State Universities Retirement System of Illinois

Transcription

1 State Universities Retirement System of Illinois Serving Illinois Community Colleges and Universities 1901 Fox Drive Champaign, IL (217) (217) (FAX) Investment Department To: Investment Committee From: Daniel L. Allen, Lou Ann Fillingham, CPA, and Tony J. Lee Date: October 11, 2010 Re: Annual Review of Minority-, Female- and Persons with a Disability- Owned Broker/Dealer Usage by SURS Investment Managers SURS brokerage usage policy initially was approved as a component of the Investment Policy at the December 9, 2005, Board of Trustees meeting. Additional revisions were approved at the September 2007, 2008, 2009 and 2010 Board meetings, providing further modifications regarding brokerage expectations. A brokerage cost review is prepared on a quarterly basis as part of the standard reports for the Board, highlighting the total usage of minority-, femaleand persons with a disability- owned (MFDB) brokerage firms by each of the investment managers in SURS defined benefit portfolio over the previous four quarters. Annually, a review is presented to the Board of Trustees identifying investment managers who faced challenges meeting the desired expectation levels over the prior fiscal year. Based on the quarterly and annual reviews, investment managers may be invited to present to the Board to assist in explaining specific issues regarding brokerage compliance. Fiscal Year 2010 Results The table below illustrates the extent of trading with MFDB broker/dealers in each of the major asset classes for the year ending June 30, Trading with Minority-, Female- and Persons with a Disability- Owned (MFDB) Broker/Dealer Firms Year Ending June 30, 2010 Commissions ($) % of Asset Asset Class to MFDB Firms Class Total Goal Variance U.S. Equity, Active 1, 4 $ 783, % 27.50% 30.26% U.S. Equity, Enhanced Active 2 45, % 10.00% 20.63% Non-U.S. Equity, Active 3 $ 422, % 11.25% 22.97% Non-U.S. Equity, Enhanced Active 2 36, % 10.00% 8.66% Global Equity 4 $ 335, % 17.50% 3.80% Total Equity $ 1,622, % Fixed Income 5 N/A 23.35% 20.00% 3.35% 1 U.S. equity goal increased from 25% to 30% as of January 1, Non-U.S. equity goal increased from 10% to 12.5% as of January 1, Enhanced active equity usage is reported with active equity results. 4 Includes REITs 5 Commissions are not applicable to fixed income. Percentage calculation is based on percent of total market value traded with MFDB firms.

2 Total commissions on equity trades for the one-year period ending June 30, 2010, were approximately $5.08 million. As shown in the table above, commissions allocated to MFDB broker/dealers totaled $1.62 million, representing 28.7% of total equity commissions paid for the period. In aggregate, all asset classes exceeded the brokerage goals set forth in the Investment Policy for trading with minority-, female- and persons with a disability- owned firms. Annually, as a component of the annual compliance process, SURS staff communicates with each of the investment managers, reminding them of SURS commitment to the initiative adopted by the Board at the March 19, 2004, meeting. This initiative was created to develop a strategy for increasing the utilization of minority- and women-owned broker/dealers. Since January 2006, SURS has been communicating quarterly with investment managers who are not achieving the desired levels of trading. The evaluation period is based on a rolling fourquarter period. Due to the inherent seasonality embedded in the reporting process, managers may occasionally fall below levels of utilization for truncated periods of time while consistently reaching overall utilization goals over the longer term. SURS receives trade utilization data from its domestic equity, non-u.s. equity, global equity and fixed income managers that is reconciled to data provided by SURS custodian, Northern Trust. Managers Not Achieving Desired Expectation Levels For the one-year period ending June 30, 2010, two investment managers across three mandates did not achieve the levels desired by SURS. The managers who were unsuccessful in meeting the levels are T. Rowe Price (U.S. equity and global equity) and Davis Hamilton Jackson & Associates (fixed income). U.S. Equities T. Rowe Price manages an enhanced active U.S. equities mandate for SURS. As stated above, the enhanced active U.S. equity asset class expectation is 10.0% usage of MFDB broker/dealers, subject to best execution. Over the one-year period ending June 30, 2010, T. Rowe Price reported 9.0% usage with MFDB brokerage firms, slightly below the expectation level. T. Rowe Price typically views its overall trading on a calendar year basis and plans to meet or exceed SURS expectation at the end of each calendar year. On a year-to-date basis through August 31, 2010, T. Rowe Price had utilized MFDB firms for approximately 10.8% of trades in SURS account. T. Rowe Price expects to refocus their efforts to achieve the expectation levels set forth on a rolling four-quarter basis. Staff will closely monitor T. Rowe Price s progress toward increasing its utilization levels Global Equities T. Rowe Price manages a global equities account for SURS. The asset class expectation is 17.5% usage of MFDB broker/dealers, subject to best execution. Over the one-year period ending June 30, 2010, T. Rowe Price utilized MFDB firms for 16.83% of SURS trades, slightly below the expectation level. T. Rowe Price believes it will exceed the expectation going forward. SURS will continue to monitor results and expects T. Rowe Price will achieve its trading utilization goal.

3 Fixed Income Davis Hamilton Jackson & Associates (DHJA), a fixed income manager whose name has changed to Garcia Hamilton Associates, achieved 17.43% utilization of MFDB broker/dealers for its overall trading volume for the year ending June 30, 2010, when the minimum expectation level for fixed income managers was 20% usage. Although the original data submission from DHJA indicated utilization of MFDB broker/dealers at a level below the expectation, revised data correctly omitting trades using electronic trading platforms identified 22.25% usage of MFDB firms. SURS staff will monitor on-going results to assure compliance continues to be demonstrated. Compliance Enforcement Measures Included in Appendix 2 and as stated in section XVI(B) of SURS Investment Policy adopted by the Board of Trustees on September 3, 2010, the following series of consequences will occur if the investment manager continues to fall short of achieving desired brokerage level expectations: 1) A follow-up letter will be distributed to the investment manager not achieving the minimum level of minority-owned broker/dealer usage. The investment manager will be reminded of the usage expected by SURS. Currently, as stated in the Annual Report to the Governor and General Assembly on the Use of Emerging Investment Managers, prepared as required in Public Act , a letter is distributed to all of the investment managers on an annual basis listing the level of expectations. 2) Not achieving the desired level of minority-owned broker/dealer usage will be noted in the annual investment manager review presented to the SURS Board of Trustees. This could impact the evaluation ranking provided to the firm. 3) SURS Staff will conduct a meeting with the investment manager to discuss the reasons for not achieving the desired level of trading. 4) Investment managers not achieving the expected levels of broker/dealer usage may be subject to a moratorium on additional funding. 5) If an investment manager fails to comply with the request, they may be invited to appear before the SURS Board of Trustees to explain why they are unable to achieve the desired level of trading. 6) The investment manager may be placed on the Investment Manager Watch List in accordance with section IX of this policy. SURS Monitoring Process During the summer, staff visited and communicated with each of the investment managers not meeting the desired levels of trading with MFDB brokerage firms. For the investment managers listed above, a follow-up letter was distributed requesting information as to why the desired levels were not achieved. SURS received responses from both of the investment managers, whose explanations are noted in the above discussion of each manager. The managers are aware of the importance of the initiative and plan to achieve the levels of expected usage while continuing to utilize best execution practices.

4 Educational Efforts On September 21, 2010, the Illinois Regional Minority, Female, Disabled, and Veteran-Owned Brokerage Symposium was held in Chicago and was convened by SURS, the Illinois Municipal Retirement Fund, the Public School Teachers Pension and Retirement Fund of Chicago and, the Cook County and Forest Preserve District Employees Annuity & Benefit Funds. The event, co-facilitated by Progress Investment Management Company and Northern Trust, was attended by approximately 300 persons representing investment managers, MFDB broker/dealers, plan sponsors, Board members and invited guests. Approximately 100% of SURS managers who are subject to SURS brokerage policy attended the forum. The event explored the gap between perception and reality as it relates to MFDB brokerage utilization by institutional investment managers. A committee is being formed to research and provide solutions that will be presented to the National Association of Securities Professionals (NASP) at its December 2010 event to be held in Chicago. Summary Appendix 1 includes a comparison of the desired usage levels for MFDB broker/dealer firms by SURS and other large public pension funds in Illinois. Appendix 2 lists the brokerage expectation levels stated in the Investment Policy approved by SURS Board on September 3, 2010, that become effective January 1, Staff continues to enhance its level of knowledge regarding the brokerage oversight function. SURS does not direct the investment managers to utilize specific broker/dealers; however, when SURS becomes aware of a MFDB broker/dealer, the firm s name and pertinent information is forwarded to SURS investment managers. The investment managers are expected to communicate with the prospective broker/dealer firm to evaluate if a relationship is viable. SURS has developed an increased awareness of the brokerage community as a result of the Board initiative and the Senate Pensions and Investments Committee hearings. Staff will continue to monitor investment manager usage levels of MFDB broker/dealers on a quarterly basis. In addition, staff will continue to ask managers for enhanced efforts to achieve the expected levels of direct trading with MFDB broker/dealers while maintaining best execution practices.

5 Appendix 1 Minority-, Female- and Persons with a Disability- Owned Broker/Dealer Usage Expectation Levels September 2010 Teachers Retirement System of Illinois (TRS) Domestic Equity 15% International Equity 8.5% Fixed Income (based on volume) 15% Illinois Municipal Retirement Fund (IMRF) (All trade levels must be directly executed) Domestic and International Equities, Fixed Income 20% Domestic Micro-Cap Equities, International Small-Cap Equities, Emerging Market 5% Equities and High Yield State Universities Retirement System (SURS) (All trade levels must be directly executed) Domestic Equity Separate Accounts including 30% Structured Active Domestic Separate Accounts 10% Non-U.S. Equity Separate Accounts 12.5% Structured Active Non-U.S. Equity Separate Accounts 10.0% Global Equity Separate Accounts 17.5% Fixed Income Separate Accounts 20% Real Estate Investment Trusts 10% Illinois State Board of Investments (ISBI) Domestic Equity 20% International Equity 20% Fixed Income 20% Public School Teachers Pension & Retirement Fund of Chicago (CTPF) (All trade levels must be directly executed unless otherwise noted) Active Domestic Large and Mid-Cap Equity 50% Active Domestic Small-Cap Equity 35% Passive Large Cap Equity 35% International Equity (At least 50% of trades must be executed directly) 25% Fixed Income (based on volume) 25% County Employees' Annuity & Benefit Fund of Cook County Fixed Income (as a % of par value) 10% Domestic Equity 33% International Equity 10% Municipal Employees Annuity and Benefit Fund of Chicago Domestic Equity 35% International Equity 15% Fixed Income (on a volume basis) 25%

6 Appendix 2 State Universities Retirement System of Illinois Minority-Owned Broker/Dealer Usage Policy Section XVI(B) of SURS Investment Policy (9/10) The Board of Trustees of the State Universities Retirement System has an established policy that seeks increased participation of investment management firms owned by minorities, females, and persons with a disability. As part of this policy, the Board also adopts minimum expectations for the use of minority-owned broker/dealers 1 by the System s investment managers. Investment managers should not use indirect methods such as step-outs to achieve these goals. The minimum expectations are established based on the asset class in which the investment manager invests. SURS encourages its investment managers to strive to exceed the minimum expectations. Domestic Equity Separate Accounts Subject to best execution, active domestic equity investment managers for SURS are required to direct 30% of the total eligible commission dollars to minority-owned broker/dealers. Trades executed using electronic trading platforms are excluded from this requirement. Structured Active U.S. Equity Separate Accounts Subject to best execution, structured active U.S. equity investment managers for SURS are required to direct 10% of the total eligible commission dollars or eligible trading volume to minority-owned broker/dealers. Trades executed using electronic trading platforms are excluded from the 10% requirement. Non-U. S. Equity Separate Accounts Subject to best execution, Non-U.S. equity investment managers for SURS are required to direct 12.5% of the total eligible commission dollars to minority-owned broker/dealers. Trades executed in emerging market countries 2 or using electronic trading platforms are excluded from this requirement. Structured Active Non-U.S. Equity Separate Accounts Subject to best execution, structured active non-u.s. equity investment managers for SURS are required to direct 10% of the total eligible commission dollars or eligible trading volume to minority-owned broker/dealers. Trades executed in emerging market countries or using electronic trading platforms are excluded from the 10% requirement. 1 For purposes of this section and in accordance with P.A , minority-owned broker dealer means a qualified broker-dealer who meets the definition of minority owned business, female owned business, or business owned by a person with a disability, as those terms are defined in the Business Enterprise for Minorities Females, and Persons with Disabilities Act. 2 As defined by Morgan Stanley Capital International

7 Global Equity Separate Accounts Subject to best execution, global equity investment managers for SURS are required to direct 17.5% of the total eligible commission dollars to minority-owned broker/dealers. Trades executed in emerging market countries or using electronic trading platforms are excluded from the 17.5% requirement. Fixed Income Separate Accounts Subject to best execution, fixed income investment managers for SURS are required to direct 20% of eligible fixed income trading volume to minority-owned broker/dealers. Trades executed in emerging market countries or using electronic trading platforms are excluded from the minimum trading requirements. Real Estate Investment Trust Securities (REITS) Separate Accounts Subject to best execution, active REITS investment managers for SURS are required to direct 10% of the total eligible commission dollars to minority-owned broker/dealers. Trades executed in emerging market countries or using electronic trading platforms are excluded from this requirement. Reporting Guidelines Each investment manager will submit a compliance report within 30 days after March 31, June 30, September 30 and December 31 of each year. Reporting will be monitored over a rolling twelve-month period. Consequences of Non-Compliance SURS continuously monitors investment managers compliance with this policy and has established a series of consequences for those investment managers who continually fail to meet expectations. The investment managers are expected to achieve the desired levels over rolling twelve-month periods. The following steps will occur if the investment manager continues to fall short of expectations: 1) A follow-up letter will be distributed to the investment manager not achieving the minimum level of minority-owned broker/dealer usage. The investment manager will be reminded of the usage expected by SURS. Currently, as stated in the Annual Report to the Governor and General Assembly on the Use of Emerging Investment Managers, prepared as required in Public Act , a letter is distributed to all of the investment managers on an annual basis listing the level of expectations. 2) Not achieving the desired level of minority-owned broker/dealer usage will be noted in the annual investment manager review presented to the SURS Board of Trustees. This could impact the evaluation ranking provided to the firm. 3) SURS Staff will conduct a meeting with the investment manager to discuss the reasons for not achieving the desired level of trading. 4) Investment managers not achieving the expected levels of broker/dealer usage may be subject to a moratorium on additional funding.

8 5) If an investment manager fails to comply with the request, they may be invited to appear before the SURS Board of Trustees to explain why they are unable to achieve the desired level of trading. 6) The investment manager may be placed on the Investment Manager Watch List in accordance with section IX of this policy.