3 key issues for hospital and health system fiduciaries to consider in a post-COVID world

In mid-April, we spoke at the HFMA Greater Heartland Spring Conference webinar with CFOs and senior finance leaders from hospitals and health systems across the country. We shared insights on key market opportunities and challenges we see over the next 12-18 months, and we discussed critical decisions that healthcare fiduciaries may need to make regarding their operating, retirement and affiliated asset pools, and how those decisions could affect their financial situation.

 

With skyrocketing expenses and plunging revenues, hospitals and health systems have faced unprecedented challenges this past year and had to review and even restructure their financial plans to level-set the organization. One common theme that emerged from our conversation was that while much time has been spent on an organization’s financial plan and operations, the same may not have been true for the investment program. What is clear is that the strong performance of the capital markets over the past 12 months has rewarded risk-taking. Now is a good time for healthcare fiduciaries to assess their investment portfolios and ensure they are aligned to support the organization’s near- and long-term financial plans.

 

40% of webinar participants stated that while they have not yet made changes to their investment program’s strategic asset allocation in light of financial challenges related to the pandemic, they are considering making changes in the future. This also holds true for our own healthcare client base. In reality, most investors are still determining how best to proceed as we gradually shift from crisis mode into recovery mode. We think it is critical for senior finance leaders of hospitals and health systems to carefully consider the impact of their investments on the financial health of their organizations. Here are the key things we believe you and your team should be doing not only to stay afloat, but also to stay ahead of the curve, in a post-Covid world.

 

1. If the COVID-19 pandemic has materially impacted your system’s financial plan, consider making appropriate changes to your investment strategy

 

Among our client base, some health systems, particularly those in metropolitan areas, have been more severely affected by the COVID-19 pandemic than others. If the pandemic has materially impacted your organization’s finances, you should revisit your investment strategy and confirm whether it still aligns with your overall financial goals. If this proves to no longer be the case, you will need to make appropriate changes, preferably in concert with your investment provider. Take a step back and determine whether your investments match your risk tolerance, and whether the amount of risk in your investment strategy is aligned with what you can afford in your financial plan—so that in case of another significant dip in the markets, your organization’s key financial metrics don’t take a big hit.

 

For example, one of our clients was restructuring their financial plan and balance sheet and needed to significantly reduce risk within their long-term portfolio. We worked with them to reduce exposure to risk assets within the portfolio and then set up a schedule to gradually re-risk the portfolio over time in line with improvements in key operational metrics. As operational metrics improved, the organization was able to re-risk so they could reset themselves going forward.

 

If you have a pension plan, you may want to look at how your funded status has changed, as discount rates have crept up due to rising equities. Additionally, if you do not have a liability-driven investment strategy, now is a good time to think about incorporating one.

 

 

2. Review capital market expectations for your investment strategy to ensure they still support your long-term goals

 

You should also check to see whether your asset allocation still delivers the rate of return you were expecting it to, and whether this takes the latest capital market expectations into account. For example, persistently low interest rates mean depressed bond yields and low borrowing costs, as well as lower long-term capital market forecasts. One area to reassess is fixed income, to which many hospitals and health systems have relatively higher allocations, typically around 30-50%. Certain types of fixed income, such as core fixed income, may have performed well in the past decade, but may not necessarily do as well going forward. Now is a good time to consider diversifying into other types of fixed income, such as absolute return or unconstrained fixed income.

 

Consider also looking beyond publicly traded bonds and diversifying your return sources to help improve your portfolios’ risk-adjusted returns. Private debt is another area ripe with opportunities. Typically, hospitals and health systems don’t have high allocations to illiquid assets, especially if there is concern regarding the impact this may have on the organization’s credit rating. However, private debt can help achieve higher returns, with a shorter lockup of six to eight years and less illiquidity than private equity, which could have a lockup of 10-12 years.

 

3. Be aware of key drivers of risk in your current strategy

 

Lastly, you should be aware of key drivers of risk in your current investment strategy. These might include equity style factors such as growth versus value, country exposure (such as U.S. versus non-U.S. equities), or duration, credit, etc. Here are a few questions you might ask yourselves to check on your appetite for risk and whether you are comfortable with your risk exposures:

 

  • Does your portfolio have a bias for growth equities, and have you considered the potential rotation in the markets toward favoring value equities?
  • Many U.S. institutional investors have a home-country bias toward U.S. equities. How well has this been doing, and how comfortable are you that this trend will be here to stay? While U.S. equities may have outperformed non-U.S. equities in the last 10 years, will this continue?
  • What is the duration of your fixed income, and the relative weights between Treasuries, government bonds and credit?

Overall, your investment decisions are vital to keeping both your patients and bottom lines healthy. Moreover, it’s important to ensure your team is aligned on these decisions now, before the markets shift yet again.