Central bankers and other official sector investors had plenty to think about in 2015. The year was marked early on by sharp jumps in volatility in foreign exchange markets, largely a result of major central bank policy changes, including the decision by the Swiss National Bank to remove the franc's cap to the euro. That was followed by rapid equity price moves in August, ostensibly due to concerns about the strength of the Chinese economy.
At the same time, the implications of the 'flash rally' of US Treasury securities in the second half of 2014 raised persistent questions about the real depth of liquidity in US Treasury markets. Difficult questions were also asked about the liquidity other fixed-income instruments given the apparent scaling down by market-makers due to new Basel capital rules. And at a fundamental level, continued falls in commodity prices raised important questions about the funding capabilities of major commodity exporting nations. Many discussions focused on the crosscurrents created by a possible rise in US interest rates (which would negatively affect the value of core US Treasury holdings) at a time of slowing global growth and growing geopolitical tensions.
As a result, official institutions have sought out asset management partners that can assist them in understanding and addressing some of these strategic medium-term issues, as well as more tactical market-related opportunities. They often needed partners that went beyond pure asset management. State Street Global Advisors (SSGA) emerged as one such partner. The firm established its official institutions group (OIG) in 2000 to manage the assets of central banks, sovereign wealth funds and other government institutions. Official institutions clients that Central Banking spoke with all agreed that, through the OIG, Boston-based SSGA could provide a range of services that went far beyond asset allocation and management, developing the capacity and capability of clients in a variety of ways.
The OIG is led globally by Louis de Montpellier, formerly deputy head of the banking department at the Bank for International Settlements. Several clients spoke highly of how his experience of the central banking world informs his advice and deepens his understanding of the requirements they have to meet. De Montpellier, who also runs the Middle East region for SSGA and sits on the global investment committee, argues that official institutions are part of a "policy context" that has become "much more complex" and "much more challenging".
"Central banks are concerned that their monetary policy actions may contribute to their own investment challenges, especially with regards to risk/return trade-offs and market liquidity," he says. "Where is the new normal? And how should official institutions deal with the macroeconomic consequences and other fallouts from the global financial crisis affecting their investment mandates?"
Forged from a custodian and with a keen focus on fiduciary duty, SSGA has quietly emerged as a major participant in the sovereign sector. Since the global financial crisis, there has been a clear trend towards indexing as official institutions reassessed asset allocation in light of the relative performance of actively managed assets. This has contributed to funds pouring into SSGA's mainstay passive index businesses as well as more recently into 'advanced beta' investments, which typically include liquidity and tail risk constraints for official sector clients.
As a result, SSGA managed some $361.6 billion on behalf of 83 official institutions as of the third quarter of 2015. Since taking over the group from Bank of England veteran John Nugée in August 2013, de Montpellier has attempted to pull together the firm's thought leaders, improve co-ordination among relationship managers and provide access to the full range of SSGA's passive, 'advanced beta' and active strategies to official institutions at a global level – to "leverage the firm", as de Montpellier says.
Carl Riedy is responsible for OIG in the Americas and veteran Hon Cheung remains regional director of OIG in Asia-Pacific. Elliot Hentov is developing OIG team's research and thought-leadership capabilities, and has written reports on topics such as the renminbi as a reserve currency, asset allocation trends among sovereign wealth funds, or potential policy adjustments of oil producers in an era of low oil prices.
The firm now holds virtual monthly meetings among its global staff to share best practice, and also hosts customised courses to offer technical advice and skills transfers to its clients, which a number cited as a key strength. The senior manager of a large official institution in Asia pointed to how SSGA has built up a "multi-faceted relationship". The institution has found State Street to be a key partner as it continues work with Asia's central banks and other institutions to develop the region's capital markets. SSGA "has not only been managing our portfolio" the senior manager at the institution says, but it has been involved "with capital market development and policies, and with our idea generation". The firm has "always supported us intellectually", he adds: a big plus as the institution looks to improve the quality of financial institutions in Asia's markets.
The senior manager, who requested anonymity, also praised SSGA's ability to manage mortgage-backed securities, asset-backed securities and corporate bonds. "It's good to have it all under one roof."
Betting on beta
Getting the basics right was one of the reasons SSGA drew high praise from a reserves manager at central bank in a medium-sized European economy, which has more than $50 billion in foreign exchange reserves. The central bank first hired SSGA in 2008 to manage half of its equity portfolio and appears to represent an example of what de Montpellier describes as central banks "exploring controlled diversification, often through passive index strategies".
The sum under management is now worth about $3 billion and SSGA manages the account in passive replication of benchmark indexes. A senior official at the central bank describes SSGA's management of the portfolio as "top quality". He adds that the central bank has "never experienced any problems" in the seven years it has been managing the portfolio, a period that includes the volatile events in the northern hemisphere summer. SSGA's main strength lies in the way it brings a "very professional and efficient approach" to everything it tackles in connection with the contract, including research, accuracy and additional training for the bank's staff.
SSGA also acts as passive manager for an exchange-traded fund portfolio worth around $10 billion for an Asian central bank. A senior manager at the bank speaks of the "good service" SSGA offers. Their "hallmark", he says, is "good tracking of the index", despite heightened levels of volatility during the year in review. This service comes at a low cost, with SSGA having a relatively low expense ratio, the manager says.
Another attraction is that SSGA has avoided most of the legal, regulatory or reputational storms at a time when so many of its peers have not managed the same. "Having management stability in turbulent markets is a virtue," the central banker adds.
From October 2014, SSGA also spent a year as one of the four executing asset managers chosen to work on the asset-backed securities purchasing programme of the European Central Bank (ECB). SSGA – the only US asset manager – won the contract because it was "very committed" to increasing value for the ECB, and because of the experienced ABS team they could offer, a senior manager who worked on the programme says. SSGA staff also used their experience in filtering and analysing market data to increase the institutional capacity of the Eurosystem's employees. Working with the SSGA team was a "positive experience", the ECB manager said, that had fitted in well with the bank's plans to gradually increase the involvement of national central banks.
SSGA clients have high regard for the efficiency of the firm's asset management, but also value the intellectual breadth and engagement the firm brings to the role of working with central banks and sovereign investors. The OIG does more than just manage the assets under the contracts it has won, it also addresses the associated issues of developing the capacities of banks and funds. Those characteristics are becoming more and more important to official sector investors contemplating the current financial environment, and SSGA has led the way in helping them navigate an uncertain, often troubled policy and market environment.
The Central Banking awards were written by Christopher Jeffery, Tristan Carlyle, Daniel Hinge, Arvid Ahlund, Dan Hardie and Rachael King.