Know your risk: How Russia-Ukraine underscores the importance of working with a skilled OCIO provider

Editor's note: This is the first blog in a three-part series: Know what you own; Know where you want to go; Know how to get there.

In our most recent version of our Global Market Outlook, our strategist team points out that central banks haven’t finished tightening and the probability of a recession is rising. And when it’s this late in the cycle, the next turn of the screw could be a major correction.

Savvy investors need to know how much they stand to lose in an adverse market and be ready to react. But acting appropriately requires a deep and detailed view of current exposures within a portfolio as well as an understanding of how those exposures may respond under stress. Does your current OCIO provider have this ability? Because if you’re not sure where you are, how do you know if your next move will add value or cause harm? How can you calibrate positions without understanding the risk/return trade-offs they represent? This level of clarity—of truly knowing what you own—is not a nice-to-have. It’s foundational. And any OCIO provider worth their salt should have this capability.

How street-level is your knowledge?

How deep does your view inside your portfolio need to go? Think about it this way. Say you’re taking your daughter to her soccer game. The clock is ticking and you’re driving to a field that you’ve never been to before. Even with the best map available, having the address for the field is not much good if you don’t have a clear idea where you are now. Every navigational app worth its salt tells you three things: where you are now, the destination and the best route between the two.

The same holds true with investing, with a vengeance. Knowing where a portfolio is now is essential and far from straightforward.  Without that understanding, intentional portfolio management is impossible and unintended risks can creep into your portfolio. Grasping and managing positioning when using multiple mutual funds or sub-advisors compounds the difficulty of this problem and also compounds the importance of finding a solution. Which is where we believe a best-in-class OCIO provider can step in.

At Russell Investments, we believe that detailed, real-time knowledge of what you own is a condition for taking action. When we manage a multi-asset portfolio, we see ALL holdings on a daily basis. This street-level view is a necessary foundation for any active investment process. For example, when Russia attacked Ukraine in February 2022 and governments around the world responded by imposing sanctions on the aggressor, we needed to know whether our clients held Russian securities. Thanks to the real-time visibility we have in our client portfolios, we knew the answer straightaway, down to the security-level details. But this clarity is not easily achieved. Every year, we invest heavily in data systems and analysis that informs our portfolio managers on where their portfolios are positioned, down to the single-security level. We’ve also found that most of the industry’s off-the-shelf analytics tools are designed more for individual security selection or for single asset class views rather than for a total portfolio view that would incorporate multi-dimensional asset and risk exposures, in addition to impact by strategy and sub-advisor. So we’ve also developed our own proprietary tools that allow us to view the portfolio as constructed with the independent building blocks we use. This information enables us to proactively readjust as we see fit. Without this information, we would be flying blind.

A total-portfolio view

Along with a clear view of all the individual constituents, it’s equally important to have a single, integrated view of the total portfolio. Keeping these two extreme ends of the knowledge spectrum in sight simultaneously translates into informed, actionable factor views that empower real-world responses to market conditions.

If you’re responsible for a portfolio, think about your current ability to anticipate and respond to these scenarios: If the Japanese yen slid further in value, would you know how much money you would stand to gain or lose? You might know what would happen if the U.S. Federal Reserve (the Fed) continued raising interest rates, but how exposed are you to interest rates around the world? How much would not only your bonds contribute, but what about holdings in real estate securities (REITs), infrastructure and financial exposures within your equity portfolio? How would these be affected?? How impacted would your portfolio be by an energy-sector downturn—not only through commodities held, but also by energy stocks and international markets that are more heavily exposed to commodities (think Australia and Canada) and their currency markets? These aren’t easy questions to answer, which is why we believe that outsourcing the management of your portfolio to an investment-solutions provider might be a good step to take. But that provider should have the tools necessary to offer a total-portfolio view.

Shocks to the system

Knowing where your portfolio is and how it might behave is never more important than late in the economic cycle.  The question is not if something bad will happen, it is only when. As the saying goes, history doesn’t repeat itself, but it rhymes. So then, to stress-test our own portfolio knowledge, we run test scenarios, often based on actual, relatively recent historic market events. Keeping a clear eye on all of a portfolio’s constituent parts, we may see how it would respond if, say, high-yield corporate bond spreads over Treasuries bonds rose by more than 500 basis points during a recession, inflicting losses on holdings of these high-risk securities. This may appear like an extreme scenario, but it is what happened in when the global Covid pandemic hit in early 2020.  .

Using such real-world examples as market shocks, we believe we can prepare for the universe of highest-likelihood future events. We can judge whether our positions are consistent with what we think will happen and, furthermore, we can fine-tune the size of the positions to make sure we are not risking too much on any single market outcome. Risk management requires this sort of multi-scenario analysis. This is especially important in times like today. But this is only possible if we have a clear view of current portfolio exposures.

The bottom line

With economies and markets in flux ahead of a potential recession, we believe it’s mission-critical for investors to know precisely what’s in their portfolios—at a moment’s notice. Consider working with an investment solutions partner that can provide detailed, real-time knowledge of your total portfolio at the drop of a hat. The best-in-breed OCIO providers will have this ability. Because as the Russia-Ukraine crisis illustrates all-too well, markets can turn on a dime. The time to prepare is now.

In the next blog post in this series, we’ll talk about the second step: Know where you want to go. But that second step is wholly dependent on a clear portfolio view. Successful investing at the total-portfolio level requires a powerful toolkit. And knowledge is power.