Healthcare entities are typically governed by members of a volunteer investment committee who are charged with fiduciary oversight of multiple, complex portfolios of varying horizons that are closely tied to the organization’s mission.
Yet it is difficult to maintain the discipline of managing a long-term portfolio as markets ebb and flow, investment fashions change, and investment committees turn over. The paradox of a long- term time horizon, while investment environments and organizations evolve, suggests the need for a critical tool in the governance toolbox in order to keep a clear focus and ensure successful outcomes. Crafted wisely, a set of agreed-upon investment beliefs can serve as a tool to enable investment decisions that help healthcare entities ensure capital is available to cover debt requirements, float operations, and/or fund capital spending needs now and in the future.
Members of investment committees who take the time and effort to articulate and document their core beliefs, along with their rationales and supporting evidence, can help sustain the organization long after these foundational decisions have been made. Despite inevitable market and committee changes, the organization will have a clear set of guiding principles to maintain confidence and influence investment decisions to ensure they remain on a steady course.
WHERE TO START? RECOGNIZING THE PROPER ROLE OF GOVERNANCE
An effective investment governance process aligns an institution’s ability and willingness to make investment decisions with the long-term needs of its portfolio(s). The governance process itself can be as difficult to establish as constructing a sophisticated investment portfolio, because every institution has unique capabilities, objectives, needs, and preferences. Ultimately, we believe institutions should strive for a governance process that achieves three goals:
An organization that focuses on its long-term vision
A governing board that supports the investment strategy
An investment committee that implements an investment strategy based on sound investment beliefs
GET IN THE RIGHT MINDSET! THE PROCESS FOR DEVELOPING YOUR INVESTMENT BELIEFS DOCUMENT
Control personal biases, especially if they are overly centered on mitigating short-term risks at the expense of any long-term rewards. It often helps to view risk-bearing capacity and return objectives through the eyes of the organization’s mission, needs, and longevity. This includes frequent discussions between the committee, management, and the consultant, as well as undertaking enterprise risk modeling efforts to get a more holistic view of the risks facing the organization.
Rely on experts and successful investors for guidance. Investment beliefs should be a product of careful, thoughtful analysis and the collective experiences and insight from not only committee members, but also industry experts.
Address six key questions to develop a set of coherent and consistent investment beliefs. (Fear not! It can be a mission affirming and enriching process.)
What Does Investment Success Mean to You?
What Is Your Investment Horizon?
How Do You Define Risk, and How Much Are You Willing to Take?
What Are Your Asset Class and Investment Implementation Preferences?
To What Degree Should Responsible Investments Be Considered Within Your Portfolio?
What Governance Structure and Processes Should Be in Place?
Looking to strengthen your organization’s future? Reconsider investment priorities.
Healthcare systems are facing significant financial pressure. Americans are getting older, increasing the demand for healthcare, while reimbursements aren’t going up in kind. Uncertainty regarding national healthcare policy, as well as the constant challenge of recruiting and retaining high-quality nurses and doctors, are adding to these formidable challenges. In this era of squeezed margins, a thoughtful investment strategy can help healthcare systems position themselves for a strong future.
Pavilion recommends that not-for-profit healthcare organizations prioritize the following actions in 2019.
Consider the “healthcare foundation.”
According to Moody’s, 2017 showed the largest decline in health system operating cash flow margins of any year over the past decade. This is driven by slower revenue growth due to declining reimbursement rates, shift to outpatient care and the growth of government payers.
Dealing with continued operating pressure is likely to be one of the key issues health systems face in the years ahead. Based on the industry outlook, many healthcare entities will continue to rely on their investment portfolio to meet budgeted returns. In an expected lower-return environment from traditional liquid investments, it begs the questions: Should health systems consider a longer-term, less-liquid approach to managing their portfolio to increase return expectations? Should health systems adopt an asset allocation that is similar to that of a foundation?
While each health system faces unique circumstances, it is prudent to re-assess liquidity needs and position the portfolio to optimize investment return potential.
Conduct comprehensive enterprise planning and risk management.
One consideration holding systems back from adopting more aggressive portfolio allocations may be increased capital spending plans. It is imperative that systems integrate their investment strategy with their long-term financial plan to gain a holistic financial picture of their organization.
Just as systems should take a comprehensive look at their financial plans, so should they take a comprehensive view of enterprise-wide risks. Health systems have many investment pools and debt obligations, which should be assessed together. Taking a holistic approach allows organizations to make informed decisions that better support the mission and vision of the system.
Recognize that governance may need to evolve.
Many systems have multiple committees overseeing their various investment pools. As organizations move toward an enterprise-wide approach, committee oversight may need to adjust and may vary depending on organizational needs, the number of investment pools and the desired level of interconnectivity in the enterprise. But ideally, an oversight committee would see a roll-up of the total risk picture and how its mandate impacts the system as a whole.
Leverage the blessing of rising interest rates.
Since most systems are asset sensitive, rising interest rates will help most systems’ bottom line in 2019. For many systems, fixed rate debt dominates their liability mix. The two-year Treasury yield has risen sharply over the past year. As interest rates rise, most health system debt service costs won’t increase much, but yields on fixed income and cash may rise significantly. This should help system profitability in 2019. But this will only partially mask the long-term cost of carrying excess liquidity. That said, systems should assess how much interest rate risk they carry. As we near the end of an interest rate tightening cycle, systems may wish to reposition so that the next rate-cutting cycle will not hurt profitability.
Consider how you are integrating responsible investing.
The topics of ESG, impact, community investing and strategic healthcare innovation investing continue to garner attention. Considerable thought is required to determine how best to integrate these programs into the investment portfolio. Governance, use of internal and external resources, due diligence and the balance of impact versus monetary return expectations are key topics for discussion.
Pay attention to retirement plans.
Recent lawsuits against higher educational institutions regarding governance of 403(b) plans have sent a warning to all plan sponsors that they have a fiduciary duty to obtain competitive services for their plans. Bipartisan legislation proposed in 2018 and expected to be reintroduced next year (the Retirement Security and Savings Act) would permit commingled investment trusts in a 403(b) plan structure. If enacted, this reform could significantly lower plan costs; as such, fiduciaries should monitor legislative developments.
Have a plan for corralling pension risk.
Untimed contributions and rising costs of overall pension plan management pose significant financial risks for some healthcare organizations. Does your organization have a comprehensive strategy for its pension plan(s) to achieve desired financial outcomes? Recent increases in interest rates coupled with strong equity markets have improved funded status. Many organizations have elected to eliminate pension risk from their balance sheets by terminating their plans. Available steps for managing pension risks include lump-sum buyouts and a limited annuity purchase.