Why an outsourced CIO can be the right choice for your nonprofit

July 24, 2019

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Chris Philips

Chris Philips
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Wisely managing the assets of the organization is mission-critical for nonprofits. Yet employing top-tier investment management talent is typically out of reach for all but the largest, most well-established nonprofits. As such, an outsourced chief investment officer (OCIO) may be a nonprofit's most effective approach to a sound investment strategy.

An OCIO typically assumes the responsibilities held by the nonprofit's investment staff, and in some cases acts as a co-fiduciary. Based on the nonprofit's preferences and objectives, the OCIO determines the asset allocation, selects managers, and oversees risk management and governance.

Chris Philips, head of Vanguard Institutional Advisory Services®, says the value of an OCIO actually goes beyond investing alone. "The role of an OCIO includes the ability to improve fiduciary oversight, alleviate resource pressures, and more closely align your portfolio fit with your organization's unique preferences," he says. Bringing on an OCIO essentially gives a nonprofit access to an advisory firm's experience and capabilities, which are often too time-consuming and expensive to have in-house. An OCIO is able to cut through the complexities that have emerged with new investment strategies, and can more quickly decide which are worthwhile and which to bypass. It enables the board and staff to focus on the nonprofit's administrative, operational, and fundraising activities that contribute to the primary mission.

Here are five areas to consider when searching for an OCIO.

Experience

A nonprofit will want to consider the experience of the advisory firm in addressing the specific needs and unique investing challenges that nonprofits face. Many firms have diverse clientele that span across pension funds, high-net-worth families, and other investor types. Given the dynamics unique to nonprofit investing, it's important to ensure that the specific client team has experience both in institutional asset management and working specifically with nonprofits.

Degree of customization

If a nonprofit is moving from an in-house model or single-product solution to an OCIO, they should perform proper due diligence that the firm they choose can provide the right level of customization. Risk tolerance, time horizons, spending policy, liquidity needs, and donor base are only some of the factors that the OCIO should be strategically customizing the portfolio to accommodate. However, there are diminishing returns to consider when evaluating whether an OCIO's approach is overly tactical, says Philips. "There is always a cost to complexity," he says. "It's not only the expense of the portfolio, but the time for your committee to appropriately understand the investments to meet their fiduciary duty. Also, research consistently shows that greater than 90 percent¹ of portfolio movements are attributed to your strategic asset allocation, so at some point, the rising cost of complexity may not be worth it."

Risk management

Risk management has increased in importance over the last decade, and it's important to be sure your OCIO is keeping pace with the changes. In searching for an OCIO, it's important to understand the firm's approach to risk management. Some key questions to ask:

  • How robust is risk management at the OCIO's firm?
  • Does the OCIO have a daily line of sight to the investments that they manage, or do they only allocate the funds to other managers?
  • Where does risk management sit within the organizational chart of the OCIO?
  • Are providers able to stress-test portfolios in a real-time setting, or do they look through the rearview mirror?

In other words, a nonprofit will want to make sure an OCIO's approach to risk is robust, with a clear line of sight to the portfolio and its holdings.

Service model

A great new component won't do much if it doesn't fit with the existing kit of parts. A nonprofit must consider how well its board and executive committee can work with the OCIO. Beyond the personalized service that should be offered, a strong OCIO provider will have a solid understanding of the investment committee and how it functions. Some committees may have limited investment expertise but function well together, reaching fiduciary decisions easily. Others may have significant investment expertise, but decisions are hindered by differing views. An OCIO must exhibit expertise across both investment management and board governance in order to keep the committee focused on fulfilling its mission.

Cost management

Cost may be toward the top of the list, for obvious reasons, but it shouldn't be the only factor. Saving a few basis points with one firm or another may not be the best way to go about choosing an OCIO. "Think of an OCIO as a surround-sound service for your nonprofit," Philips says. "Costs are absolutely important, but don't let that be the only deciding factor," he adds.

While it's tempting to view an OCIO as an answer to investment questions, the role is substantially more holistic. In addition to strong, competitive performance, other benefits for a nonprofit include improved governance and fiduciary practices, as well as fewer administrative and managerial burdens, and support in focusing on goals and productive committee meetings. When viewed through this lens, a nonprofit can truly get the most from this relationship.

¹ Source: Scott, Brian J., James Balsamo, Kelly N. McShane, and Christos Tasopoulos, 2016. The Global Case for Strategic Asset Allocation and an Examination of Home Bias. Valley Forge, PA: The Vanguard Group; based upon research completed by Brinson, Gary P., Randolph Hood, and Gilbert L. Beebower, 1995. "Determinants of Portfolio Performance." Financial Analysts Journal.

Notes:

  • Developed in collaboration with CNBC Brand Studio.
  • Risk and return characteristics are based on Vanguards study of 709 balanced funds in the United States from January 1990 to September 2015. For additional information please see the paper listed above, The Global Case for Strategic Asset Allocation and an Examination of Home Bias.
  • All investing is subject to risk, including the possible loss of the money you invest.