The New ‘FICO Score’ CalPERS and NY Common Are Using to Push Managers on Diversity
Lenox Park has developed what it hopes will be the industry standard for grading managers on their diversity and inclusion efforts.
Everyone knows that diversity — or lack thereof — is a problem in asset management.
Until now, the theoretical solution for many asset allocators has been to invest with more minority- and women-owned managers. One problem: There aren’t nearly enough of them.
At a small technology firm with offices in Texas and New York, a Merrill Lynch alum and a group of software engineers think they have a better answer to asset management’s diversity issues — one that has already gotten buy-in from a couple of the country’s largest pension funds, including the California Public Employees’ Retirement System.
Lenox Park Solutions, an investment technology firm founded by Jason Lamin, has developed a new tool to help asset owners evaluate the diversity impact of their portfolios, while also giving asset managers a benchmark to measure their own diversity and inclusion efforts against those of their peers.
The tool, called the Lenox Park Diversity Impact Score — LPI for short — debuted in November 2019. Within eight weeks, it was adopted by New York State’s $194 billion retirement system.
Anyori Hernandez, who oversees the NY Common Fund’s emerging manager program, recalled learning about the tool while working with Lenox Park on the pension fund’s annual survey of women- and minority-owned business enterprises.
“I remember talking to Jason about my desire to go beyond diversity in ownership — to find a way to track managers on what they’re doing and how they’re doing it as it relates to workforce diversity,” Hernandez said. “And Jason quickly turned to me with a smile and said, ‘You know, we’ve been developing something.’”
Lamin told Hernandez about the new diversity scoring system that he and his team were working on at Lenox Park — a system that would measure diversity at every level of an asset manager, from the most junior staff to the senior leaders and firm owners.
“It was my ‘Eureka’ moment,” Hernandez said. “I told Jason, the industry is beyond ready to have a comprehensive metric system — one that takes into account a more extensive definition of diversity.”
As Lamin described it to Institutional Investor, creating the LPI scoring system was about providing a “statistically rigorous and robust” way for allocators to assess managers on diversity and inclusion.
“We wanted to create the FICO score for how to assess diversity, equity, and inclusion,” he said.
What they ended up with was a 10-point scoring system rating asset managers on ten different components of gender diversity and ethnic diversity. Managers are asked to report demographic data on their total workforce, leadership, and ownership. This information is then used to calculate a total score that ranges from 0.00 to 10.00 — 10 representing the highest level of diversity and inclusion.
Managers can use their scores to benchmark themselves against their peers and see where they need to improve, while asset owners can use the combined scores of all of their managers to determine the diversity impact of their overall portfolios.
In developing the score, Lamin said it was important to ensure it included multiple measures of diversity and inclusion. “Historically everybody focused on firm ownership — are they minority-owned or women-owned?” he said. “While we think that is important, it’s not the only metric indicative of diverse or inclusive firm cultures. And when we only look at ownership, we exclude the vast majority of the asset management industry.”
In the universe of about 750 asset managers tracked by Lenox Park — drawn from the portfolios of the tech firm’s institutional investor clients — just over 100 firms qualify as having diverse ownership, defined as female or minority ownership of at least 51 percent.
But if the definition is broadened to include the asset managers with highest diversity impact — defined here as a top-quartile LPI score — that pool gets much bigger. Instead of 101 asset managers to choose from, allocators can now select from nearly 180 potential managers that outperform on diversity and inclusion.
According to Lamin, this broader, more comprehensive view of diversity also enables asset allocators to hold all of their managers equally accountable for their diversity and inclusion efforts — even the biggest, most established firms.
“Now we can assign a metric to any firm — we’re not just talking about this small universe of MWBE firms,” Lamin said. “We can score Blackstone, we can score KKR, we can score Apollo. We’re not excluding anyone from this conversation — in fact, we’re welcoming those firms, who often times want to participate in moving the needle on a more inclusive asset management industry. Let’s bring them into the conversation too and let’s encourage them to improve and to hold themselves accountable.”
At NY Common, Hernandez believes that using the LPI score will help the pension better track managers year-over-year, as well as provide a starting point for “real, open and honest conversations” about diversity and inclusion.
“It’s not like diversity wasn’t important — it was the pillar of my program,” he said. “But I’ve never had the technology to truly track this and to be able to hold a firm accountable for what they said they were going to do last year.”
Since Lenox Park launched the LPI scoring system last year, diversity and inclusion issues have become more prominent in the asset management industry and elsewhere, with the killing of George Floyd and ensuing protests against police brutality prompting new awareness and discussion of systemic racism in the U.S.
“There has been a rush of enthusiastic, well-intentioned interest,” Lamin said. “But addressing this problem is going to take real, structural change — the hard stuff.”
Structural change like, for example, rethinking policies at asset owners that only allow them to invest with managers with a minimum track record or fund size. These limits, Lamin said, can prevent allocations to diverse firms — allocations that could make a big difference for emerging managers.
According to Lenox Park data, when a top-ten pension fund like NY Common or CalPERS allocates to a manager, those managers unsurprisingly experience positive growth in assets under management following the allocation. But this effect was even stronger for diverse firms — those with a top-quartile LPI score. Instead of an average compound annual growth rate of 21.3 percent, these diverse managers grew their assets at an average rate of 25.6 percent.
“In this space it is important for an asset manager to receive not just seed capital but investment from accredited investors,” Lamin said. “It is game changing for a manager to get an institution like New York Common Retirement or CalPERS investing in their fund. That’s an investment that’s going to unlock more investments.”