Executive Spotlight: Cameron Black, CFA, CAIA, CFP of BCBS Arizona

Stewart: We always have a great time on the CIO Spotlight. We're very happy to be joined by Cameron Black, chief investment officer, and treasurer of Blue Cross Blue Shield of Arizona. Cameron, thanks for being on.

Cameron: Thank you, Stewart. Look forward to the conversation.

Stewart: It's nice to talk to you. We've got mutual friends. We don't know each other really well, but I'm looking forward to it. We always start these off the same way, a little bit of a get-to-know-you question. With that in mind, how about hometown, first job, fun fact?

Cameron: Okay. Well, let's see. Hometown, I grew up in Los Angeles. I grew up in West LA and finished high school there and then headed off to the East Coast, and then didn't quite make it all the way back to California-

Stewart: Almost.

Cameron: Yeah, yeah. So hometown is Los Angeles. First job, believe it or not, let me put it this way, anybody that wants to get on the CIO track should not use me as a template because the very first job I had after college was working as a production assistant on the Geraldo show in New York.

Stewart: Oh, look at that. There you go.

Cameron: Yeah, so I worked in television for about six or seven years subsequent to that, before getting more seriously into investments. So like I said, I wouldn't use me as a template, but that was my very first job.

Stewart: Does the Geraldo experience qualify as the fun fact?

Cameron: It could. I would say if you're going to get the best stories out of me, it's not going to be on a public podcast, it would probably be after a couple of drinks somewhere. But sure, I think it could qualify as a fun fact.

Stewart: Hey, listen, that's a great start. That's fantastic stuff there. It's challenging out there, a lot of Fed moves, inflation. Let's talk about, if you took a step back and said, what are the three big issues on your radar screen today?

Cameron: Before I tell you the three, I'll tell you what they have in common. I would say that policy has always mattered to investments, but particularly since the global financial crisis, it's almost the most important thing, is trying to get... The most difficult thing to get right is policy, meaning, are you positioned for monetary policy? Are you positioned for fiscal policy? Are you positioned for, in our case, healthcare policy, since we're a health insurer? So the three, I would say are, what are terminal rates going to be? So how far are we going to get on terminal rates?

Stewart: You're talking about how far do interest rates go before they level out?

Cameron: Correct. Yeah. In other words, how far will the Fed get in terms of raising the Fed funds rate during this cycle before they level out or turn down? Yes, absolutely. The next one is also a monetary policy thing and that is, how far will they get with the balance sheet shrinkage? So lots of news, lots of stories out there around rates and inflation. That's talked about in the popular press constantly. The balance sheet thing is probably of at least equal interest, given the size of the balance sheet and given what I would call a busted attempt at shrinking it last time. And so how far will they really get? I've seen data saying that what they're hoping to do is shrink it a trillion and a half dollars a year for the next three years, if they are able to pull that off and put those securities out there and find off-takers for them, I will be surprised if they can really shrink it that far, that fast.

So that is something we are watching very, very closely. At the time we're recording this, I think they've only sold off 80 billion against a target of, call it, four and a half trillion to shrink. So I don't think we've seen anything yet there and clearly, that will be restrictive for monetary policy. The third thing to get right is trying to handicap where we're going to land on healthcare policy and in our case, a lot of that intersects with the operating business and less directly with the investment portfolio, but it's really important. Medicaid redetermination, what is the timing there? What are the implications for our cash flows with regard to Medicaid redetermination?

Similarly, the government is changing their stance on COVID vaccine and treatment reimbursement. So that has the material impact to our business. And also the somewhat ironically named Inflation Reduction Act, there's drug price provisions in there that are going to have a short and long-term implication. So even though I represent the investment team and we are really focused primarily on the monetary and fiscal policy stuff, we also are paying close attention to healthcare policy and what that means for the business.

Stewart: You mentioned inflation and I want to talk about that, but also with regard to interest rate and Fed policy, what impact has the increase in interest rates had on you? I know it obviously pushes bond prices down but allows you to capture higher interest rates on your reinvestment side. So how have you been impacted by the recent increase in interest rates broadly?

Cameron: So like all investors with bond exposure, it's been painful. It was a very difficult first half of the year for us just seeing negative marks after so many years of what I would say strong returns from the overall portfolio. So that's been a little bit painful. As you alluded to eventually, we will have higher rates and we will welcome that, particularly when they stabilize. And that's really what we're not quite seeing yet is the signs of stability and as I mentioned earlier, what those terminal rates might be. So we're not yet excited about the higher income we can earn on an individual bond yet, just because we're seeing so much volatility. And likewise, we have a bias for short duration in our portfolio, probably even shorter than your average health insurer. So our core bond exposure has a duration of stub three.

Stewart: Oh, wow.

Cameron: So while the pain that we experienced was not welcomed on a relative basis, we came out relatively better. Of course, we weren't getting any assists anymore from our equity exposure. Some of our inflation-sensitive private book has done okay. So we finished June down, mid-single digit return, which like I said, felt bad. It felt bad going into the investment committee and explaining where we were. But relative to what I know, some of my peers experienced, it was mitigated a little bit. So we are looking forward to being able to extend duration again. And like I said, because of our current positioning, we're just waiting to see a little bit more stability before we do that. The other area where interest rates will factor in is we have a modest amount of term debt through our Federal Home Loan Bank, a line of credits. So we're members of the San Francisco, Federal Home Loan Bank.

And we had termed out a small amount of debt with them. The first tranche of which actually matures in 2023. So some point next year, we're going to have to make a decision about either paying that down or rolling over it at a higher rate. But in any case, that won't be a material risk for us in either case. So I would say the reason the increased rates have been so painful for us is just because of the lack of diversification benefit and the portfolio from anything else.

Stewart: Sure, of course.

Cameron: Otherwise, we might have felt like we were even better positioned for it, but right now, we're only around the edges, are we starting to, on an individual security basis, where we've seen credit spreads widened to more historical norms? Are we starting to take a little bit more risk there? But we had significantly de-risked the portfolio, even headed into this year.

Stewart: So that's really helpful. If we talk a little bit about inflation, you're obviously, due to the nature of your business, exposed to healthcare cost, inflation, medical CPI, which has historically been higher than core CPI. And yet, this time, with regard to an inflation spike, it's been supply chain related in many areas, how is healthcare inflation comparing to the headline levels of inflation that are being talked about so broadly?

Cameron: That's an excellent question. And inflation generally is always the concern for the investment portfolio but as you just mentioned, it's particularly a concern for us as a health insurer because it affects our operations directly and immediately. So how it's affecting us as a business, like everybody else, we're paying our employers more, vendor costs are going up, but the real crux of it is claim costs are going up as well. And that is what drives people's rates. So there's an affordability crisis with health insurance generally, already, so any spike in healthcare-related CPI is really not welcome. We looked at this pretty closely, very, very recently and one of the biggest drivers that we believe for medical cost inflation in the near term is really going to be related to FTE expenses on the provider side. So there's a shortage of nurses, for instance. So they're paying nurses much more than they used to.

And those costs all eventually, usually via contracting to get pushback to the health insurer and then they're put into rates. So it's affecting us in terms of, how can we design more affordable products? What can we do in terms of contracting to mitigate this? We have several large providers with which we negotiate and we come to terms recently, four rates going forward. And I will say, this conversation featured prominently in those talks. And we're hearing directly from the providers that their costs are going up. So that's the challenge for us, how do we continue to try and focus on affordability on something that everybody generally agrees already costs too much in the face of this dynamic? Relative to the portfolio, we do think in terms of headline CPI, that we may have seen the high already. Lots of conversation about this, but we do think that we may have seen the high there, but as you know, core CPI tends to be stickier, the services component of CPI has ticked up more, relative to the goods portion.

So well, I do think that the catalyst for these really high numbers did have a lot to do with supply chain issues and pandemic-related things. I think the challenge for the Fed is, how do they keep the expectations from getting embedded and how can we get a handle on services CPI? And that directly plays into your question on healthcare costs too because if we get to a point where... Well, let me back up a little bit. If you look at wages, the wage growth has gone up over the last year significantly, but it has not gone up in excess of headline CPI. So while people are getting paid more than they have ever been paid before, it's still not keeping up with the price adjustments. And so as we go forward, the question is, are people going to continue to expect and need ever-larger increases in their wages? And does that in and of itself lead to future inflation and that wage-price spiral question? I don't think we're there, but it is a risk.

Stewart: So you mentioned a moment ago that you had de-risked the portfolio some. And, I don't have any other brilliant metric for this, so I'm going to use the old scale of 1 to 10, if 5 is a midpoint, where are you on the risk spectrum today and how has that changed over the last 12 months? And how do you see it changing over the next 12?

Cameron: So that's a difficult question just because everybody scales a little bit different, is that relative to ourselves or is that relative to how we would peg risk across other healthcare portfolios, health insurance portfolios? But just using our own history as a guide and 5 being the midpoint, I would say we're probably at a 4, having come down from a 5. So I did use the term de-risk but that doesn't mean we've gone all to cash.

Stewart: Right, right, right.

Cameron: What I mean by that is that, we're taking on our incremental investments, our lower risk, but we haven't done any wholesale selling of prior positions, if that makes sense. So we're letting certain things roll off. We've brought down the duration of the portfolio around the edges over the last year, we've trimmed our equity exposure by 1% or 2%. And we've really maxed out our exposure on the private side.

So our Scheduled BA Assets are fairly well maxed out, which although BA Assets are considered the highest risk, that's not how we positioned our BA Assets. So we have exposure to things like digital infrastructure and what I would call modest risk real estate, as opposed to putting it all in things like venture capital or the likes. So it's a relative question. And I would say, you didn't even ask this question but where were we at the most risk-seeking? I'd probably say about five years ago has been the height and we've been just incrementally ratcheting down ever since.

Stewart: It's very insightful because, people like me, I'm not sitting in your seat, not many people are, and to get your take on, as you said, there's no necessarily no standard in terms of a risk scale, but using our old 1 to 10, it's interesting how your risk posture had peaked five years ago and now you've de-risked. And so when you look at this market and you had mentioned that you had relatively full on private assets, how do you see the opportunity set? Is this a situation where you think you're going to go back up from a 4 posture back to a 5? Will you take on risk here? And if so, how do you feel about the relative value between public and private assets from your seat today?

Cameron: Yeah. Well, that's a really good question. And what I would say is there's nothing that we're seeing in the market right now that would make me believe that we're going to turn more risk-seeking. I think we'll get more risk-seeking when we have higher conviction and what I would say higher visibility, higher conviction around where we think the market is headed and less volatility. Right now, if you have a view on this market, if you have a view on whether we're in a recession, you have a view on inflation, no matter what you might have a strong view on, you could feel very, very wrong in that view one week and then feel vindicated the next. I mean, the volatility is just immense in this market. So what we've been doing, if we're looking at our public book versus our private book, in the public markets, we're seeing some pockets of opportunity as rates rise and spreads widen a little bit.

But as I mentioned, we're not taking huge bets there. It's just, at a point in time, we may work with our managers, or of own volition, pick up a little bit of extra spread or tweak our positioning across sub-asset classes if you will. The privates are much harder to generalize about because they're less liquid and because of that, you have to have a longer-term view in order to deploy that money. Depending on what kind of vehicle you're talking about, usually you have to have a five or 10-year horizon for a thesis to play out. So the last couple of places we've allocated dollars in our private book have been to managers that have an opportunistic bent, either a niche strategy, which we think is under-exploited, or really an opportunistic bent. And that includes managers that can invest both in the private markets directly or even go into the public markets if they see a significant opportunity.

And we've worked with a couple of managers that have done that. So I would say the biggest surprise to me personally, in our private book, is just how strong core real estate has continued to run. And so that is an area that we're looking at taking some chips off the table. I'm just talking about regular odyssey core real estate has just hit it out of the park. And we just don't see the case for 20% plus returns year after year going forward. So taking it out of areas like that and moving it to opportunistic managers makes sense. But going back to the public markets and your question about risk, in general, I'm actually looking forward to being able to put more money in poor fixed income. And I just don't feel like we're quite there yet, but we're a whole lot closer than we were six months ago. And to me, taking on that additional duration risk, I would consider a risk on trade. Other people might not, usually.

Stewart: No, but I think that's valid. I mean, I think that's the valid way to look at it. You're adding duration, you're adding interest rate risk, but when you see with the Fed to action and how flat the yield curve is, this is when you're supposed to be doing that, historically speaking.

Cameron: Yeah, exactly. So we're getting ready to do that and haven't pulled the trigger there yet. And similarly, there are other long-duration assets that we might get back into that we've had no exposure to for a very long time. Preferreds is one example of an area that we're not ready to put money in, but we're keeping an eye on because once you get compensated for taking on that amount of risk, that will be great. So for now, we continue to put money into short-duration income and look for the opportunities to extend.

Stewart: And you mentioned liquidity and you also mentioned your relationship with Federal Home Loan Bank, I don't know how familiar everyone knows about the Federal Home Loan Bank, but back when I was running money actively for insurance companies, and that was back when the earth was cooling, the Federal Home Loan Bank offers a very advantageous relationship to insurance companies to be a liquidity provider, how are you using that relationship with Federal Home Loan Bank? How have you used it? How has it been? Can you just talk a little bit about your experience working with Federal Home Loan Bank of San Francisco?

Cameron: They've been great. Our relationship with them goes back about seven years, I want to say. And initially, we viewed them as really a liquidity provider, like a contingent liquidity provider. As you said, the rates are incredibly attractive, the borrowing rates I mean, but unlike a bank line of credit, everything is fully collateralized with the Federal Home Loan Bank. So it's collateralized with assets that insurance companies tend to own. So most typically, we're talking about agency mortgages. You can certainly post treasuries as collateral as well, but agency mortgages tend to be the most typical of a collateral that an insurance company would put up. And so that book for us has never been huge. We definitely have exposure there, but it is not a primary part of our portfolio. So we keep assets segregated so that we can use them as collateral, in case we need short-term liquidity offer. But additionally, we acquired a Medicaid company a few years back.

And at that time, we took on some debt and used the FHLB line of credit to do that. So that was the term debt that I was referencing earlier. The term debt is not quite as attractive as the floating rate borrowing costs, just because they've got their own curve that they're trying to match to, but still in absolute terms, it's very, very inexpensive. So they've been a great partner and I've noticed that at least among the Blues Plans, I would say that more Blue Plans actually have exposure to the FHLB. They have a line of credit. Not all of them are using it the exact same way. I do know some insurers use it really for a spread lending program, effectively, they'll buy more collateral and then post that. And if they can pick up 50, 75 basis points as an arbitrage between their borrowing costs and what they're earning, a zeal on the collateral, that's a path some go down.
I know of at least one Blue Plan that uses their FHLB line to essentially level the entire portfolio, just a smidge, but they're not actually buying more collateral per se. They're just keeping more dollars invested in their overall portfolio. And then I would say the majority just have it on tap as that primary source of emergency liquidity.

Stewart: Yeah. I appreciate the color because I don't have a dog in the fight one way or the other, but the Federal Home Loan Bank's relationship with insurance companies, exactly to your point, it's assets... Resi mortgage is a core asset for most insurers, that's the collateral needed. And it just seems to make a ton of sense for an insurance company to have that relationship. As we're winding down here, I just kind of ask a two-sided question, are there any new asset classes that you're looking at that you think have value or offer opportunity? And by the same token, are there any asset classes that you think are pretty full or have deteriorating fundamentals where you have a little concern?

Cameron: Yeah. We touched on this a little bit, where I was saying core real estate scenario, we're looking to take some chips off the table. And I do think the excitement in the areas where we're most focused on right now are actually in the public markets, not that excited about ratcheting up our exposure to public equities yet. There's been significant volatility there, as you're aware. It's not just all in the fixed income market. While the first quarter of this year was really the equity markets trying to just adjust to the discount rate movement in the markets, we haven't seen a significant amount of re-rating on stocks on what I would say is based on earnings at this point. So if we start to see that, if we start to see a real recession priced in, we might get excited on equities again.

But it's really just trying to not do anything abjectly stupid. That's really our primary goal at Blue Cross Blue Shield of Arizona investments, is to not do anything abjectly stupid. And then just seek opportunities to incrementally add value. So again, as those spreads widen to more, what I would say, historical averages, that always happens in an uneven way. So structured credit may move more than traditional corporate credit. And so we might turn the dial a little bit in that direction. When I started running money for an insurance company, it really was all about the fixed income and the book yield and I would say the markets and the trends and the policies have really pushed us much more into the total return camp, which is where I get my ‘don't do anything abjectly stupid’ mandate.

The other thing I will say is, from a risk management standpoint, our dashboards are proliferating in both number of data points that we're tracking and the frequency with which we look at that data because things do move around so fast to the point where you can feel like you're getting whiplash. And so the other mandate, or I should say the other mantra that we reflect on, is things are never so bad, they can't get worse. Don't assume just because spreads have widened and yields have gone up, that we're done, and we need to pay close attention to that. So what I would say is, visibility is down and that makes me more inclined to stay liquid rather than plow even more money into illiquids. But even there, we find opportunity. I mean, when you talk about public versus private, that's a wide area.

Stewart: Absolutely.

Cameron: And we believe we'll continue to see opportunities develop.

Stewart: That's good stuff. I appreciate the color and appreciate your expertise and experience in walking through this. I've had the opportunity to teach at the college level for several years, and I have a real soft spot in my heart for college students, and first-generation college students in particular. To close, I would ask you just this one quick question, given where everything is today, as you look out with your experience, the benefit of your experience, what would you tell your 21-year-old self? If you were coming out of an undergraduate institution today, looking at this market and the opportunity set, what advice would you give your 21-year-old self?

Cameron: So that's a really interesting question and in fact, I have a 19-year-old son in college. He has never asked me for advice, not that I don't ever give him any, but-

Stewart: I have a 17-year-old daughter, that is the same. I'd like to report back to you, Cameron, the exact same.

Cameron: But what I would say, if I could go back and talk to my 21-year-old self, or if I could get my own kids to listen to me, what I would say is, particularly when it comes to investments, read everything you can, don't just stop with what the biggest media outlets are reading. Try and suss out who the thought leaders are and read their stuff, assume that there are no shortcuts and really try as best you can. Understand why you're making an investment decision and don't make too many decisions. So what I mean by that is, if you were to try and manage money by listening to the headlines of the Wall Street Journal or CNBC, I think you would find yourself in significant trouble pretty quickly if you were responding to every headline. So really try and do your own work and understand what's going on with the objective of limiting the total number of decisions you have to make. So that's the secret I would say to running a long-term portfolio is, limit the number of decisions you have to make.

Stewart: That's fantastic. Great advice, great conversation. Thanks very much for taking the time and thanks for coming on, Cameron.

Cameron: Yeah, appreciate it very much, Stewart. Thank you.

Stewart: Cameron Black, chief investment officer, treasurer, Blue Cross Blue Shield of Arizona, thanks for joining us. If you have ideas for a podcast, please email us at podcast@insuranceaum.com. My name is Stewart Foley and this is InsuranceAUM.com podcast.

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