Interview by Muskan Arora

Today we have Mika Malone from Meketa Investment Group to talk about how allocators should invest in the current environment. Malone had been identifying opportunities in AI before most investors knew about them. In this conversation, she opens up about the impact of fed rates in investments, red flags in managers and emerging markets including India and Japan. 

Full interview here: https://youtu.be/xPL2AVZKU3M

Muskan Arora: In 2019, you had already identified AI to be a game changer, how do you plan, and invest ahead of time?

Mika Malone: As AI started to get discussed more in the media, and as tools started to shift and change, we wanted to make sure that we had access to the best tools in the space related to asset allocation.

Using machine learning, using access to this new set of almost infinite data that was out there, where before, a lot of that was very cumbersome. It took a long time to generate the type of scenarios that we wanted to share with clients or think about. Then, as AI started to develop, it was clear that we could get better access and more access to that information.

I’d say, we invested internally in building our own models and tools to take advantage of some of the technological advances in AI. The early opportunities I think were on the private side, as you would expect. Our teams in private equity, and other private asset classes are always looking at what GPs do we love, do they have a proven track record, have done great things for clients over time?

Then, also, who has access to the information on what is happening in AI. What should we be committing to for the future. As you know you’re locking up capital in a venture fund for 10 years plus. We want to make sure that we’re partnering with the right organization.

We also spent time searching for exposure and access to GPs that maybe we didn’t know as well, but that had a specialized set of experience, or background working. Some of the GPs in that space came from huge corporations where they were running internal models. As the marketplace shifted, I think that provided opportunities as well.

Arora: That’s interesting that you spoke about identifying and seeing GPs through a new lens. Could you dive a little deeper into that? How has that changed? What are some red and green that you are looking for now?

Malone: Yes, to me, wanting to find partners for our clients that have experience doing the work that they’re investing in, it’s just one additional layer that gives you confidence that they can figure out among all the AI products out there, and that they may have an information advantage, in terms of what products will come to market, what will be successful.

To Meketa, the green flags are people who have been in their space for a period of time. A lot of exposure to various tools, to models, to seeing what’s out there, and reinforcing that operational diligence that we do, and the investment diligence to make sure that these are people that really do have that advantage.

Red flags are always going to be groups that are pressuring investment just because the market’s moving quickly, they try to capitalize on, “Everybody’s doing this, you need to get in now, or you might not get in.”

I think that we have to really be careful even with new technology, that we don’t rush to make an investment on behalf of our clients, for which we haven’t done our full diligence on. Although AI is very exciting, and we can use it both to analyze things, and to invest in, it doesn’t change the fact that we’re committing to a blind pool of capital for a decade, and we need to make sure that we have a lot of confidence in the GPs that we’re investing alongside.

Arora: Moving on to private credit, like we spoke earlier as well, a lot of managers are offering credit. Whether it will stand the test of the time is a very big question. What are your thoughts on that?

Malone: In terms of private credit, one of the things that we discussed a little bit earlier that I think is important is, we’re all recalibrating the way that we view the risk and return opportunity set and portfolios. Today, if I can earn 5% on effectively cash, everything else has to be viewed relative to that, because I can get a lot closer to 7% with very low risk assets than I could three years ago. That said, if you do think of things on a relative basis, I think that means in places like private credit, there are also opportunities that are offering significant returns, double digit returns. When considering a whole portfolio are still at a lower risk than some of your private equity, or other asset categories as well.

What I think is important is to remember that private credit is also a hugely diverse asset class in and of itself. You’ve got direct lending, specialty finance, special situations. We would like to think of making sure that within that bucket, whether it’s 5% of your portfolio or 10% of your portfolio, that you make sure that that’s diversified. It’s not just a, let’s go find one middle market direct lending strategy, and that’ll be good, and we have our exposure now.

The relationships that we want to build overtime are with a diverse group of underlying managers. I think one of the reasons that investors have really liked private debt, in addition to historically not being able to get much from their public fixed income portfolios. As we sit today, I think it’s also a more attractive time horizon.

In private credit, you tend to have a time horizon that’s much more palatable. I think, okay, if you can earn that 10% or12%, and it’s over the next three to five years, and you can see the end of that tunnel, for a group of trustees or a staff, I think there still is some attractive attributes to wanting to commit to private credit. We do put a lot of resources into evaluating the private credit markets.

What we want to do is just make sure we’re not getting sucked into just one component of what that marketplace looks like. If I could answer for you what manager will stand the test of time, I hopefully would be running a large hedge fund, or fund to fund somewhere. I don’t know who will do the best. We want to be really cognizant of the investment opportunity set, and just those individuals that we’re excited to partner with going forward.

Arora: Within the emerging market sector, why do you think investments in India are rising?

Malone: India has been interesting. As the demographics shift, so too has the stock market in India. The markets there have opened to a degree that I think outside capital has felt increasingly comfortable investing in Indian companies.

To me, what makes India attractive relative to China is that opening, you’re seeing, you can look through and see the governance way less state-owned enterprises now in India than in somewhere like China. On a relative basis, as you look at these two powerhouses in the emerging markets, and really the global markets today. India, I think, has taken a lot of strides to open their economy to show investors what can be attractive about investing in that improved demographic base.

China’s demographics are getting older. There are more state-owned enterprises, a lot more government control. What you see now is that, while China is still the largest component of emerging markets, India is right behind it. You’re looking at only maybe a 6% or 7% differential between the two. It used to be dramatic. I think just four or five years ago, China was like 46% and India was 5% or 6%. Now, you’re looking at India at 16%or 17%, and China at 24%, 25%.

Obviously, I think investors are also interested in taking advantage of active management in that space. When I look at how managers have performed over the last couple of years, you’ve seen a lot of managers be able to make good investments in India and see those good returns.

To me, I can’t predict specifically what sectors I think will do well in India. What I do think is, you’re going to continue to see India grow as a component of the markets, its market capitalization has grown, its GDP growth improves, it’s really on the world stage, looking more attractive. I think that that’ll provide a nice opportunity for investors who have felt maybe somewhat limited by how significant China is as a component of the emerging markets.

Arora: Which sectors within fixed income and real assets do you think will face the most impact due to Fed rates?

Malone: I think there’s some room as you take on more credit risk in various sectors to add yield, and for active managers to do well. I think we’re seeing interest in things like core plus fixed income, which didn’t have a lot of interest for several years, because the overall returns were so low that people didn’t care as much about the alpha. I think today people say, “Oh, if fixed income can get me 4%, or 5%, 6%, plus, a manager can add, 40, 50, 60 basis points, that starts to look very attractive.”

I’m seeing a lot of interest in actively managed core bond strategies and core plus bond strategies. There continues to be interest in things like high yield and bank loans in the public space. You’re always weighing those opportunities with your private credit sleeve. I think that will continue to be a debate over time, where’s the risk, but then where’s the liquidity?

I think you’ll see investors grapple with which place they really should be focusing their capital, and maybe it’s both, but I think everybody’s going to have to have that conversation in real assets. In real estate, we have still seen less interest in things like real estate today, just given the cap rate environment we’re in, given where lease rates are at an office, and how significant that is as exposure in some of the core funds.

I think that there are some newer core real estate funds out there that are starting with fresh capital, that looks a little bit more attractive today. There are things like data centres, as we talk about AI, and we talk about distribution still with groups like Amazon, I don’t think that the need for large pieces of real estate to support that type of work is going to go away anytime soon. I think that there could be some real opportunity in that space as well