Organization Chart I C IJ RREJ\ ""f CO li1' CIL MEMBERS: - - PDF document

SLIDE 1

2 - SDIC Presentation - FY17

Friday, January 15, 2016 9:12 AM

SDIC FY 2017 Budget & Investment Performance Presented to Appropriations Committee January 21, 2016

• Organization Chart
• Assets
• Cost Efficiency
• Long-Term Plan
• Budget Funding Sources
• Compensation Overview
• FY 2015 Budget Review
• FY 2017 Budget Request
• Investment Performance
• Trust Fund Summary
• Appendix

SLIDE 2

I

Organization Chart

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SLIDE 3

N FY 73 I $13} FY 74 D $211

FY7S I $260 FY 76 D $297 FY77 0 $337 FY78 D $392 FY79 II $449 FYBO II $S17 FY U DI $561 FYB2 .. $611 FYU ... $791 FYB4 ...

$80

FYBS - $1,0n FYB6 ... $1,2'8 FYB7 .... $1,453

FY88 - S1,sn Sl,803 $1,870

SZ,055 $1,2&3 $2,605

$VU FYOS. FY06.

fYi7 -

$3,0411, $3,529

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$6,111

$5..831 $6,318 $7,168

• $7,872
• $1,5.80

$7,410 $8,300

$10_ ,049

$9,l GO $9,948 $9,903

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SLIDE 4

I

Cost Efficiency

Management Fees

0.10%*

so:o

:r.t:rr.:I

"""

0.40% •

st,IO :r.t:rr.:I &

OJt!r.le M ?neg:r:.

0.54% 1.70% •¥ 1.04% 0.68%

Difference between SDIC cost of .40% and benchmark cost of .68% is $37 million per year

• SDIC

projected expenses for FY 2017 using adjusted assets and expected average performance incentives

• • Plus 20%

profit participation after preferred return

3

SLIDE 5

Long Term Plan Executive Summary

Projected LTP Budget

INVE STMENT OFFICE BUDGET Persor1al Services N ber of Emp yees Base Compensat:o.n - Total Stsff St

':lff A:rnmey( 1/4 FTE) & lnt-=:rns

I nves tmerd Council Ftexib"liry funds-Retire ments & Resignstic ns I vestmen..t l~ enii\'e Maxim um Benefits To!al Pers ona.I Se.rvices

Operating Expenises

Contrsch.Jsl Service=, Tra"Jel Of e Supplies & Postage Capitsl Assets To~al Operating E.xpenses Tota l lnvesbnent Council Budget AS SET SUMMARY ' I ntemal As =,et;. Exte,rn As sets To:ai As=,ets EXPENSE SUMMARY Internal Expen..ses Extern tanag er Fees To~ Expen.se_s UNIT COST SUMMARY " Internal Expenses ss % of Total Adjusted A ssets To:s Expen5e-S ss % of ot91 Adjusted Assets

.E:t.llUZ

3'2.25 5, 159.02.4.e~ 62,50 1.4.3 6,24o.O 155,552.e6 8,921,54,.lr.l 2,23B,52ij_

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16.541,404.00 1,656.795 85,00 12,733 44.400 1,798,92; 18,340.334 11 03,988,5 9 3,474,943,743 14.478,932,215 18,340,3~ 38,224,381 56,554.7 5 0.094% 0.3Q8~ ,;

• Pro_i:ctions b:,.;;ej on 1o.ng.:;;..n a"ured rEn.mS ~i:lied to e/30/15 35.

s,: ..;;. l!pcb 1ed e:::::h Jl.ll: 30.

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3425 7,008,82'3.39 72,4. :6.29 7.8 5-.ilJ 160.328.1 12,924 ,52 .37

3,110,937.18 23,304.W2-40

1.954 1• 2 1ID.M8 1 5.634

51.4 2

2,124.916 25.4?;,re-3 13,912,0ilB.222

4',393.~.754

18,305.273,9 6 25,42,.e-3 48.325,Q23

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34.25 G.5e2.;;01.07 83.996.70 ,8 5.00 20s.a49.77 16,605,918.22 4.023.538.14 3D.4~ ,978.89

U3 J,72

120,052 18,182 c4.670 2.4-35.476 32;~'3.455 17 .6~}.114,826 5,5Se,,2,.:2.050 23,2711,466,877 ~ .00-3.455 61 ,449.373 94~3.327 .10· 3% 4 7%

4

SLIDE 6

I Budget Funding Sources

• South Dakota Retirement System - 88.0%
• Cash Flow Fund - 2.0%
• Dakota Cement Trust - 2.6%
• Education Enhancement Trust - 4.1%
• Health Care Trust - 1.1%
• School & Public Lands - 2.2%

Budget funded by assets under management 0% General Fund appropriation

Note: S&PL share of SDIC expenses paid from earnings of Cash f low Fund

5

SLIDE 7

I

Compensation Overview

• Long term results have significantly exceeded benchmarks
• Added 35% beyond benchmark to SDRS assets in the past 17 years
• Continued success dependent on high caliber team
• Internally manage most assets using internally generated research
• Future team depends on retention of talent pipeline and trainers

Develop internally as cannot compete for top tier experienced talent

• Compensation plan aligned with goal of adding value over long term
• Motivate superior long-term performance and retain successful staff
• Compensation plan revised in 2006, updated in 2010 and 2013
• Council target is 70% of cost of living adjusted med ian industry pay to balance getting a

good deal for Sout h Dakota without losing the good deal if we cannot keep our people

• Incorporates performance incentives
• Pay was increased to 70% target after 2006 study, and by 2013 study had fallen to 55%

6

SLIDE 8

I

Compensation Overview, continued

• Council changes implemented in 2014 to get back to target
• Expa nded incentive compensation plan as opposed to adjusting base compensation
• Incentives expanded to include longer term and stretch incentives and expected to

average 80% {0% to 200%)

• Incentives aligned with the goal of adding va lue and only paid if add va lue
• Cost efficient due to internal management capabilities
• Securing team to preserve internal capabilities best chance to remain cost efficient
• Internal cost .1% with expected average incent ives

7

SLIDE 9

FYlS Budget and Actual

Unexpended credited against FY16

Actual Exp FY 2015 PERSONAL SERVIC ES BASE COMPENSAT ION Base Compensa ion - Investment Slaff 3,633,1 21.86 Base Comp - Accounting, Admin & Longevity 384,38 1.D D TOTAL STAFF - FULL TI M:: 4,017,502.86 PIT Staff Attorney & Interns 28,571.50 Investment Council 2,700.00 Retirement & resig a·ion nexioility funds Benefits 8 14,552.24 Total Base Compensation 4,863,326.60 Investment Perfomiance Incentives Maximum Potential Investment Perf Inc en ive 4,788,671.52 Be efits 590,861.53 Total Investment Performa11ce Incentives 5,379.533.05

Total Persona l Services

10,242,859.65 OPERAT ING EXPENSES Contractual Total (see appendix for further details) 1,275,525.86 Travel 61 ,097.94 Offic e Supplies & Postage 6,310.72 Capital Asse s 47,881.93

Total Operating Expe nses

1,390,816.45 TOTAL BUDGET 11,633,676.10

~ lr.clud= '.102,:541,

t.J

lianz reim bur5 :ment & unusej cornpensatio du e io t!lmover

Budget Rec'd FY 2015 Unex11ended 4,017,261 384 ,139.1 4 392,595 8,214.00 4,409,856 392,353.1 4 22,065 (6,506.50) 5,946 3,246.00 148,061 148,061.00 868,082 53,529.76 5,454 010 590,683.40 7,323,946 2,535,274.48 1,022,536 431,674.47 8,346 482 2,966,948.95 13,800.492 3,557,632.35 1,557,693 282,167.1 4 85,000 23,902.06 12,733 6,422_ 28 43,000 (4,881 .93) 1,698,426 307,609.55 15,498 918 3,865 241.90 8

SLIDE 10

I FYl

7 Budget Request

Summary

PERSONAL SERVICE S BASE COMPENSATION

Base Compensa ·on - lnves nt s afi Base Comp - Accounting. Aclrrin & Longevity

TOTAL STAFF - FULL TIME

PfT Staff Attorney & I terns Investment Council Retirement & resignation flexibility funds Benefits Total Base Compensation Investment Performance Incentives t, axirrum Paten ·a1 lnvestman! Perf Incentive Benefi s Total Investment Perfonnance Incentives Total Personal Services

OPERATING EXPENSES

Co tractual Total (see next page for fur.her details) Travel Office s pplies & Postage Capita I . Assets Total Operating Expenses

TOTAL BUDGET UNIT CO ST SUMMARY • Internal Expenses as % o

· Total Adjusted .Asse s Total Expenses as % of Total Adjusted Assets

• Based on io1

al asseis adjusted to l.

• ng-term value and expenses

using assl1 med average investmen1 perfonna11Ce incentrves Received

FY 2016 4,460,775 403,477 4,864,252 53,891 6,064 151 ,022 955,550 6,030,779 8,034,522 1 117 494 9,152,016 15,182,795 1,605,892 85,000 12,733 47,192 1,750,817 16 933,612 0.092% 0.395% Request FY 2017 % chng 4,605,874 3.25% 409,701

1.54%

5,015,574 3.11% 60,884 12.98% 6,064 0.00% 151,022 0.00% 985 055 3.09% 6,218,599 3.11% 8,921,550

11 .04%

1 231 174 10.17% 10,152,724 10.93% 16,371,323 7.83% 1,656,796 3.17% 85,000 0.00% 12,733 0.00% 44 400

• 5.92%

1,798,929 2.75% 18.170 252

730 %

0.093% 0.396% 9

SLIDE 11

FYl 7 Budget Request

Contractua l services detail

Received Request FY 2016 FY 2017

%chng

CONTRACTUAL SERVICES Investment Services Consul ·ng Services 30,000 30,000 0.00%

lnveslmen, Accounting, Performance Benchmarking 181,000 96,000

• 46.96%

Investment Databases, ews ·eeds & Quo e Fees 471,765 507,336 7.54% Investment Researc Services 256,782 288,185 12.23% Flexibility - From Brokerage to Independent Research 83139 145 000 74.41% Tota l Investment Services 1 022686 1,066 521

4-29% Administrative Expenses

Oflice Rent 120,554 125,069 3.75% Bond/Liabi ity Insurance 7,800 7,800 0.00% Te ephone 12,000 14,000 16.67% Oflice Equip Rental/Maintenance 6,000 6,000 0.00% Bureau of I to & Telecommunications (BIT) 56,232 56,232 0.00% Slate Central Ser1 ices

11 ,086 11,640 5.00%

Legislative Audtt

51 ,500 51,500 0.00%

• rney General's Office - Legal Services

18,509 18,509 0.00% Custodial Fees - Glooal 263,025 263,025 0.00% Seminars/Educational Programs 33,500 33,500 0.00% Business Public ations 3 000 3000 0.00% Total Administrative Expenses 583 206 500 275 1-21% TOTAL CONTRACTUAL SERVICES 1 605 892 1,656 796 3.17%

10

SLIDE 12

Investment Performance

Returns vs. Benchmarks

4 Years 10 Years Annualized Annualized FY 2015 FY 12 - 15 FY 06 - 15

• SDRS Total Fund

4.18% 10.83% 8.46%

• Capital Market Benchmark

2.09% 8.38% 6.71%

Added Value

2.09% 2.46% 1.75%

• State Fund Universe

3.87% 8.42% 6.85%

Added Value

.31 o/o 2.41% 1.61 o/o

• SDRS Beginning FYI 5 Assets

$10.602 billion

.

SDRS Ending 6/30/15 Assets

$10.766 billion

11

SLIDE 13

Investment Performance

Earnings vs. Benchmarks

• Total SDRS dollars earned Fiscal Year 2015
• Total SDRS dollars earned last 4 years
• Total SDRS dollars earned last 10 years
• Extra earnings resulting from last 1, 4 and 10 years of

performance over benchmark (not including compounding) 1 vear

$ .457 billion

$3.832 billion $6.610 billion 4 years 10 years

• vs. Capital Markets Benchmark

$221 million $873 million $1.42 billion

• vs. State Funds

$ 33 million $827 million $1.31 billion

12

SLIDE 14

Superior returns add up over time

Cumulative returns for SDRS, Benchmark, Corporate plans, and other Stat es

$00

$70

$60

$',()

<I>

"

a

~

$40 i;

$30 $20

$10 $0 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006 2009 2012 2015 Annualized Return

42 years ended FY15

• SDRS (10.6%)
• BenchmJr1c (9.6%)
• Corp Plans (9.1%)
• state Pl:ms (9.1%)

13

SLIDE 15

I Potential Excess Earnings

9,000 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000

• 1,000
• 2,000
• 3,000
• 4,000
• 5,000
• 6,000
• 7,000
• 8,000

Exce::s Eamings (In Mil ions}

• A

verage+ 1.00%

• A

verage+ 0.50%

• -A

verage Returns

• A

verage - 0.50%

• A

verage - 1.00%

20 15 2018 2021 2024 2027 2030

• SDIC 42-year outperformance = 1

% annualized vs. benchmark

• If 1

% outperformance continues next 20 years = extra $8 billion

• Outperformance of even half that amount= extra S4 billion
• Underperformance of 1

% = cost to retirement system of $6 9 billion.

2033 2036

14

SLIDE 16

Many pistons contribute

Cumulative added value by source FY99 to FY15

40%

35%

30%

75% 20% 15% 10%

5% 0% FY99

rvo1

FY03 FYOS rY07 FY09 rY11

rvn

FYIS

• ASset Alloc.tion
• Private equity
• Rea I est ate
• Arbilrage
• Ffxed Income
• Global equity

15

SLIDE 17

Every asset category has good and bad years

Annual added or detracted value by source

Asset Class

FY99 FYOO FYOl FY02 FY03 FY04 FYOS FY06 FY07 FYlll! FY09 FYlO

FYll

FY12 FY13 FY14 FY15

G I

• ba I e-qu ity

0.8%

• 0.1%

2.9% 1.9% 0.0%

• 0.4%

0.8%

• 0.3%
• 0.1%
• 6.2%

5.6%

2.1%

• 0.8%

1.1% 3.7% 0.3% 0.1%

Fixed Income

• 0.1%
• 0.1%
• 0.39E
• 0.6%

0.3% 0.0% 0.3%

0.19E

0.0% 0.2%

• 0.9%

0.6% 0.49E

• 0.3%

1.2% 0.1% 0.4% Arbitrage 0.5% 0.7% 0.0%

• 0.1%

0.1%

• 0.1%
• 0.3%

0.3%

• 0.1%
• 0.2%

0.2% 0.1% 0.3% 0.0% 0.0% 0.0% 0.0%

Real estate 1.0%

0.6% 0.5% 0.1%

• .oos

0.5% 2.1% 0.9% 3.0%

• 1.0%
• 7 0%

2.1%

2.39E

• 1.3%

0.6% 1.2% 1.1% P

ri vale equity

• 0.3%

0.0%

• 0.29E

0.2%

• 0.2%

0.3% 0.7!ii 0.6%

• 0.1%

1.8%

• 1.8%

1.2%

• 0.2%
• 1.1%
• 0.8%
• 0.1%

0.5%

Asset Allocaiion

• 0.6%

0.0%

• 0.69E
• 0.6%
• 0.7%

0.8% 0.1% 0.8% 1.0lii 1.0% 1.5% 1.4% 1.9% 1.5% 2.1%

• 0.1%

0.0% Total 1.3%

1.1% 2.3% 1.0%

• 0.4%

1.1%

3.7% 2.4%

3.8%

• 4.5%
• 2.4%

7.6% 3.8%

• 0.1%

6.8% 1.4% 2.1%

16

SLIDE 18

lrrust Funds

(unaudited}

Health Care Trust (established April 2001) Princ ipal as of 12/31/2015 (EST) Princ ipal as of 12/31/2015 (EST) adj sled for inflation Fair Val e (FV) as of 12/31/2015 (EST) Difference - FY less principal Difference - FY less i fl. adj. prin. Fiscal year lo date return Longterm expected mean relurn Payout of 4% plus expected in~ation of 3% Expected return c shionlshortiall Distribution ·or FY 17 (July 1, 2016) EST Distribution for FY 16 (July 1, 2015) Education Enhancement Trust (established April 20011 Principal as of 12/31/2015 (EST) Principal as of 12/31/2015 (EST) adjusted for inflation Fajr Value (FV) as of 12/31/2015 (EST) Difference - FY less principal Difference - FY less i fl. adj. prin. Fisc al year lo date return Longtem1 expected return (lower due to tax-exempls) Payout of 4% plus expected in~ation of 3% Expected return cushionlshortiall Distribu ·on ·or FY 17 (July 1, 2016) EST Distribu ·o for FY 16 (July 1, 2015) $ 85,631,024 $ 112,562,787 $ 129,420,000 $ 43,788,976 $ 16,857,213

• 2.60%

6.03% 7.00%

• 0.97%

4,970,600

4,674,130 $ 347,253,008 $ 451,705,661 $484,274,000 $ 137,020,992 $ 32,568,339

• 2.60%

5.95% 7.00%

• 1.05%

18,244,700

17,036,734 FY 16 Asset location Current Benchm ark Global Equity 41 % 51% Private Equity 3% 0% Real Estate 8% 10% Fixed lncome-lG 21% 30% Fixed ncome-HY 8%

7%

Fixed nc

• m

e-Tips 4% 0% Money Market 16% 2%, Total 100% 100% Law a lows up to 4% of he 16quarter average o be distributed as lo gas principal is not ·01ated as of Dec ember 31 each year. FY 16 Asset location Current Benchmark Global Equity 41 % 51% Private Equi!>/ 3%

• •·

'"

Real Estate

8%

10% Fixed lncome-lG 10% 20% Fixed Income-tax e: 10% 10% Fixed Income-HY

8% 7"'

'"

Fixed Income-Tips

3% 0% Money Marke 17% 2% Total 100% 100% Law a lows up to 4% of the 16quarter average o be distributed as long as principal is no: violated as of Dec ember 31 each year. 17

SLIDE 19

lrrust Funds

(unaudited}

Dakota Cement Trust (established April 2001) P ·ncipal as of 12/31/2015 (EST) Prtncipal as of 121 31/2015 (EST) adjusted for inflation Fair Value (FV) as of 1213112015 (ESD Difference - FV less pfinc ipal Difference - FV less infl. adj. p,incipal Fiscal year to date return Longie rm expected mean return Payout of 4% pus expected inila~on of 3% Expected return cushi0/1/shortiall Distributon for FY 15 (June 2016 to GF) Distributon for FY 15 (June 12, 2015 to GF) School & Public Lands

$ 238,000,000 $ 320,534,038 $ 297,473,000 $ 59,473,000 $ (23,061,038)

• 2.6D"A,

6.03% 7.00%

• 0.97%

11,437,300

10,803,626 lnfia ·

• n pro:ec tion m

and a· ed by Cons titutonal Nil endm ent - FY 16 Ass e!.AJ oc atio Current B chmark Global Equiv; 40% 51% Private Equity 3% 0% Real Estate 9% 10% Fixed Inc ome-lG 20% 30% Fixed Income-HY 8% 7% Fixed Income-Tips 4% 0% r v bney Market 17% 2% Total 100% 100% Constituton allows 4% of the lesser o' 1) the 16 quarier average balance or 2) the current December 31 ·air value, be distributed by June of e following year. (payout is reduced by i flation to - extent infla ·on not offs el by realized net gains) FY16 Fair Value as of 1213112015 (EST) Fisc al year to date return Longterm expected mean return Distribution for FY 16 K-12 (214116) Distribution ·or FY 15 Board of Regents (618/15) TOT.AL

$ 260,467,000

• 2.60%

6.03% 10,227,405 2 092 161 12,319,567 . l\ss et AJI

• c ation

Global Equiv; Private Equity Real Estate Fixed lncome-lG Fixed lncome-non-r Fixed Income-HY Fixed Income-Tips l',bney ~Ike Total

~

Benchmark 42% 51% 2%

• ~-~

7% 10% 19% 30% 1% 8% 7•'

.~

3%

0%1

18% 2% 100% 100% 18

SLIDE 20

I

Appendix

• Investment performance incentives
• Target discount rationale
• FYlS Budget and Actua l - Contractual Services details

19

SLIDE 21

Investment performance incentives

Aligns compensation with goal of adding value

• Encourage superior performance
• Counters underperformance caree r risk that can discourage efforts to add value
• Multiyea r ti meframes encourage investing for the long t erm
• Encourage retention of successful staff
• Team is most attractive to other orga nizations when winning
• Shifts compensation higher when people more sought and down when losing
• Incentives paid only for added value
• Important to encourage adding value in good and bad markets
• Added va lue in down markets more important than in up markets
• Encourages adding va lue by reducing risk when market s expensive

20

SLIDE 22

I

Target discount rationale

• Need top caliber people long term
• Unsuccessful people or job hoppers always ava ilable but no bargain, even if free
• Compensat ion is too low t o recruit veteran high-performers from elsewhere
• Must develop team internally by training crea m of crop local University graduates
• Takes 15 to 20 years to fully develop seasoned talent
• If lose talent pipeline or t rainers, will jeopardized handoff t o next generation
• Our past history and observation of others suggest 70% target
• Only way to know for sure how large discounts ca n work is to risk damaging team
• 50% discount levels in past led t o difficulties
• 30% discount believed sign ificant relative to other high-end professionals
• Industry subject to intense performance measurement with significant consequences for

winn ing and losing which intensifies desire for financial security

• Discounts for top SDIC performers may be much la rger as industry pay for top quartile

performers ca n be double the median

21

SLIDE 23

FYlS Budget and Actual

Contractua l services detail

Actual Budget Rec'd FY 2015 FY 2015 Unex11ended CONTRACTUAL SERVICES Investment Services Consulting Sel'.1ces

0.00 30,000 30,000.00

lnvestme t Acco nting, Performance Bene marking

83,095.51 191,000 107,903.49

Investment Databases, ewsleeds & Quote Fees

439,133.05 435.189 (3,944.05)

Investment Research SeNices

224,581 .84 254.232 29.600.16

Flexibilil'/ - From Brot era;ie to Independent Research

0.00 83,139 8:3,139.00

Total Investment Services

746.811.40 993,560 248.748.60

Admin istrative Expenses Oflice Rent

116,841.40 115.148 (1,693.40)

Bondlliallilit,' Insurance

5,733.50 7,410 1.676.50

Telephone

16,968.34 10,000 (6.958.34)

Oflice Equip Rental/Maintenance

2,55H 6 6,000 3.442.54

Bureau of I lo & Telecommunications (BIT)

45.416.07 48,028 2.6 11.93

State Central Serlices

10,170.22 Q ,513 (657.22)

Legislative Audtt

35.Q 75.10

50,000 14.024.QO

Attorney General's Office - Legal SeNices

17.445.00 18,009 1.064.00

Cus od ial Fees - G looal

251 ,034.22 263,025 11,990.78

Seminars/Educational Programs

25.29'1.3 1 33,000 8.208.69

Business Public a ·ons

1.28 L84 3,000 1.718.16

Tota l Administrative Expenses

528.714.46 564,133 35,418.54

TOTAL CONTRACTUAL SERVICES

1.275,525,86 1,557,!lll3 2112.167.14 22