CITY OF LOS ANGELES DEPARTMENT OF WATER AND POWER

INTRADEPARTMENTAL CORRESPONDENCE

Date: September 5, 2018

To: Retirement Board Members

From: Linda P. Le, Retirement Plan Manager

Subject: Board Agenda Item No. 9: Report on Fidelity Institutional Asset Management - On­Site Due Diligence Visit (September 12, 2018, Regular Retirement Board Meeting)

Recommendation

That the Board of Administration (Retirement Board) of the Water and Power Employees' Retirement Plan (Plan) receive and file this report on the on-site due diligence visit to Fidelity Institutional Asset Management (FIAM).

Summary

Investment Officer Ravi Sharma (staff) met with representatives from FIAM on June 28, 2018, in Boston, Massachusetts, to review and discuss the organization and operational processes relating to the investment portfolios it manages on behalf of the Plan.

The Retirement Board hired FIAM to manage an international developed markets growth equity mandate for the Retirement Fund (RF) in 2004 and the Retiree Health Benefits Fund (RHBF) in 2012. As of July 31, 2018, FIAM managed $601.2 million and $101.2 million for the Retirement Plan and the Retiree Health Benefits Fund, respectively.

Staff interviewed personnel directly responsible for managing the Plan's assets. Staff reviewed the capabilities of the management and operational teams and observed the available resources used by the firm to manage the Plan's portfolios. Staff met with the following members of the firm:

• Casey Condron - Head of FIAM Institutional Sales & Relationship Management • Yvette Friberg - SVP, Relationship Manager • Tom Turenne - Senior Account Executive • Camille Carlstrom - Portfolio Manager • Peter Hadden - Portfolio Manager • Eileen Dibb - Portfolio Manager • Matt Torrey - Institutional Portfolio Manager • Chris Gouveia -VP, Asset Management Compliance • John Bertone - Director, Asset Management Compliance • Karen Purtell - Audit VP - Asset Management & FPCMS • Dan Fabrizio - Director, Fund Accounting • Dan Campbell -VP, AM Treasurer's Office • Jeff Lees - Director, Trade Operations • Matt Thibault - Director, Asset Management Compliance

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• Kenny Martin - Head, Global Institutional Trading • Todd McDonald - Director, Technology Risk Management • Tim Titcomb-VP, Technology Risk

Key functional areas discussed were the overview of the company, strategy and trading, portfolio operations, compliance, disaster recovery and business continuity. FIAM is currently on organizational watch status.

Company Overview

FIAM is an organization dedicated to serving the institutional marketplace. As part of the Fidelity organization, FIAM leverages Fidelity's institutional investment capabilities to deliver products and solutions to institutional investors.

Historically, FIAM served the investment management needs of institutional firms (including intermediary firms, such as broker-dealers) through two separate business units - Pyramis Global Advisors (Pyramis) and Fidelity Financial Advisor Solutions (FFAS). Pyramis was established in 2005 as a stand-alone organization focused on investment, distribution and client servicing platforms to the institutional marketplace. FFAS was established in 1979 with a focus on distributing Fidelity managed investment products (e.g., mutual funds, 529 plans, Variable Insurance Products, etc.) to national broker/dealers, regionals and independent broker/dealers, banks, trust companies, registered investment advisors (RIAs) and insurance companies.

In 2015, Pyramis Global Advisors rebranded itself in an effort to leverage the Fidelity name. They renamed themselves Fidelity Institutional Asset Management (FIAM).

Strategy and Process Review - International Developed Growth Equity

Staff met with Camille Carlstrom, Lead Portfolio Manager, Peter Hadden, European Regional Portfolio Manager, Eileen Dibb, Japan and Pac Basin Regional Portfolio Manager, and Matt Torrey, Institutional Portfolio Manager to review and discuss the process behind the International Developed Growth equity portfolio.

The portfolio is a core, growth-oriented strategy that provides diversified exposure to the developed international markets. The objective of the International Growth strategy is to seek to provide long-term capital growth via a diversified portfolio of large-, medium-, and small-cap companies in Europe, Japan, the Pacific Basin ex-Japan and Canada. The International Growth strategy is measured against and seeks to provide excess returns relative to the MSCI World ex-US Index over a full market cycle.

The regional portfolio managers work closely with analysts in identifying the most appropriate "buy-rated" stocks for inclusion in the portfolio. Within any particular region, the universe of buy­rated stocks may be as large as 300; the regional portfolio manager's role is to create a diversified portfolio that incorporates the analysts' best ideas and meets risk parameters and client guidelines. Generally, each regional portfolio contains 60-80 stocks. The total portfolio typically contains approximately 200 stocks.

The regional portfolio managers each have ultimate decision-making authority and accountability for their respective regional portfolio within the investment guidelines. This determines the approximate number of holdings, average market capitalization exposure, and maximum and minimum active weightings in industry groups and stocks. The aim of these

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guidelines is to ensure that the risks taken in the portfolio are commensurate with the performance target and to focus active risk on stock selection. Country and industry group relative active weights are a residual of the stock selection process; country weights are held within +/- 5 percent of the benchmark, while industry group weights are constrained to +/- 10 percent of the benchmark weight.

The regional asset allocation positions are determined by the lead portfolio manager based on a wide variety of inputs from across the Fidelity enterprise and external sources. These inputs include data and analysis from Fidelity Management and Research's (FMR) global asset allocation model and FIAM's own internal resources. FMR's global asset allocation model resources include macroeconomic, quantitative/technical, and qualitative data and analysis, with scheduled and ad hoc meetings and conference calls, and model portfolios. FIAM inputs include monthly reviews of each region by the regional portfolio managers on the International Growth team based on their qualitative and macro views of their respective areas of focus and expertise. Additional FIAM inputs include detailed quantitative models. External resources include third-party and sell-side regional and macroeconomic analysis and research. The process culminates with a full review of all internal and external inputs by the lead portfolio manager who then determines the regional portfolio weightings relative to the benchmark.

The lead portfolio manager is also responsible for the overall strategy. Ms. Carlstrom monitors the regional portfolios and meets regularly with the regional portfolio managers to review the positioning and performance of each portfolio to assess the level of conviction of the regional portfolio managers in their stock ideas. Although the lead portfolio manager is responsible for the overall strategy, she has no responsibility for stock selection within the regional portfolios.

Portfolio Operations and Trading Review

Staff met with Kenny Martin, Head of Global Institutional Trading to review and discuss the trading and operational capabilities of FIAM.

Trading functions at Fidelity are performed separately and distinctly from portfolio management functions. Although traders and portfolio managers communicate regularly on a variety of market and economic factors essential to the performance of their respective functions, actual trade execution is performed exclusively by the trading desks. They believe this separation enhances internal controls and allows the investment professionals to focus on their particular areas of expertise.

The workflow is a straight-through process from order delivery to the desk through the communication to the custodian and accounting team. On a real-time basis, portfolio managers electronically deliver their orders to the trading desk while traders communicate information back to them about market and stock events and insights. Orders are systematically checked for compliance with portfolio guidelines as well as internal and external limits.

When executing trades within a portfolio, traders examine a number of factors (market impact, commissions, fees, etc.) when selecting both counterparty and an execution strategy. Depending on the structure of the trade, the trader will utilize a variety of techniques to identify the best strategy for implementing the portfolio manager's buy and sell instructions. The trader's experience, knowledge of execution venues, and understanding of current market conditions will ultimately determine the optimal method for executing transactions within the portfolio.

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Semi-annually, the equity trading management team presents to a trade oversight committee who is charged with oversight of the implementation of the policies and procedures and corresponding fiduciary supervision necessary for the internal and external trading desks.

Compliance

Staff met with Chris Gouveia, VP, Asset Management Compliance, and John Bertone, Director, Asset Management Compliance to review and discuss the FIAM's compliance processes and capabilities.

The Asset Management Compliance (AMC) group is responsible for the timely identification, interpretation and translation of investment guidelines into coded rules within FMR's core compliance applications. The applications are maintained by AMC and provide pre-trade, time of trade, and post-trade (T +1) testing of applicable regulatory, contractual, prospectus or policy related guidelines versus order/trade activity.

There is a dedicated team of compliance professionals within AMC who sit in close proximity to the Investment Professionals to monitor for compliance by researching and validating potential breach or alert messages throughout the day. If it is determined that a guideline breach will occur, AMC will notify the responsible investment profes.sional that the trade/order is not permitted and will work with him/her to remediate the action prior to an order being executed. A post trade review of holdings is completed on trade date +1 to identify any guideline breaches that may exist, including those due to passive events (e.g. market movements, corporate actions, downgrades). Active breaches are escalated to dedicated asset class support teams within AMC for remediation and reporting.

Risk Management

The FIAM Risk Management Team is led by Horace Codjoe, Head of Investment Risk. Mr. Codjoe was not present for the meeting so this discussion was facilitated by the portfolio management team. Risk Management is a dedicated resource to the investment team and provides ongoing evaluation and oversight of the International Growth portfolios. The Risk Management Team utilizes a proprietary risk management platform that conducts real-time and regressive risk analysis and measurement. This platform enables the investment team to decompose the portfolio's risk into a variety of different factors, helping the portfolio managers to identify any inadvertent concentration of exposure to any single risk factor. The Risk Management Team conducts formal quarterly reviews with the International Growth lead portfolio management team that combine a variety of time series and snapshot data from several outside risk management systems to view the portfolio from a variety of perspectives.

The following list summarizes the major risk factors and the controls that are maintained for the international growth portfolio.

1. Regional weights - benchmark +/- 5% 2. Country weights - benchmark+/- 5% 3. Industry weights - benchmark +/- 10% 4. Security weights - benchmark+/- 3% 5. Market cap - benchmark average +/- 15% 6. Expected tracking error - 2%-4% per annum

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Disaster Recovery and Business Continuity

Staff met with Todd McDonald, Director, Technology Risk Management (via video conference) and Tim Titcomb, VP, Technology Risk (via video conference) to review and discuss FIAM's disaster recovery and business continuity policies and procedures.

The business continuity program's primary objectives are to meet the needs of customers, maintain the wellbeing and safety of employees, and meet regulatory obligations. The planning process is risk based and involves the understanding and prioritization of critical operations across the firm, the anticipation of probable threats, and the development of strategies to mitigate the impact of those events.

The continuity planning teams work closely with local governments and officials in the event of an outage impacting operations. Additionally, Fidelity has identified three large scale scenarios that require partlcular focus: pandemics, events impacting stock and bond market operations, and cyber events. Detailed response plans have been developed and cross-discipline teams have been trained to address both day-to-day disruptions as well as these specific events.

Each Fidelity department has developed the capabilities to recover both operations and. systems. All continuity plans are designed to account for disruptions of various lengths and scopes, and to ensure that critical processes are recovered to meet their business objectives. Critical business groups operate from multiple sites. Dedicated teams within the technology organizations ensure that critical applications and data have sufficient redundancy and availability to minimize the impact of an event. Key components of Fidelity's continuity and technology recovery planning include:

• Process recovery capabilities leveraging both alternate physical locations and technological resources

• Alternative means to communicate with clients • Back-up telecommunications and systems • Employee safety programs

Plans are tested regularly to ensure they are effective should an actual event occur. Fidelity's Business Continuity Plans are reviewed no less than annually to ensure the appropriate updates are made to account for operations, technology, and regulatory changes.

Summary and Findings

Staff covered a comprehensive agenda with various representatives from FIAM, and discussed and observed various areas and functions of the firm. From staff's perspective, FIAM demonstrated a strong culture of compliance, corporate processes and controls, and adequately addressed management and operational topics of discussion relating to the Plan's portfolios. Staff did not observe any areas of concern during this visit.

J r y Wolfson hief Investment Officer

LPL/JW/CM/RS:mea

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