Bond Manager Recounts Rise of LDI Solutions Post-PPA

Richard Familetti was last year appointed president and chief investment officer of Ryan Labs, a Sun Life Investment Management Company specializing in bond portfolios, following his initial 2009 hire as senior portfolio manager and a 2012 promotion to head of asset management.

Sitting down for a high-level strategy discussion with PLANSPONSOR, Familetti suggested his firm is set apart by the long tenure of its investment management team.  

“When I first joined Ryan Labs, I was very impressed to see the portfolio management team has been made up of the same core group of professionals, plus some additions, for the entire history of the firm, going back to our real entry into the asset management space in 2004,” he noted. “Prior to that time, we were more of an advice and data provider. We have had the opportunity to really evolve and flourish post Pension Protection Act.”

The asset management group stated by offering a single core fixed-income strategy, Familetti noted, but over time the liability-driven investing (LDI) capabilities have really ramped up. This has been fueled by the cumulative impact of the PPA, as well as the Moving Ahead for Progress in the 21st Century Act (MAP-21) and its successors, the Highway and Transportation Funding Act of 2014 (HATFA) and the Bipartisan Budget Act of 2015. Familetti also pointed to the recent tax cuts and rapidly growing Pension Benefit Guaranty Corporation (PBGC) premiums as key motivators of pension plan sponsor de-risking behavior.

“With all of this going on in the background, the fixed-income side of the pension plan portfolio is really thought of differently today than in the past, and this has had a pretty big impact on our firm over time,” Familetti explained. “Today we have a full suite of investment grade fixed-income offerings, including short-duration enhanced strategies, core fixed-income offerings, and long duration portfolios—either offered as a custom product or against a Barclay’s benchmark.”

At this stage, Familetti estimated about half his firm’s total invested assets are directed particularly at LDI programming and pension liability management—whether tied to a Barclay’s benchmark or to a custom benchmark. The other half is made up of core and/or short-duration holdings for clients, he explained.

Role of the consultant remains strong

Another change that has occurred over time is the increasingly prominent role of investment consultants in helping to shape LDI strategies and other pension plan behaviors.

“We always are asked by investment consultants about our retention strategies for our management team. Funny enough, they always ask first about the money,” Familetti observed. “They want to know, what is the structure of the deferred compensation and the equity earned by our team? But we’ve demonstrated time and again that manager success is about more than just compensation. It is important for folks in this field to like to work together and to really enjoy what they do. It sounds cheesy, I know, but it is true.”

Familetti further observed that there “have simply been many more consultants and clients who have become focused on long-duration and LDI hedging strategies.” Increasingly they are using “benchmarks where they change allocations dynamically, in both directions, according to interest rates and the level of equities—as opposed to just moving in response to a didactic idea that you want to buy all the bonds you can to eliminate equity risk.”

“That has been the story behind most of the business we have seen recently,” Familetti explained. “Consultants will have different views in terms of how we, as the manager, fit into this effort. When it comes to small and medium-sized pension funds, oftentimes we are working very closely with a consultant to come up with a bond portfolio and a mix of equities that makes sense for that client. It has become very collaborative, in that respect.”

While pension plans are, broadly speaking, on the decline, Familetti expects the role of the consultant in serving this marketplace will remain strong for some time.

“We know that pension plan sponsors have a lot of responsibilities, and unless they are a finance professional in their own right, it may be difficult for them to dig into the weeds on the fixed-income side of the portfolio—or even the equity side of things,” he said. “So there is a lasting reliance on the consultant and their expertise. We meet with so many consultants, and the depth of their due diligence today is amazing. We find ourselves working with all different types of consultants these days.”

Tied to the broad LDI trend and the push towards de-risking, another trend Familetti has observed on the part of investment consultants is “a real push towards more dynamic strategies that are proactive about rebalancing the equity/fixed income mix as interest rates move slowly back towards normal.”

It was with this trend in mind that the firm conceived and launched its latest strategy, dubbed the “Defensive Risk Premia (DRP) strategy.” The portfolio solution is designed for corporate and public pension plans, as well as other institutional investors, Familetti explained.

“This strategy is designed to enhance the defensive role the fixed income allocation plays within the total asset allocation of an institutional investor’s portfolio and to further offset losses from equity market downturns,” he said. “Using a proprietary quantitative model that monitors financial and economic risk on a daily basis, the DRP strategy is designed to turn on when elevated equity risk is indicated and there is a flight to quality into safe haven assets. Using treasury futures contracts, the strategy aims to dynamically offset negative equity performance of market volatility.” 

Offering some additional context, Familetti pointed out that the strategy focuses on three key volatility variables, “not just the VIX.”

“Importantly, it is off all the time, until it is switched on. And then it is only on for a short period, by design, in the context of sharp market drawdowns, which are usually by their nature short-lived and aggressive,” he said. “Once our three risk sign posts turn on, we in effect start to buy long-term treasury futures as a short-term hedge against equity drawdowns. Interestingly, the strategy has only been turned on once in the last year or so—the recent volatility spike hasn’t actually triggered it. And this makes sense, because equity markets have stabilized quite quickly, so we saw just one of the risk signals turn on, but not the others.”