The Growth of OCIO: Meeting a Market Need or a Wolf in Sheep’s Clothing?
Chestnut Advisory Group
Chestnut is a boutique management strategy consultant dedicated to asset managers and solutions providers.
By Ravi Venkataraman and Amanda Tepper
Managing Partners, Chestnut Advisory Group
The OCIO industry has more than doubled in the past 8 years and we expect this rapid growth to continue.? Chestnut’s forecast of $4.7T in 2029 OCIO AUA implies a robust 8.9% CAGR over the next 5 years globally. Naturally, this rapid growth has attracted the attention of solutions providers of all types: specialists, consultants, asset managers and other service providers that are part of this ecosystem. In a free and mature investment industry, one can logically conclude that the OCIO business model is clearly meeting one or more important asset owner needs.?
The rapid growth of OCIO has also attracted a number of commentators and critics whose views of the OCIO model range from cautionary to pessimistic:
All these critics make valid points that call for care and diligence in delegation and decision making, and the latest article focuses on what can go wrong in an OCIO relationship, primarily through the lens of cost, conflicts and administrative challenges. Our research indicates, however, that hundreds of asset owners are moving to OCIO after carefully considering what tends to go right with delegation: vastly improved governance, better portfolios, enhanced risk management, improved diversification, communication, reporting and often lower cost, especially at smaller asset levels.?
In this article we would like to present some research based evidence so asset owners, and institutions can form their own balanced views. But first, let's define OCIO along a continuum of investment services/solutions.?
The Chestnut Solutions Institute defines investment solutions as all investment products and services whose primary goal is to meet the specific needs of a unique investor or set of investors.
A Framework to Define Investment Solutions
From the chart above, you can see that OCIO is the final stop along a continuum of investment solutions that have been utilized by investors for decades. One caution we do agree with the assertion that fiduciary responsibility cannot be fully outsourced, and we think both asset owners and providers understand that. However, the law does allow for the formal delegation of specific responsibilities, thereby potentially significantly limiting the oversight responsibilities of the asset owner to monitoring the OCIO provider, rather than every aspect of the investment process, operations and resources. For evidence, let’s turn to why investors hire OCIOs:
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Reasons for Hiring an OCIO
Ranked by Importance (Scale of 1-5)
Contrary to many commonly-made assertions, cost savings is not one of the top 5 reasons investors themselves say drove their decision to hire an OCIO.? Our research indicates that Investors are increasingly choosing OCIO in the expectation that an OCIO relationship can deliver better holistic outcomes as measured by each investor’s specific needs.?
The Institute introduced our Asset Owner Solutions Toolkit in a recent public webinar.? The toolkit includes transparent frameworks to help stakeholders evaluate the increasingly wide range of capabilities offered by OCIOS - many of which are illustrated in the chart below.?
OCIO Services Offered
% OCIO Respondents Offering Each Service
Critics’ concerns about OCIOs include conflicts of interests (offering proprietary products), providers declining to utilize appropriate strategies such as LDI, loss of control over investment policies. However, from our research, in most cases investment policy and asset allocation remain the domain of the asset owner, OCIOs typically bend over backwards to provide flexibility, and the vast majority of OCIO providers offer “open architecture” and access to a vast array of third party managers and funds. Further, those who use in-house products in their OCIO portfolios often offer steep fee discounts as well as other value-add services as detailed in the chart above.?
Conflicts of interest are inherent in every part of the fiduciary chain: plan sponsor, investment consultant, asset manager, OCIO search consultants, and the solutions provider. This is a fact of life and great care must be taken to understand and manage these conflicts across the board, not just with OCIOs.
As the concluding paragraph from one of the critical articles cited above so appropriately summarizes, “...the OCIO model is not a silver bullet. All investment models have their pros and cons. And the right model today is not necessarily the right one in future. There will be future innovation in the market given the funding level improvement a number of schemes have experienced of late. What is therefore important today is having a model which is well understood, properly governed and flexible.”
The Chestnut Solutions Institute is an independent forum for all investment solutions industry participants, dedicated to advancing the future of the industry. The Institute’s mission is to educate the marketplace, promote ethical standards and a level playing field.
Chestnut Advisory Group is a boutique, practitioner-led management consulting firm dedicated to asset managers and investment solutions providers.??
The authors, Ravi Venkataraman and Amanda Tepper, are Managing Partners of Chestnut Advisory Group and co-founders of the Chestnut Solutions Institute.