Eric Ciancaglini Graham Davis Robert Spielvogel Donald MacLeod Brian Corcoran Partners Healthcare Case 5 7 13 In May 2005 Michael Manning deputy treasurer of Partners Healthcare System was tasked with formulating an investment strategy for Partners Healthcare regarding Partner s long term pool LTP of financial assets Partners was the largest healthcare system throughout New England providing a wide range of primary secondary and tertiary health care In order to buffer against operating losses and to garner long term financial value Partners Treasury Department headed by Manning made decisions regarding Partners capital investments Manning is concerned as to whether he should allocate a section of the 2 4B portfolio into real assets The real assets he is considering are commodities and REITs real estate investment trusts In theory it is an intelligent investment decision to further diversify a portfolio utilizing real assets Real assets derive their return from distinct real drivers and are driven by credit sensitive activities Therefore their returns are not highly correlated with the speculative return of equities or the interest rate sensitivity of fixed income assets As such they can provide additional diversification i e less risk to almost any portfolio originally comprised of simply equities and fixed income Exhibit 3 supports this notion when it outlines the correlations the various asset classes have with each other Commodities have a negative correlation with all other asset classes which can be particularly useful in mitigating risk Any rise in returns of other classes has historically led to a marginal decrease in commodities This provides a hedge and prevents putting all of your eggs in one basket REITs have a low but positive correlation with all other asset classes Manning is concerned with the practicality of adding real assets to the portfolio Manning was concerned that the first year that Partners invested in the real assets that they were lucky rather than smart However given the logic described above it would be impractical not to further diversify The purpose of the hospitals portfolio as is any portfolio for that matter is to reach one s target return rate at the lowest give risk This assertion is validated even more for a hospital which should be looking for safe steady returns each year to re invest back into the hospital Thus in theory if one can obtain the same return at a lower given risk through more efficient asset allocation it should be done every time While logically the addition of real assets to a portfolio originally comprised of equities and fixed income makes sense analyzing the quantitative findings of Manning s team can further validate the above assertions The original optimal portfolio for a 10 return with the asset allocation of domestic equities foreign equities and fixed income with a 9 94 standard deviation risk Risk and standard deviation are synonymous because standard deviation is the level of random fluctuation that can occur in this situation to the returns of a portfolio thus the inherent risk Therefore any portfolios that achieve a same expected return with a lower standard deviation are deemed optimally preferred Exhibits 6 7 and 8 look at Manning s team s findings for the asset allocation possibilities by adding just REITs just commodities or both respectively The standard deviations or risk in these scenarios for the optimal 10 return were 9 69 8 65 and 8 49 respectively From Manning s quantitative findings one can see that it is optimal for Partners Healthcare to achieve optimal returns by utilizing an asset allocation of domestic equities foreign equities fixed income securities REITs and commodities This is evident through both a logical explanation of diversification above in addition to a quantitative analysis using the standard deviation of the portfolios in questions as indicators of risk The five asset class portfolio with an allocation of 14 3 in domestic equities 27 5 in foreign equity 22 2 in fixed income securities 13 8 in REITs and 22 3 in commodities is the optimal allocation for a 10 targeted return Finally if a particular hospital is more or less risk averse they can invest in the different allocations provided in Exhibit 8 for their desired expected return
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