Seven issues that foundation boards are grappling with now

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The past two years have been unusual for investors, to say the least. Yet from a market perspective, conditions have also been fortunately resilient. Today’s headlines, however, are once again filled with disconcerting and uncertain influences, including inflation, rising interest rates and war.

Discussions regarding these influences are happening now at board meetings for endowments and foundations, and they should be on the agendas of family offices, too.

Foundation and endowment boards are usually made up of willing and knowledgeable volunteers, gathered to monitor and grow an organization’s investments. Boards are usually assisted by a professional investment advisor, or they are more fully partnered with a fiduciary who takes control of the investments. Family offices fit within the same broad category of institutional investors as foundations and endowments.

Institutional investors tend to benefit from knowing what their peers are focused upon. I sit on three foundation boards and related investment committees, where I offer insight from a career in capital markets, asset management and alternative sets. Here are a few of the agenda items for my upcoming board meetings.

Search for an outsourced chief investment officer

The price of advice, whether discretionary or not, has come down to levels where you almost have to choose it, unless you have a professional team equipped with the right tools and sufficient time.

We recognize the important differences between investment advisors, outsourced chief investment officers (OCIOs), consultants, etc., but let’s not get lost in the nomenclature. The right partner adds value in a compelling way. The good news is that we have some great options for discretionary and non-discretionary investment partners in Canada, with the access, tools, people, experience and willingness to help practically any institutional investor.

Liquidity assessment

In my experience, few groups consistently assess liquidity – instead, it is often prioritized after a meaningful market event. Liquidity analysis is done to ensure that spending requirements can be met.

Liquidity analysis is ideally done before the initial investments are made, along with goal setting and the establishment of a strategic asset allocation. The analysis should be revisited annually or every other year. It should include an evaluation of the expected liquidity available from each investment or asset class in the context of current and expected markets, in order to ensure sufficient liquidity throughout a full market cycle.

This analysis should also lead to an optimization of acceptable illiquidity, helping to ensure the portfolio gets paid sufficiently for choosing enough illiquid investments that are expected to include an illiquidity premium that boosts returns.

Inflation

This is on almost everybody’s radar today since inflation is influencing both current valuations and outlooks. Inflation is easy enough to understand as a concept, but it can be difficult to determine its future impact on investments. Studying periods of inflation from the past to determine the potential or likely effects today can certainly be helpful, but each period, including 2022, has its own nuances.

Every portfolio is likely to benefit from adjustments made today to account for inflation considerations, even if just to be safe. Making effective choices for your portfolio to recognize an inflationary period will take effort and may benefit from some advice.

Rapidly rising interest rates – fixed income solutions

The widely expected rise in interest rates is happening. The move from emergency levels to rates that fight runaway inflation will likely occur over a lengthy and volatile period.

Higher inflation has taken away the dependable portfolio allocation to bonds, shocking some investors as they receive their Q1 statements. Foundation boards and many others will continue to debate how to execute on their ambitions for 30 per cent to 40 per cent of the portfolio to be safe, uncorrelated to equities and income-producing, which most refer to as the fixed income bucket.

Most institutional investors have moved to a mix of solutions including infrastructure, real estate, mortgages, investment grade corporate credit (without interest rate exposure), high yield or private credit. These choices then trigger discussions about total portfolio risk and liquidity.

Rising interest rates will also play into discussions about current valuations, forecasts for expected asset class returns, risk-adjusted returns and prioritization of desirable investment exposures. If your portfolio has not been adjusted for rising rates, it is not too late to do so.

Rebalancing

As we move out of the pandemic and take stock of the last two years and the recently completed Q1, portfolios have likely undergone material quarter-end rebalancing. Given the secular shift in the long-only, fixed-income investing outlook, further rebalancing between growth and safety/income assets is an ongoing discussion. Add in the impact of inflation, along with continued volatility, and discussions of new asset classes become a persistent theme.

This is where the Statement of Investment Policies plays a role, imposing limits on permitted asset classes and demanding a thorough assessment of total portfolio risk. Risk-adjusted analyses should be reintroduced to the discussion, especially after a period of healthy returns and potentially vulnerable valuations. New solutions to old problems are likely required.

Research potential new asset classes

Foundation boards and committees often spend too much time dissecting recent returns and leave little time to look forward and learn. One theme that I have been involved with recently is the inclusion of a new asset class for consideration and potential further inspection on each quarterly agenda.

Among the factors to consider for new asset classes are inflation, opportunity for return, a search for substitutes, environmental priorities and so on. Asset classes that I have recently seen proposed for discussion are crypto, agriculture, commodities and global small caps (as a potential substitute for emerging-markets equity).  I can’t do justice to any of these asset classes here, but I applaud their introduction to the agenda.

ESG principles

Many investors are working through what ESG (environmental, social and governance) principles mean to their investment objectives and how to embrace this inexact and evolving topic.

Two of my foundation boards have recently adopted ESG language. It is introductory language and signals a commitment to continuing our ESG education and evolving our investment process and our portfolio. The definitions and measurements of ESG are bound to evolve.

Theories about how E, S and G are considered in portfolios will develop differently depending on the investor. That doesn’t make ESG bad or futile, but it’s worth approaching as a developing concept.

This discussion can include new ESG investment solutions, exclusionary planning, thematic or impact fund considerations, reporting, priorities, sources of ESG education, etc.

Future-proofing the portfolio

When I built a house a few years ago I learned that many future-proofing plans end up being a waste of money through obsolescence. However, information gathered from a surprisingly successful pandemic-era investment experience is worth learning from.

I recently heard the pandemic-period market described as “best viewed through the rear-view mirror,” which resonated with me. If we’re honest about some of the concerned thoughts we had in the early days of the pandemic, and throughout it, each of us can probably come up with a list of topics to consider: amount of total equity exposure, sufficient liquidity, fixed income substitutes, home country bias, asset manager reporting and transparency, total portfolio risk, investment due diligence, etc.

Conclusion

Hopefully this list will be helpful to you and your group. The limited meeting schedules of foundation boards or family offices necessitate effective agendas that include forward-looking considerations and the potentially more difficult or less interesting but equally important topics that are essential for long term investment prosperity.

Kevin Foley is a Managing Director, Institutional Accounts, at YTM Capital in Oakville, Ont. YTM manages a credit and a mortgage strategy as alternatives to traditional fixed income. Kevin spent more than 20 years as a managing director in capital markets at a major Canadian bank and he currently sits on three Canadian foundation boards and investment committees. Kevin.foley@ytmcapital.com.

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