowns and actually lowered the management cost. The fund looks nothing like it had prior, it is far broader and stronger than before.
So night and day. Although the changes are pretty meaningful, it’s the scrapping of passive that most people want to talk about when seeing our changes. On this, we’re very passionate about being all active, we just don't think passive is risk prudent, which clearly aligns with our beliefs in this investment office. If you just go blindly into a market bet, then you're taking the full exposure of that market trade. We only pursue having oversight of every dollar deployed. It doesn't matter if it's a hedge fund, if it's a real estate activity, if it's a venture capital or just a traditional large-cap U.S. equity, we want oversight of our funds. Even if we think a particular manager may be out of market favor for the moment, we find the comfort, the security in knowing that it's being overseen. It’s a governance issue to us, sure better likely performance by being active; however, it’s also far better governance having oversight of every dollar of the hospital’s money at every instant in every environment. So that philosophical difference between legacy and today is very much one of the biggest changes. I’d say the next biggest change was reducing our dramatic home bias by moving to a global framework.
Trusted Insight: Tell me about the portfolio as it stands today? Which asset classes are you investing in?
David Holmgren: Our investment breakdown is roughly one half what we call our growth portfolio, about one third risk reduction portfolio and the residuals, about 14 percent, we call our economic protective portfolio.
The growth portfolio is designed for asset appreciation: these are growth assets whose objective is capital appreciation. That would be our private equity, including our small, but awesome venture capital portfolio. It also includes our newer emerging market equity portfolio, which I’m so proud of. All of our managers, which have an equity-related market bias, are part of this growth portfolio. So we have some dedicated small-cap U.S. equity as well as some small-cap international. We recently added a dedicated allocation to small-cap emerging markets too. That's basically half of our portfolio, which is growth related. So the growth portfolio is about 50 percent of our total AUM. It's very well diversified across the globe and includes everything from hedged equity to traditional large-cap, core U.S. equity.
The second allocation, which is about a third of AUM, is our risk reduction. This is a mix of traditional fixed-income with alternative approaches including absolute return and global currency funds. Similar to our construction of the growth portfolio, our risk reduction portfolio is highly diversified, active and global. The objective of this sleeve is meant to offset the volatility of our growth component. Although we maintain return hurdles for inclusion here, albeit lower than for the growth fund, the blended objective of this risk reduction fund is ballast. Although getting income is great, our fund likely differs from many others as getting income is not the primary goal for us, it is ballasting our growth.
Interestingly, we do have a return objective here, that fact alone is unique. When you see how investors utilize and define their fixed-income allocation, it sure tells you an awful lot about how the overall plan is designed and the plan’s objectives.
The last portfolio component here, at approximate 14 percent today, is our economic protection. This is a combination of real assets and real estate. That's kind of like other people's definition of the inflation hedged category. Remember the investment for an endowment is for perpetuity, so we have to have a very strong awareness for the inflationary risks to the plan. In this case, we've designed a very interesting program around the psychical assets, which itself is highly diversified. Again, like everything we do, it's global, it's opportunistic, it's diversified and it's conservative.
To use our manager roster to explain, we’ve LaSalle for liquid core, we’ve AEW for core semi-liquid, we’ve Stockbridge for value-add, we’ve Starwood for global opportunities, we’ve FirTree for distressed and we’ve Long Pond for hedged. Like our attempt in every class, we look for the best-in-class specialist managers to, in aggregate, complete our global diversified, high-performing objective. and we tier out the asset liquidity.
The other component outside of real estate is real assets. And we’ve pretty much equally split the fund’s 14% total between these two categories, about 7% to real estate and 7% to real assets. Our real assets include energy distribution, utility infrastructure, oil production -- where we are actually aggressively looking at some of the mid-market oil plays within the United States.
We are not trying to be the traditional old Ivy endowment that's based on a viewpoint of commodities. That's not us. We remove ourselves from trying to time the direction and correlation of inflation. Whether we’re just smaller or more provincial being based in Hartford, we just don’t think we’d have any success in predicting commodity prices. So it makes no sense to us to target dedicated commodity weights. Instead, we hold a diversified pool of assets that will perhaps benefit or provide protection from whichever inflationary, economic environment we're in. There’s also potentially a likelihood of deflation just as important as there is inflation. We’re not playing commodity roulette here. Our fund, instead, has an allocation to a consumer brand licensing fund, an aircraft leasing fund, a shipping fund and an emerging market power distribution fund. It's really important that we’ve diversified our investment thesis and investment management so we're not tied to tracking individual commodity prices.
Trusted Insight: Can you tell me more about the venture capital portfolio you designed?
David Holmgren: We have a target allocation, approximately 12 percent to illiquid equity, which is our private equity allocation. Within that allowance, we wanted to build a fund that fully expresses our long-term belief in capturing growth globally, but still staying within our belief of being highly conservative.
Being a newer investment office, we knew our greatest hurdle would be access to VC or access to the smaller end of the PE spectrum. Still we set out with a long-term target allocation of a quarter our PE fund to VC, or roughly 4 percent. Actually to ourselves, VC includes both early venture and late-stage growth.
Right now, we’re about three years into the program, and we’re about half way there. We’re building this VC portfolio slowly and thoughtfully, and remarkably our net IRR to date is about 55%, which is really good considering we’ve zero offset to the J curve here. It hasn’t moved the needle on the total portfolio just yet, being under 2% of total, but we’re hoping in 2016 our VC pacing and commitments take us close to 3%.
We’ve been able to overcome the access problem of being newer LPs by being extremely active in the market, partnering with Mercer Hammond in Atlanta for constant sourcing and being on the road to show GPs that we’re solid, like-minded partners. Although it’s such a new program, we're thrilled we're in Avalon, GGV, Column Group, BDL and DFJ. And just last week, we got into TrustBridge. We’re making good on our global diversification goal. Actually in here we also have Great Hill, as mentioned we look at late-stage growth with our total for this allocation.
I’m extremely pleased with our success here, as well as with the whole of our PE allocation. I’m very fortunate that we've been able to go into some opportunities that basically hadn't existed in the hospital system prior. Since the fund's been launched, we're actually about one year behind in our pacing plan to meet full PE exposure by 2018, as the markets have been rich, our buyout managers have been slower to draw. Within VC though, we’re on pace, and next year two of our GPs will be reentering the market with their next vintage.
Again, the program's rather immature, because it's so new. Nobody expected our venture portfolio to be a positive contributor within these first couple years, yet we’ve actually booked a great IRR already. A lot of it has been luck, but a lot has been really hard work. The direction is certainly reassuring, and our efforts are paying off.
Trusted Insight: What do you look for when you decide to invest in a particular manager? Take Venture Capital for example. There are many healthcare VC opportunities, how do you tell which one has more potential?
David Holmgren: We spend a crazy amount of time actually with the people themselves. Our belief is that we are committing to people more than we are anything else.
Within healthcare, for example, when we went into Avalon Ventures, we spent time almost a full day with Kevin Kinsella and his team to get to know them beyond their technical backgrounds. His proven background might be in the backing of Vertex Pharmaceuticals, but the decision for us to move forward comes from qualitative assessments. We screen by legacy bios, track records, etc., but thereafter we commit by placing the highest weight on the caliber of the individuals. We honestly can’t realistically evaluate the likelihood of a therapies’ product potential, but if we properly assess the individual’s intelligence, business skills, personality etc., we’ll better manage our fund’s outcome, or at least likelihood of desired outcome.
It’s funny, but we’ve actually been looking into whether our selection preference creates unintended biases. So our gut, although unproven just yet, is that since we only select highly intelligent and very nice individuals that we miss backing aggressive managers that might have more homerun one-offs. We’re fine with our strategy though, as we think it’s best to avoiding a lot more of the failures even if we pass on an occasional homerun.
Trusted Insight: Tell me more about the investment team and your work dynamic.
David Holmgren: The team is great. We've built up gradually and taken one senior officer per year.
My right hand is Kevin Edwards, who's the former CIO of the University of Connecticut. Kevin does a lot of our portfolio construction and modeling. Plus, he’s such a strong, seasoned investor. He can handle a lot of the leg work in manager oversight. Seriously, everyone underestimates the physical time commitments to basic required workload in an investment office, like attending AGMs, but there’s a huge demand on time and having Kevin onboard has been awesome in keeping current.
The year prior we hired Andrew Frongello, who was formerly the director of risk at Cigna Reinsurance here in Hartford. Andrew's position is director of risk management and performance enhancement. Andrew is charged with bringing a lot of the risk awareness, which on a quantitative level is considering exposures to individual managers, performance attribution to different themes, to different classes, to deviation to an index. A very unique idea that we are passionate about is that risk management is not meant to be a back office function, but with me in the leadership team in the front office. To us that's a very unique cultural aspect as to how we designed this investment office, whereas in other endowment offices risk management is more of watching the guardrails.
Our newest hire was this year: Nick Marinos. Nick joined us as our director of investment operations. Nick was also in state, he was formerly a director at SS&C on hedge fund valuations. He's on the senior team here and helps in our banking, valuations, audit and liquidity monitoring. Again, I think it’s unique as to how we set up here. To us, we consider investment operations to be a front office offense, not back office defense function.
Trusted Insight: So what do you see as the biggest challenge for you in healthcare?
David Holmgren: The biggest challenge would be probably the more limited resources. We have over $4 billion, when considering we monitor the DC program as well.
A similar sized investment office elsewhere, would have a different focus on cost containment. A university endowment is more about net results as a single measure. whereas in healthcare it’s still the old hospital mentality that looks at costs and performance as two separate, unrelated factors. Obviously they’re highly related, but that’s not the culture here in healthcare. I was used to the same cultural thinking at the state treasury, so clearly public funds are very similar in this respect.
Hospitals are more cost constrained than other types of endowments or foundations of similar size. Our biggest challenge is remaining competitive with fewer resources. Our fund performance stacks up great against our endowment peers, but we do so on a tighter budget in comparison. It’s a notable challenge.
Trusted Insight: Let's move to your experience at Columbia. How did that shape your value or character as an institution investor?
David Holmgren: Columbia was a phenomenal experience. CBS is a very competitive environment. Certainly the investment industry is wickedly competitive and being in a business school with the same atmosphere felt customary. I mean whether we're nice or not, we're all very competitive individuals or we shouldn’t be in the investment industry. Since we’re all definitely type-A individuals, being in an alpha-dog type pool for grad studies was pretty great.
I wouldn’t say that’s true across all the Ivy's. I know it’s stupid to generalize like this, but I would say it's different. Columbia shapes a culture that no matter how good you are, you’re constantly reminded that there's a ton of brilliant people out there. Whereas Brown, for example, shapes a culture more around the individual. I think everywhere has its own unique culture, and being a global portfolio manager at UBS/DSI, I was in the right competitive landscape for me in the investment industry.
The globalization of class and the locale were hugely influential on me. I was seriously torn between whether to go to Wharton or to CBS. In the end, I thought Columbia Business was a better fit for me, as they had so many people from the New York asset managers and from so many geographic backgrounds. New York was the melting pot and home to so many asset houses; it was high innovation with a high investment competitive spirit and within walking distance to great bars, a perfect combo.
Trusted Insight: Would you be where you are now without going to an Ivy League school?
David Holmgren: I’d like to think so. I know if I’d gone to Wharton, I’d similarly end up here although probably more through the private markets, as opposed to Columbia, where much of my current growth had been in the public markets.
But if I’d attended neither? Maybe it would have taken me longer to get here? I don't believe one’s prevented, without an Ivy League education, from advancing in investments. I don't believe that at all. However, I believe we're all granted opportunity by our circumstances, and being an Ivy grad certainly allows our abilities to be recognized.
My closest friend today was a classmate of mine at Columbia. He's the CIO of a large SWF, and I think he believes the Ivy experience is required for our positions given the external perceptions. If all my boys graduate from the University of Connecticut, for example, I’d be thrilled and confident they’d have great opportunities before them, maybe just slightly different than mine. I wouldn’t discourage anyone from selecting the educational environment best for them, whether an Ivy League or not.
It's interesting because Ivy League students have the education, the background, the network, the intellectual firepower. They can harness it and get better, and that's wonderful. A potential drawback, depending on the type of person, is that it could backfire and create a sense of entitlement, which is a disastrous trait if one wishes to be a successful investor and a reason we spend a lot of time assessing our managers’ personalities.
Trusted Insight: What's the number one lesson you learned during your career as an institutional investor?
David Holmgren: The number one lesson? I'm going to say complacency risk. It's number one, just not to rest on your laurels. The biggest thing I've learned is not to sit still, not to be complacent. Even if we're doing great, there are always areas for improvement.
A perfect example of this is our looking into operational excellence in tandem of investment excellence. The main driver of returns is obviously asset allocation, as we like everyone else focus on getting into the right opportunity sets, but it needs to be implementation though.
There’s a value add from selecting the right managers and entering correctly. It’s easy to get complacent that you only need to get the class and the manager right as those are contributors to alpha. But from a business perspective, we look into implementation, the non-pure investment aspects, as another frontier that needs to be maximized. It might be de minimis compared to asset allocation, but if you keep looking for areas of improvement, there’s always some low-hanging fruit, like in the cost of implementation. I believe it helps our returns to always be on the lookout, just not being complacent.
If you’re looking to rest, investment management is not the field for you. That's philosophically one of the most important lessons I've ever learned. You might be doing great but there’s always room for improvement.
To learn more about the top-tier institutional investors, check out Trusted Insight's list of Top 30 Healthcare Institutional Investors.
Holmgren was recently named to Trusted Insight’s ranked list of the Top 30 Healthcare Institutional Investors. He graciously spoke with Trusted Insight on December 1. The following interview has been edited and condensed for clarity.
Trusted Insight: Tell me about the Hartford HealthCare endowment and how you got involved in the industry?
David Holmgren: I was going to obtain my PhD in economics, and I was enrolled at the University of Warrick. I took a job in international brokerage in London between university graduation and graduate school, and I got involved in international securities analysis and brokerage and absolutely loved it and was very good at it.
I came back to the United States doing security research and portfolio design. It was thereafter that I pursued a full-time career within investment, first portfolio management before moving over to the sponsor side. My passion was global business investment, so then I went back for my graduate degree in business from Columbia University in 1993.
As far as the question about moving to the hospital side, I was previously the senior investment officer at our state treasury here in Connecticut. After one full election cycle, I resigned to accept a CIO position for a sovereign wealth plan, but decided not to relocate as I was a single dad with three boys in high school. So I accepted the offer from Hartford HealthCare to stay local.
I was really interested in finding something more entrepreneurial given my background in private business and honestly didn’t expect hospitals to be as emerging, challenging and multifaceted as this opportunity turned out to be. As a portfolio manager at UBS/DSI, I ran a billion dollars in just European equities, a billion dollars in just Japanese equities, etc. but when I joined the hospital, we were probably only about a $1.5 billion in total. So it was a unique challenge to create the same global reach and abilities with only a small fraction of scale.
My background, my passion, was always best-in-class and globally-diversified. I was an active portfolio manager, so I always knew the performance benefits and risk management benefits from portfolio management. I was never going to rely on beta so I was never a believer in passive and never an ETF player.
I'm literally the old school of investments, which is active, global portfolio management, and to be able to exercise that global breadth with a smaller pool of assets, to me, was absolutely a brilliant entrepreneurial business and investment challenge. These are the cards you're dealt. Do the best job possible. For me, it was a wonderful, enlightening challenge.
We've grown quite a bit since then, and we're a little over $3 billion now. Although our strong performance reflects this growth, we're pretty well known as being one of the most conservative, risk aware endowments or hospitals out there.
I believe our strong performance while remaining highly risk aware comes from functioning as an investment boutique. We’ve set up our investment office with all the lessons learned from years on the private side. So we're not complacent in any way and try our best to express our investment beliefs. For example, we’re comfortable holding more emerging market equity than our peers, as we see the forward opportunity and valuation relative to other investment opportunities. And we will express those investment convictions in our portfolios. That's what continues to deliver our long-term strong performance and prevents us from getting trampled in the beta trades of our peer groups.
So [how did I get involved with the] hospital? I kind of fell into it, and I have been thrilled by the challenge and the ability to deliver for a not-for-profit enterprise, which is really kind of its own motivation right there.
Trusted Insight: Is this risk aware approach also aligned with your personal investment philosophy?
David Holmgren: Yes, very much so. As a funny story, earlier this year an executive recruiter emailed me about a high-profile family office CIO search. I think a lot of high-performing endowment CIO’s got called about it. The skinny was basically that family wanted performance, a high double-digit return stream. That singular and limited objective is not aligned with the field I had come from. I was shocked the recruiter thought of me. I'm from very large global, diversified, active, risk-aware mentality; I’m way too chicken to be concentrated on just high performance alone. I am risk geek at heart.
Now on the opposite side of the spectrum, it’s also a sore spot as I’m also CIO of our offshore insurance captive portfolio where they don't want any volatility; they don't want to express risks at all. So this doesn't align with my beliefs or my passion either, as first and foremost, I’m about performance, just not in a vacuum. My belief is that risks are meant to understood and then expressed, not eliminated. I truly enjoy digging into the different investment opportunities and understanding the risks, getting risk aware. What I don’t do is pretend that my philosophy is to eliminate risks.
We see that these concepts are not mutually exclusive, but we try to take it to the extreme. One unique example, which is a personal belief, is that I will not invest where I believe the GP could be an embarrassment. That's the type of cultural alignment I bring to our fund. I refuse to let the hospital invest in particular partnerships or investment vehicles where I think we could risk some embarrassing headline exposure. I very much keep to that alignment for a few reasons.
Trusted Insight: How has the portfolio evolved since you joined?
David Holmgren: Night and day. Hospitals were formerly very profitable because they were reimbursed for cost. They never really had to pay attention to the investment management function. There are large endowments built up over time from some of these old not-for-profits, and they kind of have all been ignored because the hospitals weren't reliant on them to keep their operations afloat.
In the last couple of years in the United States, there's been incredible downward pressure on the cost of healthcare services. Hospital revenues, which included reimbursements from the government, have been collapsing. To fill in the gap of the lost revenue from lower reimbursements, hospital administrations have more recently turned to their investment portfolios to start kicking in more. If you look back seven or eight years ago, there were no hospital CIOs. Now, in the last four or five years, I'm going to say there's been about 70 or so large hospital systems have gone out to create investment departments all across the country, because they now need to pay attention to that un-maximized endowment asset just sitting on their books.
That being the background, the portfolio that existed here before my arrival six years ago was very much what you’d guess a treasury-managed, investment portfolio would be. Being a committee-led and treasury-managed fund pretty much was simply 60 percent equity and 40 percent fixed income. Without an investment head though, there were huge unknown concentration bets like more than 75 percent of the equity weight was in U.S. value stocks. About half of that total portfolio was passively managed, and the other half pretty much went into mutual funds from household named managers.
I quickly institutionalized the investment function starting with a holistic review to design our asset allocation around our objective outcomes. Maintaining the goal of long-term preservation, our objectives expanded to center around specific return hurdles within the hospital’s approved risk systems.
In doing so, we institutionalized and globalized the practice. We introduced new asset classes, which would have been problematic under the previous governance structure. Using just fixed income as an example, we went from a platform of just three funds to now eight. From half passive to none now. And from all core to core opportunistic (including RV strategies), hybrid and private debt now. We’ve increased the expected return, greatly lowered the expected drawdowns and actually lowered the management cost. The fund looks nothing like it had prior, it is far broader and stronger than before.
So night and day. Although the changes are pretty meaningful, it’s the scrapping of passive that most people want to talk about when seeing our changes. On this, we’re very passionate about being all active, we just don't think passive is risk prudent, which clearly aligns with our beliefs in this investment office. If you just go blindly into a market bet, then you're taking the full exposure of that market trade. We only pursue having oversight of every dollar deployed. It doesn't matter if it's a hedge fund, if it's a real estate activity, if it's a venture capital or just a traditional large-cap U.S. equity, we want oversight of our funds. Even if we think a particular manager may be out of market favor for the moment, we find the comfort, the security in knowing that it's being overseen. It’s a governance issue to us, sure better likely performance by being active; however, it’s also far better governance having oversight of every dollar of the hospital’s money at every instant in every environment. So that philosophical difference between legacy and today is very much one of the biggest changes. I’d say the next biggest change was reducing our dramatic home bias by moving to a global framework.
Trusted Insight: Tell me about the portfolio as it stands today? Which asset classes are you investing in?
David Holmgren: Our investment breakdown is roughly one half what we call our growth portfolio, about one third risk reduction portfolio and the residuals, about 14 percent, we call our economic protective portfolio.
The growth portfolio is designed for asset appreciation: these are growth assets whose objective is capital appreciation. That would be our private equity, including our small, but awesome venture capital portfolio. It also includes our newer emerging market equity portfolio, which I’m so proud of. All of our managers, which have an equity-related market bias, are part of this growth portfolio. So we have some dedicated small-cap U.S. equity as well as some small-cap international. We recently added a dedicated allocation to small-cap emerging markets too. That's basically half of our portfolio, which is growth related. So the growth portfolio is about 50 percent of our total AUM. It's very well diversified across the globe and includes everything from hedged equity to traditional large-cap, core U.S. equity.
The second allocation, which is about a third of AUM, is our risk reduction. This is a mix of traditional fixed-income with alternative approaches including absolute return and global currency funds. Similar to our construction of the growth portfolio, our risk reduction portfolio is highly diversified, active and global. The objective of this sleeve is meant to offset the volatility of our growth component. Although we maintain return hurdles for inclusion here, albeit lower than for the growth fund, the blended objective of this risk reduction fund is ballast. Although getting income is great, our fund likely differs from many others as getting income is not the primary goal for us, it is ballasting our growth.
Interestingly, we do have a return objective here, that fact alone is unique. When you see how investors utilize and define their fixed-income allocation, it sure tells you an awful lot about how the overall plan is designed and the plan’s objectives.
The last portfolio component here, at approximate 14 percent today, is our economic protection. This is a combination of real assets and real estate. That's kind of like other people's definition of the inflation hedged category. Remember the investment for an endowment is for perpetuity, so we have to have a very strong awareness for the inflationary risks to the plan. In this case, we've designed a very interesting program around the psychical assets, which itself is highly diversified. Again, like everything we do, it's global, it's opportunistic, it's diversified and it's conservative.
To use our manager roster to explain, we’ve LaSalle for liquid core, we’ve AEW for core semi-liquid, we’ve Stockbridge for value-add, we’ve Starwood for global opportunities, we’ve FirTree for distressed and we’ve Long Pond for hedged. Like our attempt in every class, we look for the best-in-class specialist managers to, in aggregate, complete our global diversified, high-performing objective. and we tier out the asset liquidity.
The other component outside of real estate is real assets. And we’ve pretty much equally split the fund’s 14% total between these two categories, about 7% to real estate and 7% to real assets. Our real assets include energy distribution, utility infrastructure, oil production -- where we are actually aggressively looking at some of the mid-market oil plays within the United States.
We are not trying to be the traditional old Ivy endowment that's based on a viewpoint of commodities. That's not us. We remove ourselves from trying to time the direction and correlation of inflation. Whether we’re just smaller or more provincial being based in Hartford, we just don’t think we’d have any success in predicting commodity prices. So it makes no sense to us to target dedicated commodity weights. Instead, we hold a diversified pool of assets that will perhaps benefit or provide protection from whichever inflationary, economic environment we're in. There’s also potentially a likelihood of deflation just as important as there is inflation. We’re not playing commodity roulette here. Our fund, instead, has an allocation to a consumer brand licensing fund, an aircraft leasing fund, a shipping fund and an emerging market power distribution fund. It's really important that we’ve diversified our investment thesis and investment management so we're not tied to tracking individual commodity prices.
Trusted Insight: Can you tell me more about the venture capital portfolio you designed?
David Holmgren: We have a target allocation, approximately 12 percent to illiquid equity, which is our private equity allocation. Within that allowance, we wanted to build a fund that fully expresses our long-term belief in capturing growth globally, but still staying within our belief of being highly conservative.
Being a newer investment office, we knew our greatest hurdle would be access to VC or access to the smaller end of the PE spectrum. Still we set out with a long-term target allocation of a quarter our PE fund to VC, or roughly 4 percent. Actually to ourselves, VC includes both early venture and late-stage growth.
Right now, we’re about three years into the program, and we’re about half way there. We’re building this VC portfolio slowly and thoughtfully, and remarkably our net IRR to date is about 55%, which is really good considering we’ve zero offset to the J curve here. It hasn’t moved the needle on the total portfolio just yet, being under 2% of total, but we’re hoping in 2016 our VC pacing and commitments take us close to 3%.
We’ve been able to overcome the access problem of being newer LPs by being extremely active in the market, partnering with Mercer Hammond in Atlanta for constant sourcing and being on the road to show GPs that we’re solid, like-minded partners. Although it’s such a new program, we're thrilled we're in Avalon, GGV, Column Group, BDL and DFJ. And just last week, we got into TrustBridge. We’re making good on our global diversification goal. Actually in here we also have Great Hill, as mentioned we look at late-stage growth with our total for this allocation.
I’m extremely pleased with our success here, as well as with the whole of our PE allocation. I’m very fortunate that we've been able to go into some opportunities that basically hadn't existed in the hospital system prior. Since the fund's been launched, we're actually about one year behind in our pacing plan to meet full PE exposure by 2018, as the markets have been rich, our buyout managers have been slower to draw. Within VC though, we’re on pace, and next year two of our GPs will be reentering the market with their next vintage.
Again, the program's rather immature, because it's so new. Nobody expected our venture portfolio to be a positive contributor within these first couple years, yet we’ve actually booked a great IRR already. A lot of it has been luck, but a lot has been really hard work. The direction is certainly reassuring, and our efforts are paying off.
Trusted Insight: What do you look for when you decide to invest in a particular manager? Take Venture Capital for example. There are many healthcare VC opportunities, how do you tell which one has more potential?
David Holmgren: We spend a crazy amount of time actually with the people themselves. Our belief is that we are committing to people more than we are anything else.
Within healthcare, for example, when we went into Avalon Ventures, we spent time almost a full day with Kevin Kinsella and his team to get to know them beyond their technical backgrounds. His proven background might be in the backing of Vertex Pharmaceuticals, but the decision for us to move forward comes from qualitative assessments. We screen by legacy bios, track records, etc., but thereafter we commit by placing the highest weight on the caliber of the individuals. We honestly can’t realistically evaluate the likelihood of a therapies’ product potential, but if we properly assess the individual’s intelligence, business skills, personality etc., we’ll better manage our fund’s outcome, or at least likelihood of desired outcome.
It’s funny, but we’ve actually been looking into whether our selection preference creates unintended biases. So our gut, although unproven just yet, is that since we only select highly intelligent and very nice individuals that we miss backing aggressive managers that might have more homerun one-offs. We’re fine with our strategy though, as we think it’s best to avoiding a lot more of the failures even if we pass on an occasional homerun.
Trusted Insight: Tell me more about the investment team and your work dynamic.
David Holmgren: The team is great. We've built up gradually and taken one senior officer per year.
My right hand is Kevin Edwards, who's the former CIO of the University of Connecticut. Kevin does a lot of our portfolio construction and modeling. Plus, he’s such a strong, seasoned investor. He can handle a lot of the leg work in manager oversight. Seriously, everyone underestimates the physical time commitments to basic required workload in an investment office, like attending AGMs, but there’s a huge demand on time and having Kevin onboard has been awesome in keeping current.
The year prior we hired Andrew Frongello, who was formerly the director of risk at Cigna Reinsurance here in Hartford. Andrew's position is director of risk management and performance enhancement. Andrew is charged with bringing a lot of the risk awareness, which on a quantitative level is considering exposures to individual managers, performance attribution to different themes, to different classes, to deviation to an index. A very unique idea that we are passionate about is that risk management is not meant to be a back office function, but with me in the leadership team in the front office. To us that's a very unique cultural aspect as to how we designed this investment office, whereas in other endowment offices risk management is more of watching the guardrails.
Our newest hire was this year: Nick Marinos. Nick joined us as our director of investment operations. Nick was also in state, he was formerly a director at SS&C on hedge fund valuations. He's on the senior team here and helps in our banking, valuations, audit and liquidity monitoring. Again, I think it’s unique as to how we set up here. To us, we consider investment operations to be a front office offense, not back office defense function.
Trusted Insight: So what do you see as the biggest challenge for you in healthcare?
David Holmgren: The biggest challenge would be probably the more limited resources. We have over $4 billion, when considering we monitor the DC program as well.
A similar sized investment office elsewhere, would have a different focus on cost containment. A university endowment is more about net results as a single measure. whereas in healthcare it’s still the old hospital mentality that looks at costs and performance as two separate, unrelated factors. Obviously they’re highly related, but that’s not the culture here in healthcare. I was used to the same cultural thinking at the state treasury, so clearly public funds are very similar in this respect.
Hospitals are more cost constrained than other types of endowments or foundations of similar size. Our biggest challenge is remaining competitive with fewer resources. Our fund performance stacks up great against our endowment peers, but we do so on a tighter budget in comparison. It’s a notable challenge.
Trusted Insight: Let's move to your experience at Columbia. How did that shape your value or character as an institution investor?
David Holmgren: Columbia was a phenomenal experience. CBS is a very competitive environment. Certainly the investment industry is wickedly competitive and being in a business school with the same atmosphere felt customary. I mean whether we're nice or not, we're all very competitive individuals or we shouldn’t be in the investment industry. Since we’re all definitely type-A individuals, being in an alpha-dog type pool for grad studies was pretty great.
I wouldn’t say that’s true across all the Ivy's. I know it’s stupid to generalize like this, but I would say it's different. Columbia shapes a culture that no matter how good you are, you’re constantly reminded that there's a ton of brilliant people out there. Whereas Brown, for example, shapes a culture more around the individual. I think everywhere has its own unique culture, and being a global portfolio manager at UBS/DSI, I was in the right competitive landscape for me in the investment industry.
The globalization of class and the locale were hugely influential on me. I was seriously torn between whether to go to Wharton or to CBS. In the end, I thought Columbia Business was a better fit for me, as they had so many people from the New York asset managers and from so many geographic backgrounds. New York was the melting pot and home to so many asset houses; it was high innovation with a high investment competitive spirit and within walking distance to great bars, a perfect combo.
Trusted Insight: Would you be where you are now without going to an Ivy League school?
David Holmgren: I’d like to think so. I know if I’d gone to Wharton, I’d similarly end up here although probably more through the private markets, as opposed to Columbia, where much of my current growth had been in the public markets.
But if I’d attended neither? Maybe it would have taken me longer to get here? I don't believe one’s prevented, without an Ivy League education, from advancing in investments. I don't believe that at all. However, I believe we're all granted opportunity by our circumstances, and being an Ivy grad certainly allows our abilities to be recognized.
My closest friend today was a classmate of mine at Columbia. He's the CIO of a large SWF, and I think he believes the Ivy experience is required for our positions given the external perceptions. If all my boys graduate from the University of Connecticut, for example, I’d be thrilled and confident they’d have great opportunities before them, maybe just slightly different than mine. I wouldn’t discourage anyone from selecting the educational environment best for them, whether an Ivy League or not.
It's interesting because Ivy League students have the education, the background, the network, the intellectual firepower. They can harness it and get better, and that's wonderful. A potential drawback, depending on the type of person, is that it could backfire and create a sense of entitlement, which is a disastrous trait if one wishes to be a successful investor and a reason we spend a lot of time assessing our managers’ personalities.
Trusted Insight: What's the number one lesson you learned during your career as an institutional investor?
David Holmgren: The number one lesson? I'm going to say complacency risk. It's number one, just not to rest on your laurels. The biggest thing I've learned is not to sit still, not to be complacent. Even if we're doing great, there are always areas for improvement.
A perfect example of this is our looking into operational excellence in tandem of investment excellence. The main driver of returns is obviously asset allocation, as we like everyone else focus on getting into the right opportunity sets, but it needs to be implementation though.
There’s a value add from selecting the right managers and entering correctly. It’s easy to get complacent that you only need to get the class and the manager right as those are contributors to alpha. But from a business perspective, we look into implementation, the non-pure investment aspects, as another frontier that needs to be maximized. It might be de minimis compared to asset allocation, but if you keep looking for areas of improvement, there’s always some low-hanging fruit, like in the cost of implementation. I believe it helps our returns to always be on the lookout, just not being complacent.
If you’re looking to rest, investment management is not the field for you. That's philosophically one of the most important lessons I've ever learned. You might be doing great but there’s always room for improvement.
To learn more about the top-tier institutional investors, check out Trusted Insight's list of Top 30 Healthcare Institutional Investors.