Navigating the hedge fund frontier: Insights from CPP Investments

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Kumar Panja: Welcome to another episode of Market Matters. My name is Kumar Panja and I run the EMEA Capital Advisory Group here at J.P. Morgan. I'm joined today by Amy Flikerski, a Managing Director and head of the External Portfolio Management Group at CPPIB. Welcome, Amy.

Amy Flikerski: Thanks, Kumar. Great to be with you.

Kumar Panja: Great to see you again. So what we thought we would talk about today, kind of three things, and we're going to interweave, lace them through the conversation today. The first thing we'll talk about are questions that hedge fund managers have, whether it's aspiring hedge fund managers, whether it's established hedge fund managers. And the questions they have and they ask us about how to approach CPP Investments, things like team structure, things they should be doing, how they should engage. The second thing is certainly from our perspective, CPP Investments is held up as a model for some other investors for long-term investing in particular. And I think it'd be useful if you could share some insights into kind of how you've done that and what is the model going forward. And then we'll also, of course, touch on current themes of the day. And as I said, we'll mix it up what we talk about. But for those hedge fund manager listeners who are not aware of CPPIB's impact in the hedge fund space. Not quite sure what stone you've been under, but I direct you to their website, which has a lot of good information and unusually so because, one of the things we'll talk about is the transparency that you provide. But if any of you want to know more about CPP Investments-- before you speak to them, please do call me or anyone on the team, and we're happy to talk through before you engage with CPP. I think, Amy, you would be useful to talk about your specific role within external portfolio management.

Amy Flikerski: Happy to do that. Thanks, Kumar. So I lead the External Portfolio Management group. We're a global team. We manage a fair bit of capital focused on just public market external managers. We are based in Toronto as a firm, but we are global as a group and we have a global footprint as a result as well. So we're Toronto, London, Hong Kong, New York. We're about 40 people. And my role is to lead this team. And what we do is investments in established managers, emerging managers, as well as public market co-investment opportunities through managers. So it's a broad-based program. And then we also have portfolio construction and risk within the team as well.

Kumar Panja: Right. And you talked about, you know, the stripes in the team just a moment ago. Certainly one of the questions that we get is about the team structure. Is there, you know, an entry point or several points that you would suggest the managers when they come into CPP? How is the team structured?

Amy Flikerski: In terms of how we're set up, we have sub-strategy specialists, so we have senior team members who are the point people for those strategies. And as I mentioned it's really broad in terms of the coverage, from the commodity insurance linked to more scalable areas like fundamental equities. But basically, the approach would be through either J.P. Morgan Cap Intro or through our team directly. We're one team so it's quite flat if any inbounds come either to me or to other colleagues we figure out how to direct them appropriately. But in terms of kind of fleshing out the structure, we've got roughly those six to eight strategy leads, myself. And then we have a number of mid and junior colleagues who are supporting us and that makes up the 40 people across the different geographies.

Kumar Panja: Very good. Just looking back now for kind of the last three or four years, and the current investing environment seems quite positive. I mean, you and I were talking about one of the charts that my colleague here, long-term strategist, Jan Loeys uses to show hedge fund excess returns over the last 25 years. And the listeners can't see the chart, of course, we don't have that facility here. But Amy and I have looked at the chart and what it shows is those excess returns were there kind of up to about sort of 2006. And then went into kind of flat to negative territory and has come back up not to the same levels as certainly in the late 90s/early 2000s, but it's certainly come back up. So all of that sort of paints the picture that I think most of our listeners are aware of by now, that it's a good environment to be investing in hedge funds. It's a good time to be a skilled hedge fund manager deploying their skills into the marketplace. How have the last three years looked for CPP? I mean, what's performance been like?

Amy Flikerski: The last three years have been really strong, particularly 2022, I think when broader markets -- bond and equities -- were down, and there was a correction in tech. I think we were able to demonstrate through our hedge fund program which is very diversified and global that we could generate returns even in amidst the market backdrop. And really show the benefit of de-correlated nature, or uncorrelated nature of hedge funds in that kind of period. So, I think that is a really good testimony to the value of hedge funds and having the diversification and having that exposure in portfolios.

Kumar Panja: And does that mean that the view on the current environment is positive so that you are continuing to deploy money?

Amy Flikerski: Absolutely. The chart that you reference is compelling, and I think we do see that in terms of pull forward of returns through hedge funds, it's been a strong 2024. And I think that investors broadly have seen the benefit, of course, of having the public markets exposure: the ability to have more flexibility in capital deployment through public market hedge fund managers, the ability to access parts of the market like macro or credit or systematic which are complementary to whatever private equity or venture.

Kumar Panja: Mm-hmm.

Amy Flikerski: Or even private credit that they may have in their portfolio. So I think it's a great opportunity set as we continue to see evolution in the market. We just had the U.S. election, of course, and we'll continue to see what happens, but it's a great backdrop in terms of potentially, you know more deal making, more confidence, more activity, which could translate to better opportunity set across different strategies.

Kumar Panja: Yeah, I mean on that point, I think this kind of the mid to longer-term environment, which we just touched on, I think. It's been observed that the -- a combination of the-the kind of macroeconomic backdrop of elevated fiscal spending, political uncertainty around the world at higher rates. And just greater macro volume in particular provides the environment for hedge funds to do what they're supposed to do and therefore improve hedge fund returns. Do you think that applies to all sectors in the hedge fund space, or do you think there are some that are naturally poised to perform better in that type of backdrop?

Amy Flikerski: I think it's tough to call the alpha in a given strategy. So we tend to think of it as hard to time strategies. So we have roughly a band of allocation across our different areas, and the diversification in the way they all fit together is really kind of the-

Kumar Panja: A secret sauce.

Amy Flikerski: -special sauce, exactly, if you will. [laughter] If one wants to call it that, I think that's where it all comes into play. The complementary nature of macro, of fundamental and systematic kind of coming together. So it's always going to ebb and flow in terms of what you've described, but we think the breadth of our program enables us to deliver on that alpha opportunity set.

Kumar Panja: And you are known to be an investor with a large portfolio, and therefore making kind of large investments. But what about niche strategies, are they still of interest?

Amy Flikerski: So we have a large program, as you mentioned at the start of a very large investor in hedge funds globally. With the seeding, I think we're quite known for that. But we do a lot of different types of investments, both large and early stage. And sometimes they are niche opportunities that are not emerging managers. They can be in nascent markets like carbon trading or specialty sector funds. So we do target that in terms of the potential for higher return profile. Scale and capacity is important to us, but we also think there's a role to play of more niche strategies within our portfolio. For example, fixed income relative value has been an important bedrock of the program as well. And we may have an approach where we'll invest in more managers where its capacity constrained to kind of get the aggregate asset allocation that we're looking for.

Kumar Panja: And one of the topics that we've had from investors, particularly North American pension groups, but not exclusively, has been an increasing interest-- reinterest in portable alpha, which you know, it's a concept that we know has been around for years, cost-effective way to effectively increase returns on public equity portfolio by building in alpha from long only on the long-only side to complement equity beta. What's your view on that?

Amy Flikerski: Sure. I think that it sounds that the evolution of portable alpha has evolved since its initial beginnings in the 2000s. It sounds to me that it's a big area of interest from a lot of different pools of capital. For CPP Investments, we're trying to deliver alpha for our organization. And so we effectively act in a portable alpha type of nature where we're complementing our--

Kumar Panja: You are the alpha stripe.

Amy Flikerski: --private equity -- exactly. We're the alpha piece. And there's another department that is doing that as well, which is called active equities. But that's effectively what we're trying to do. So it makes a lot of sense for those who are really trying to allocate fee dollars for something that's unique and special above what they can access more cheaply through passive exposure.

Kumar Panja: Yeah. Okay. If we pivot now to questions that managers often pose to us when they ask about CPP Investments and say, "How do we go about getting in touch?" And there's a bunch of questions that they ask us. One of the questions, and I think you mentioned it earlier, in terms of timing. They want to give it the best shot and equally, they don't want to waste your time. There's a tension there. What advice would you give to managers -- new managers -- that are thinking about approaching you?

Amy Flikerski: Sure. So my colleague Yan Kvitko leads our emerging managers program, which is, as I mentioned, part of our team, we're one team. So Yan does like to meet folks early, even before they may have materials or a fund if they're just thinking about it. I think that's part of really what it is. It's a dialogue between us and the managers. And I'm sure Kumar, your team is doing the same thing. And we often also get, I think, introductions through your group in that sense.

Kumar Panja: That they shouldn't fret too much about the time.

Amy Flikerski: Exactly. I think sometimes those early discussions can help shape how a manager wants to launch as well. Certainly, we're not trying to have a hands-on approach. We don't have that approach in terms of our investment. But it can help inform choice of providers or operational best practices, et cetera, or fee alignment for example as well. So I think there definitely should not be consternation around early conversations and it's, again, part of the process is to have evolving dialogue.

Kumar Panja: Yeah, no, that's good. The other thing that comes up a lot is the track record. And the managers sort of put themselves under a certain amount of pressure to make sure that they can show and they can come to that meeting, that first meeting or-or early meetings with a demonstrable track record. But of course, we both know that sometimes structurally there isn't the ability for an individual to have a track record that is attributed to that person, either because they've been working for a single CIO type hedge fund where the contribution of that particular portfolio manager can't be stripped out as easily. Or the other construct is where they've been working perhaps in a in a multi-manager set up where, again, there might be contractual restrictions about pulling out the data. But how do you think about that? What are your tips on managers preparing to show their contribution in that construct?

Amy Flikerski: Yeah. That's a fantastic question. So we've been creative around that. Not all investors are the same. So for us, we don't need a minimum years of track. We have often actually invested even with no track, as you say, Kumar, no verified track. So what we do is we triangulate. So we say because of our participation in the markets, we'll often know the firm where they're coming from, so we can triangulate through both provided and off-list referencing to triangulate into the individual's contribution from a performance viewpoint. And again, not looking to the dollar, but to a general high-level sense. We also look at compensation to cross reference what the individual has shared in terms of their P&L impact. So we'll look at tax statements and things of that nature. So yeah, it's a triangulation process in which we'll look at many different pieces of information, but largely trying to pull together all the mosaic of data that we might be able to come across. But it all starts with a first conversation with the individual.

Kumar Panja: Of course it sounds very accommodating as you say. And the last point, because this isn't supposed to be a talk just about new managers, but a lot of managers will come to us and ask, you know, seed or not to seed and you know, and CPP Investments -- it is associated with being very active in the hedge fund seeding marketplace. But you know, is that something which managers need to get their heads around, or will you have relationships with new managers both with a seeding relationship and without?

Amy Flikerski: So we kicked off formally our emerging managers program back in 2016. We had done some seeds before that, but we officialized the program with certain beliefs and approaches and what we do through early-stage managers is both seeding and capital acceleration. So seeding would be the day zero investment, the cornerstone anchor into a new launch. And we'll often actually negotiate for revenue sharing in that case to mitigate the downside risk that we're taking at that early stage. In addition to seeding, we also do what's called capital acceleration, where we're investing in a fund that may be two, three or four years old or more, but seeking those kind of more founders like fees. And in that case, there's no revenue share. And we're not incentivized so much around revenue share. It's more, again, the downside protection to going early. We are very focused on performance and return. So that really is what's driving our interest on the rev share side. And then more broadly why we do early stages to be able to access the capacity, future capacity as well, and to be able to kind of negotiate commercial terms that make sense for us. So I think it's something that we're known for and we are utilizing our long-term horizon as well as our stable capital to be able to participate in that way in the market.

Kumar Panja: In terms of established managers then, so again, we talked about this earlier. Your website is wonderfully transparent in terms of some of the relationships that you have with external portfolio managers. But the question sometimes comes to us from managers who've been, you know, running a business for several years, if not, you know, a decade or so. That is there an opportunity for them to engage with you if, for example, there might be another manager that does something that's similar or maybe it's in the similar segment. What are the rules of the road for established managers? Do they differ vastly from what you've just talked about in terms of new managers?

Amy Flikerski: So we run one portfolio, so that's the beauty of having kind of a simple approach. We think about the portfolio in aggregate, we don't kind of think about it as the emerging manager portfolio and then the established, it's all one. And then one important point actually to add, if I may, to the emerging piece is we're evergreen investors. We don't have, you know, a pool of three-year capital that we need to then recycle. So if that emerging manager does well they, you know, quote unquote "graduate" into our core program, and again, it's the same pool of capital. But there's a view that we don't have to ever redeem because it's going well, it's meeting our objectives and they're no longer tagged as emerging.

Kumar Panja: And you recently launched another program, didn't you, to sort of capture even sort of smaller managers?

Amy Flikerski: That's right. Exactly. So, Kumar, you're referencing what we call Inicio, so that's our answer to the SMA platform and the motivation for that. It's still in kind of early stages, but the motivation has been to be able to perhaps write smaller tickets-

Kumar Panja: Mm-hmm.

Amy Flikerski: -to access an even wider breadth of managers back to the niche point to enable additional diversification to what we have. And again, to see what success can come through the even earlier part of the funnel, if you will. Maybe just addressing the established managers. So we think about our program as what net new will be additive, what is complimentary. It doesn't mean because we have certain allocations that they're fixed and no further ones can come through that area. I think I referenced fixed income relative value as an example. We have that in the systematic space as well. So depending on capacity, we may go with more managers or fewer, it just depends. But basically, anything net new into the portfolio we'll analyze from a portfolio construction impact. And we often think about both the qualitative and quantitative such as correlations or volatility profile around that net new addition. So it's a constantly evolving program in which the direction of travel is increasing, in terms of dollars allocated. So we're very active, we're continuing to build our program and to continue to allocate.

Kumar Panja: And then again a nod to the sheer size of the portfolio in terms of, you know, what size you like to be. How do you think about sizing, particularly in say in established manager space?

Amy Flikerski: We think about it as about roughly $300 million and above. We will have the initial immediate ticket that we'll invest, and then we'll also seek to negotiate the future capacity. Often that's easier of course with the emerging manager, but it can be sometimes with established. So we think about it as those larger tickets for established and potentially the anchor investor for a new launch. And then we'll also for the smaller Inicio type manager it could be $50 million and within a range of $50 to $75 or $100. We also do co-invest, so that's roughly the range between Inicio and co-investment more the agile, nimble dollar size-

Kumar Panja: Right.

Amy Flikerski: -in contrast to the, you know, larger investments that we'll make for established groups.

Kumar Panja: I was going to ask you about the co-investment program because I think in recent years that's also got quite a lot of attention. And sometimes can be the way that you build up a relationship with a new established manager. Is that, again, is an area of focus?

Amy Flikerski: Yes, definitely. It sits within our group as well so we see all of these as working in concert and all centered around the manager. So we have been growing our co-investment efforts over the years steadily from 2018 until now. So we-we have, you know-

Kumar Panja: So across all segments?

Amy Flikerski: Yes.

Kumar Panja: Or strategy segments?

Amy Flikerski: Yeah, it's effectively structured as fundamental trades and then macro or relative value type of trades. A lot of those ideas are coming through our existing managers, but we do occasionally work with what we call off-platform managers. So that can be, as you were saying, a way to get to know the group. We think the alignment with our existing partners is stronger but we do have scope of course to access investment ideas where we have, you know, economics, a compensation model that can also make sense with non-invested partners.

Kumar Panja: Okay. The other thing that I think to be quite interesting for our listeners is when things go wrong. And some of this-- again, you've been investing or CPP Investments have been investing in hedge funds for a long while, and through your career you'll have seen funds come and go through the portfolio. To your mind, how do things go wrong? And by go wrong I mean when a manager exits a portfolio. And how do things go wrong, is it always performance-driven?

Amy Flikerski: Yeah, interesting question. So mostly it's not so dramatic, it is performance-driven. As we know, performance is the lifeblood of a fund that will attract more assets. And to the degree that performance is not there, assets also start to leave-

Kumar Panja: Mm-hmm.

Amy Flikerski: -go out the door. And that often leads to sometimes a fund closure. So that's the most often where it goes wrong. It's that critical moment in time where a fund in year one, two -- has to deliver performance as well as get the investor interest or to keep and grow the investors who are making up the fee allocation. Otherwise, of course, if the fees are going down, it's harder to keep critical talent or to maintain an infrastructure. So it's all connected as we know, but that's most often what we will see. It's  takes a few years to recognize that, but once it happens, it's sometimes an inevitable--

Kumar Panja: Yeah.

Amy Flikerski: --outcome. And that's just the nature of our industry, isn't it? It's a creative destruction in terms of new launches and that close.

Kumar Panja: It's a different approach to saying that all of the managers need to perform all of the time. You will have some flex to say there are certain strategies, that's why you have the diversity that certain strategies won't be performing to the same degree. And that's why you've got that diversity of different strategy in the portfolio. But when you measure that performance of a single manager against a peer group, that's what you are looking at presumably.

Amy Flikerski: Exactly. I think it's an important point to flesh out, which is we are a long-term-oriented investor. We think of ourselves as partners. We are driving towards commercial outcomes. So it's not an indefinite approach in that sense. We are comparing fund managers to the peer group. We're trying to understand what's the driver. There are always reasons why the returns may be less attractive. So it's not to say that if returns are down, we're out, absolutely not. We tend to err on the more patient side, but again, it's not indefinite. So we do a quarterly portfolio review where we look at all of our line items and we discuss this pretty actively. But in terms of decision making tend to be a bit more longer ended.

Kumar Panja: And just picking up on the talent piece that you mentioned there, congratulations on your recent accolade as one of 100 Most Influential Women in Finance. Of course, we think that you are one of the most influential people in finance full stop. But no, very well done on that. But talent and diversity, I think these are things that have been discussed in the past. You've been a big supporter, particularly minorities in hedge funds. What's your assessment on progress though to date?

Amy Flikerski: Yeah, thanks so much, Kumar, [chuckles] as well. Yeah, it's slow. I think we see this more broadly in not just the financial services, but other industries as well. So it's an ongoing challenge and something that we all need to contribute to. But I think it's great to have aspects like emerging managers. And again, for us, it's not necessarily a women and minorities program, but emerging managers more broadly. But I think we do tend to see some of the diversity coming up through that channel as well. So I think it's a really important area of focus. We do think about that a lot as an organization in terms of our own internal efforts through employee groups, support groups, as well as our external efforts around things like board diversity or governance, voting. So we tend to try to impact that in broad ways. And then through our hedge fund program, I think it's really through the emerging manager channel.

Kumar Panja: And just sort of then looking forward then, what are some of the things that you think are going to be front of mind for either yourselves or for hedge fund managers that you are looking to invest in?

Amy Flikerski: I think having been in the industry for a long time, this is a constantly evolving space. So it's the new innovations, whether that's the managed accounts, different ways of trading, alpha capture, the combination of quant and fundamental, for example. New innovations. Or even as you were talking about, macro or policy changes that can result in new opportunities. So I think it's just continuous evolution and being alive to that as well.

Kumar Panja: And as a program, would you say you are -- is it revolution or evolution?

Amy Flikerski: Definitely evolution. We started as a program at CPP Investments, the external portfolio management team, started in 2004. I joined in 2012 and it's definitely been in a constant evolution in terms of refining, taking a very solid foundation, but trying to make it better and better year over year and moving with the opportunity side.

Kumar Panja: Well, given the amount of interest that certainly we hear about and feel from our client base and prospective client base, I think we're certainly in alignment with that. I think this has been very, very helpful. Thank you for being so candid. We've covered a broad range of topics, but uh, no, that was very helpful indeed.

Amy Flikerski: Thank you so much and thanks for the partnership with J.P. Morgan. We're really grateful for that and look forward to working more together.

Kumar Panja: Thank you, Amy.

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