Thanks to market volatility and unprecedented economic uncertainty, Shoaib Khan has had to hit the ground running at the New Jersey Department of the Treasury’s Division of Investment.
He was named as acting director by State Treasurer Elizabeth Maher Muoio in mid-2021. This May, however, he was named permanent director after he was submitted as a qualified candidate by the State Investment Council.
Prior to joining New Jersey’s Treasury, Khan served as a senior portfolio manager at the Florida State Board of Administration. During his career he has also been with Union Bancaire Privée (UBP), a Switzerland-based private bank. He joined UBP as a senior portfolio manager based in Geneva, Switzerland and subsequently took on the role of global head of portfolio Management during which time he was based in Geneva, London, and New York.
Earlier this month, Khan discussed with us how he determined a plan of action for managing the $86 billion New Jersey pension fund, which supports the retirement plans of active and retired employees in numerous New Jersey public pension systems, including the Public Employees’ Retirement System, the Teachers’ Pension and Annuity Fund, the Judicial Retirement System, and the State Police Retirement System, along with New Jersey’s Cash Management Fund.
AW: Having joined New Jersey Division of Investment as market volatility, inflation and interest rates were rising rapidly, how did you prioritize your first steps in leading the investment office and what are you currently focused on?
Khan: Institutional investors and particularly public pension plans have long-term assets and liabilities which leads to following a long-term asset allocation plan. New Jersey Division of Investment’s asset allocation targets are determined by the State Investment Council with input provided by several sources including general and asset-class consultants. One of our priorities is to update and review the current asset allocation plan. Additionally, it’s important to keep a close eye on a plan’s asset/liability structure which can lead to a more robust asset allocation planning process. It was important to put these tasks in motion and as such, both, an asset/liability study and an asset allocation review are being worked on and nearing completion. These steps go towards addressing strategic investment planning.
To go back to your question on market volatility, inflation and rising interest rates, we should speak about taking tactical steps where there is an opportunity to do so. As long-term institutional investors, our primary focus is to establish appropriate allocation targets and then strive to meet them over time. However, given a backdrop of frothy market conditions and potential headwinds we concluded that we did not have the luxury of waiting for the asset/liability and asset allocation work to be fully completed. At the beginning of this calendar year, we reduced our exposure to global growth equities and select fixed income areas and increased our cash and cash equivalents holdings. Based on the current asset allocation plan, our target for cash equivalents is 4%. That’s a reasonable long-term target given the plan’s asset and liability structure. Nonetheless, if there are concerns and reasonable expectations for a potential market downturn, defensive tactical positioning may be appropriate. A pension plan needs to be able to meet its monthly pension obligations irrespective of market conditions. In challenging market conditions, it’s critical to evaluate available liquidity and position a portfolio such that you reduce the need to sell in a down-market. At the beginning of January 2022 our portfolio held a cash equivalents position of approximately 4.5%. To assume a more defensive posture, we increased that allocation to over 7% by the end of March 2022 and by the end of May 2022 we further increased our cash holdings to over 9%. Holding greater cash levels has allowed us to: a) reduce some exposure to more risky assets; b) preserve cash to better position the portfolio to meet its liquidity needs; c) earn a higher rate of return on cash as interest rates increase; and d) position the portfolio with additional dry powder to deploy in the future. We continue to hold healthy cash levels at this time.
Our focus today is not dissimilar to other institutional investors which is to be forward looking, protecting capital where we can, and yet be opportunistic where warranted. The effort by central banks to get their arms around inflation is still ongoing and we will remain focused on seeing how this plays out. It will be important to evaluate the economic collateral damage resulting from steps taken by the Fed and other central banks. As markets reset, we look forward to taking advantage of select windows of opportunities as and when they appear.
Another focus has been the development of an emerging managers program. This is a dedicated effort we launched recently to increase allocations to earlier-stage, smaller, diverse and off-the-radar investment firms within the alternative investment space. This goes towards increasing our exposure to growing but often overlooked pockets of opportunities in the space. I believe creating a dedicated program to directly access these opportunities is the most effective and efficient way to accomplish our objectives here. Our vision for the program is to create several asset class sleeves to include private equity, private credit, real estate and real assets. We have initiated the first stage of the program by creating a private equity sleeve and are now working towards developing additional asset class sleeves. We are also working towards putting together an emerging managers conference in 2023. Through this conference, we will seek to create an opportunity to further the dialogue on the topic and bring together interested parties, including general partners and other limited partners including ourselves.
AW: How are market conditions reshaping return expectations and assumptions?
Khan: As long-term investors we are generally more focused on longer-term return expectations. At this juncture I believe near-term risk is still to the downside. That being said, I recognize and take note of the large levels of cash sitting on the sidelines waiting to be deployed. Recent bear market rallies provide some indication of investor appetite to redeploy capital.
I believe our portfolio is well positioned. We maintain our long-term public markets allocations relatively close to target while holding some dry powder to deploy. Additionally, we are underweight our target allocations in several private market asset classes which will allow us to continue to take advantage of opportunities there. The denominator effect has not been a concern for us thus far, so we have not been sellers in the secondary market. We remain constructive on the long-term return outlook as well as opportunities that will be created in the near future.
AW: What role can private markets play in the pension portfolio?
Khan: Private market asset classes are not only an important part of the pension portfolio but also a significant portion of the portfolio representing 35% of current asset allocation targets. The portfolio is invested in several private market asset classes including private equity, private credit, real estate, real assets and risk mitigating strategies. Having spent many years of my career in alternative investments, I fully recognize the value of diversification and alpha generation opportunities which these investment strategies bring to a portfolio, and I am glad to see that the Division’s State Investment Council also has similar views.
While not all investors can take advantage of private market asset classes due to the longer time horizon requirements, pension portfolios with long-term liabilities are able to do so. These investments allow the Division to spread risk amongst various parts of the market, thereby generating a more balanced return stream. In addition to diversification, having the ability to commit large pools of capital to private equity, private credit, real estate, and real assets allows the pension portfolio to benefit from capturing early-stage opportunities, having exposure to newer and developing industries, providing capital and debt to industries where traditional forms of capital has been pulled back and having greater information flow and control through participation in Limited Partners Advisory Committees (LPACs). All of these factors are positive contributors in generating higher quality returns. More liquid alternative investment strategies which include hedge funds allow the portfolio to capitalize from market dislocations in the areas on interest rates, currencies, commodities, equities and bonds. Such investments often play a role in risk mitigation.
Similar to risk, diversification comes in many forms and to the extent an investor can access the various types of diversification, there can be value added. It was nice to see all of our alternative investment asset classes deliver positive performance in the fiscal year ended June 30, 2022. While it was difficult to avoid a negative performance for the overall pension portfolio due to challenging market conditions, private market assets were able to dampen the broader market impact on the portfolio.
In addition to the factors I have already mentioned, I am of the view that private market asset classes provide unique investment opportunities which may not generally be available within public markets and therefore offer our portfolio an expanded investable universe.
AW: Which asset classes show the most promise over the next decade and why?
Khan: It’s difficult to forecast for a period as long as the next 10 years because a lot of factors and variables that serve as input towards determining the results of the market are unknown at this time. These factors are economic, social and political in nature. For instance, if we head into a meaningful recession next year, how long will it last and how deep will the recession be? When do hostilities in Ukraine end and what will be the economic impact on Europe? China has become more of an unknown factor and brings politics even more into play. Nonetheless I am optimistic and constructive on the next decade overall for the pension portfolio.
Similar to the last decade, the next decade is going to be a game changer for several industries as the development of technology continues to move forward at tremendous speed. Within private equity including venture capital, as development and improvement in the areas of green energy, electric vehicles, medicine and biosciences, 3D printing, and artificial intelligence gain further momentum, I believe there are going to several “ten bagger” investment opportunities. Technological improvements will also enable new processes and lower costs of production which will allow private equity companies to add value to their portfolio companies.
Private credit is also interesting. How long the opportunity lasts depends on whether we experience a deep and/or long recession. During a public market pullback, credit generally becomes less available especially in certain sectors, resulting in higher spreads, better underwriting standards and improvements in covenants. Private credit providers can step in to fill the gap at potentially more attractive returns. If we see a more meaningful recession and the default rate increases significantly, it may lead to opportunities in distressed securities which will extend the opportunity window for private credit.
Renewables and green technology will create opportunities in real assets as will the need for infrastructure development in emerging markets and redevelopment & improvements in developed markets. I also think there will be greater demand for portfolio insurance and risk mitigation strategies from institutional investors seeking less volatile return patterns. A number of recent developments, including increased friction between China and the U.S and its allies, a world shifting away from globalization, technology bifurcation between China and the west and increased protectionism is likely to increase future market volatility. If this in fact turns out to be the environment we are heading into, effective and cost-efficient risk mitigating strategies will be in demand.
AW: What was the last book you read? How did it inspire you?
Khan: Well, I wouldn’t say it was the last book I read, but I consider David Swensen’s Pioneering Portfolio Management to be one of the most relevant and inspiring books for me. The investment strategies he discusses are those with which I am familiar given my background in alternative investments. The most inspirational aspect of David’s writing and indeed his work is his investment philosophy and thinking-outside-the-box approach to portfolio management. At a time when the norm in portfolio management was a 60/40 approach, David was adding private market asset classes to create a more efficient portfolio. As we all know, Yale University endowment benefited tremendously from David’s investment acumen.
