hedge fund investment | Pension360

San Francisco Pension Backs Off Hedge Funds After Conflicts of Interest Surface

San Francisco Employees’ Retirement System (SFERS) was set to vote yesterday on whether the fund should allocate up to 15 percent of assets, or $3 billion, to hedge funds.

But the vote never happened, in part because of the objections of union members and retirees who showed up to the meeting. Recent reports of conflicts of interest surrounding the hedge fund investments probably didn’t help, either.

From the International Business Times:

San Francisco officials on Wednesday tabled a proposal to move up to 15 percent of the city’s $20 billion pension portfolio into hedge funds. The move came a day after International Business Times reported that the consultants advising the city on whether to invest in hedge funds currently operate a hedge fund based in the Cayman Islands.

The hedge fund proposal, spearheaded by the chief investment officer of the San Francisco Employees’ Retirement System, or SFERS, had been scheduled for action this week. If ultimately enacted, it could move up to $3 billion of retiree money from traditional stocks and bonds into hedge funds, potentially costing taxpayers $100 million a year in additional fees.

Pension beneficiaries who oppose the proposal spoke at Wednesday’s meeting of the SFERS board. They cited financial risks and the appearance of possible conflicts of interest in objecting to the hedge fund investments.

Prior to the meeting, the Service Employees International Union, which represents roughly 12,000 members who are eligible for SFERS benefits, asked city officials to have the hedge fund proposal evaluated by a consultant who has worked with boards that have opted against hedge funds.

David Sirota reported on the possible conflicts of interest earlier this week:

[SFERS is] drawing on the counsel of a company called Angeles Investment Advisors, one of a crop of consulting firms that has emerged across the country in recent years to aid municipalities in navigating the murky waters of managing money.

For two decades, Angeles has been employed by the San Francisco pension system to champion the best interests of city taxpayers and employees — the cops, firefighters and other municipal workers who depend on pension payments after their retirement. But the firm is concurrently playing another role that complicates its image as a disinterested guide: An International Business Times review of U.S. Securities and Exchange Commission documents has found that since 2010, Angeles has run a hedge fund based in the Cayman Islands that invests in other hedge funds.

In other words, the consultants that are supposed to be providing unbiased advice about whether San Francisco would be wise to entrust its money to the hedge fund industry are themselves hedge fund players.

SFERS says that, although the vote is tabled for now, it could be brought back at a later time.

This isn’t the first time the pension fund has delayed voting on hedge fund investments. In fact, it’s the third time: the board first delayed the vote in June. Then it delayed the vote again in August.

San Francisco Pension Fund Votes Today On Whether To Invest in Hedge Funds

San Francisco Employees’ Retirement System (SFERS) will vote later today on whether to invest in hedge funds for the first time.

If the board votes “yes”, the fund will have the ability to allocate up to 15 percent of its assets toward hedge funds. Reported by Bloomberg:

The hedge fund proposal stems from a June meeting when staff recommended changes to the fund’s asset allocation and the board voted to take 90 days to study options. At a meeting last month, staff suggested shifting the allocation to invest 35 percent in global equity, 18 percent in private equity, 17 percent in real assets, 15 percent in fixed income and 15 percent in hedge funds, according to the [fund CIO] Coaker memo.

The retirement system administers a pension plan and a deferred-compensation plan for active and retired employees. Retirement members include those who had worked for the City and County of San Francisco, the San Francisco Unified School District, the San Francisco Community College District and the San Francisco Trial Courts.

Herb Meiberger, a commissioner and retirement board member, last month called for keeping hedge funds out of the mix. Hedge funds are complex, difficult to understand and carry high management fees, he said in a September memo.

“SFERS is a public fund subject to public scrutiny,” Meiberger wrote in the memo. It’s “one of the best-funded plans in the United States. Why change course?”

[…]

The San Francisco fund had $17 billion in assets based on market value and an unfunded liability of 15.9 percent as of July 1, 2013, a decline from 21.1 percent a year earlier, according to its most recent actuarial valuation report.

The chief investment officer of SFERS, William Coaker, recommended approving hedge funds in a memo this month.

“They have provided good protection in market downturns,” he wrote.

Pennsylvania Pension Chairman Defends Hedge Funds; Says “Strategy Is Working”

Pennsylvania’s top auditor has publicly wondered whether Pennsylvania’s State Employees Retirement System (SERS) should be investing in hedge funds.

SERS has released formal statements defending their investment strategy, which currently allocates 6.2 percent of assets toward hedge funds.

But today, we got the pension fund’s most in-depth defense yet of the asset class.

Glenn E. Becker, chairman of the SERS Board, wrote a letter to the editor of the Patriot News which was published today in the paper. The letter, in full, reads:

I feel it is important to correct the record and explain how our hedge fund exposure has been working for the state’s taxpayers.

Industry experts generally agree that while hedge funds are not for every pension system, the unique needs of each system must shape their individual asset allocation and strategic investment plans. Therefore, the actions taken by one system may not be appropriate for all systems. Investors need to consider many factors including their assets, liabilities, funding history, cash flow needs, and risk profile.

Our current plan was designed to structure a well-diversified portfolio to meet the needs of a system that is currently underfunded, steadily maturing (has more retirees than active members) and, in the near term, will receive employer contributions below the actuarially required rate.

Those unique characteristics mean we need liquidity, low cash flow volatility, and capital protection. We must plan to pay approximately $250 million in benefits every month for the next 80-plus years. We continuously monitor fund performance, the markets and cash flows for any needed plan adjustments. At this time, our plan uses hedge funds as an integral component of a well-diversified portfolio that is expected to provide risk-adjusted returns over all types of markets.

To date, the strategy has been working. As of June 30, 2014, our diversifying assets portfolio, or hedge funds, made up approximately 6.2 percent of the total $28 billion fund, or approximately $1.7 billion. In 2013, that portfolio earned 11.2 percent or $197 million, after deducting fees of $14.8 million, while dampening the volatility of the fund. That performance helped the total fund earn 13.6 percent net of fees in 2013, adding more than $1.6 billion to the fund.

Certainly, caution is warranted when examining one short period given SERS’ long-term liabilities. Over the long term, as of December 31, 2013, the total fund returned an annualized, net of fees return of 7.4 percent over 10 years, 8.4 percent over 20 years and 9.7 percent over 30 years.

Over the past 10 years, more than 75 percent of the funds’ assets have come from investments. In terms of making up for the past underfunding, that is money that doesn’t have to come from the taxpayers.

Some Pension Funds Are Interested In The Hedge Funds CalPERS Dropped

The CalPers Building in West Sacramento California. — The CalPERS Building in West Sacramento California.

CalPERS announced plans to phase out its $4 billion hedge fund portfolio last month. But other pension funds are now interested in the hedge funds CalPERS is getting rid of, according to a report from FinAlternatives:

The California Public Employees’ Retirement System already has potential buyers kicking the tires of its $4 billion hedge fund portfolio.

The pension, which last month announced it would take at least a year to “strategically exit” its hedge fund investments, has received indications of interest for some or all of its holdings from other state pension funds, reports Fortune, citing sources familiar with the situation.

The State of Wisconsin Investment Board, which has yet to meet its hedge fund investment targets, was identified by a source as one of those potential buyers.

A CalPERS spokesman told Fortune the pension will “evaluate all possibilities” with the portfolio, but would not confirm interest from other pension funds.

“Ultimately, we will exit those investments in a manner that best serves the interests of the fund,” said the spokesman.

Pension360 has covered the fact that, while CalPERS has exited hedge funds, not many pensions have followed in their footsteps.

Photo by Stephen Curtin via Flickr CC License

CalPERS May Be Done With Hedge Funds, But It’s Far From Finished With Fees

There’s been a torrent of media coverage about how CalPERS, with its decision to kick hedge funds to the curb, has also distanced itself from high-fee investment managers.

But nearly $500 million of private equity fees say otherwise, writes the New York Times’ Josh Barro:

Here’s the thing: Calpers, America’s largest public employee pension system, with $300 billion in assets under management, isn’t getting away from investment gurus altogether.

The system’s $4 billion hedge fund program is small potatoes; its main exposure to high-fee gurus is through $31 billion in private equity funds, which just like hedge funds rely on the premise that highly paid fund managers can beat the market through special insight and talent.

Calpers paid $476 million in management fees on its private equity portfolio in the fiscal year ending June 2013, equal to 1.4 percent of private equity assets, about 20 times what it would have cost Calpers to invest a similar amount in stocks and bonds. And Calpers’s commitment to private equity remains strong, guru-driven fees and all.

Ted Eliopoulos, the interim chief investment officer at Calpers, the California Public Employees’ Retirement System, made clear in a statement that the choice to exit hedge funds was specific to the asset class. He criticized hedge funds’ “complexity, cost and the lack of ability to scale at Calpers’s size.” The key word there is “scale”: Even at $4 billion, hedge funds made up just over 1 percent of the Calpers portfolio. That wasn’t enough to make a meaningful difference to the fund’s returns or diversification, and the system didn’t see good opportunities to scale up.

As of 2013, CalPERS invested 10.4 percent of its portfolio in private equity. That’s a big jump from its 6 percent PE allocation in 2006.

But, according to Josh Barro, CalPERS cut its target private equity allocation twice this year—the target allocation at the beginning of 2014 was 14 percent. Now, two downward revisions later, PE’s target allocation sits at 10 percent.

Photo by 401kcalculator.org

Video: Hedge Fund Manager On “Tweaking” Fee Structure

The video above features John Paulson, founder of $22 billion hedge-fund firm Paulson & Co., talking about the fee structure of hedge funds and whether he feels “pressure” to change that structure to appease fee-averse investors.

“Institutions are becoming a little more demanding…they are putting pressure on the management fee and the incentive fee,” Paulson says during the video.

The footage was taken during a panel discussion at New York University’s Stern School of Business.

Video courtesy of the Wall Street Journal.

Patriot News: Are Hedge Funds Right For Pennsylvania?

Last week Pennsylvania’s auditor general publicly wondered whether hedge funds were a sound investment for the state’s “already stressed” pension systems.

The crux of the auditor’s concern was the millions in fees paid by the system. In an editorial Monday, the Patriot News also questioned the fees incurred by hedge fund investments – including the fees that the public doesn’t know about. From the Patriot News:

The Pennsylvania State Employees’ Retirement System (PSERS) paid about $149 million in fees to hedge funds in fiscal year 2013, according to WITF, the public broadcasting station.

The Philadelphia Inquirer has noted that “It’s hard to know how much Pennsylvania SERS paid, since some SERS hedge fund fees aren’t included in the agency’s annual report.”

WITF also noted that it’s not clear what the pension fund got after paying all that money, which is the point raised by Auditor General DePasquale.

[…]

Pennsylvania has been one of the most aggressive states investing in “alternative” vehicles like hedge funds. In 2012, The New York Times reported that Pennsylvania’s state employees pension fund had “more than 46 percent of its assets in riskier alternatives, including nearly 400 private equity, venture capital and real estate funds.”

Those investments cost Pennsylvania $1.35 billion in management fees in the previous five years, according to the Times report.

The editorial wondered whether the state was really getting what it paid for performance-wise. From the Patriot News:

During that time, it appears Pennsylvania paid more and got less than other states did.

Over the five-year period, Pennsylvania’s annual returns were 3.6 percent. During that time, the New York Times report said the typical public pension fund earned 4.9 percent a year. And Georgia, which was barred by law from investing in high-fee alternative funds, earned 5.3 percent a year.

Georgia’s fees were a lot lower, too. For a pension fund about half the size of Pennsylvania’s, it paid just $54 million in fees over the five years. Pennsylvania paid 25 times as much for results that were significantly worse.

Pennsylvania’s two big pension funds are tens of billions of dollars short of being able to pay all the money they’ll owe to retirees.

One has to wonder whether one reason is that the funds are spending too much money on supposedly sophisticated investments that aren’t worth the cost.

It’s a question the Legislature needs to answer.

SERS allocates 7 percent of its assets, or $1.9 billion, towards hedge funds. PSERS, meanwhile, allocates 12.5 percent of its assets, or $5.7 billion, towards hedge funds.

North Carolina Pension To Stick With Hedge Funds As Major Union Calls For Divestment

A few days after CalPERS pulled out of hedge funds, the State Employees Association of North Carolina (SEANC) called on North Carolina’s pension fund to do the same.

The pension fund, however, has shown no willingness to follow in CalPERS’ path, and recently doubled down on its support of hedge funds as part of its portfolio.

Originally, SEANC released this statement:

“Other institutional investors around the world could potentially follow CalPERS’ lead and finally dump these high-risk funds,” said SEANC Executive Director Dana Cope. “Those who wait to cash in may find the money’s gone. That’s not a risk state workers are willing to take. It’s time to pull out of these investments now before the cart starts going downhill too fast for us to jump off.”

Hedge funds are notorious for high fees. Pension funds and investors pay these fees in hopes that the payoff will be higher, but for the past decade, hedge fund performance has been lacking. Cowell has the power to invest of 35 percent of the $90 billion state retirement system in “alternative investments,” a term that includes hedge funds.

But North Carolina hasn’t budged, and pension officials have supported their hedge fund allocation. From the News & Observer:

Kevin SigRist, chief investment officer of North Carolina’s $90 billion fund, said that the state is by and large pleased with the performance of its hedge fund investments and plans to stay the course.

North Carolina’s hedge fund investments generated an 11.48 percent return for the fiscal year that ended June 30, as well as a three-year return of 6.86 percent and a five-year return of 7.59 percent. That 11.48 percent return bests the 7.1 percent return that CalPERS reported from its hedge fund portfolio and compares to the state’s 15.88 percent overall return for its latest fiscal year.

“We would expect to continue to evaluate (hedge funds) and use them where appropriate and where we think there are benefits to the trust fund,” SigRist said.

[…]

SigRist said that the fact that hedge fund investments cut across asset classes is at the heart of why North Carolina doesn’t disclose how much of its pension fund is allocated to hedge funds – a practice that has drawn SEANC’s ire. Although the pension fund has stipulated the allocation to hedge fund strategies, he added, that’s only a piece of the pie because it’s based on an antiquated concept of what a hedge fund is.

Currently, North Carolina’s pension system has $3.9 billion in hedge funds, or 4.3 percent of total assets. They paid $91 million in fees to those funds in 2013.

Pennsylvania Not Cutting Hedge Funds Despite State Auditor’s Skepticism

CalPERS’ decision to pull out of hedge funds is having a ripple effect across the country.

On Wednesday, Pennsylvania Auditor General Eugene DePasquale released this skeptical statement on the state pension system’s hedge fund investments:

“Hedge fund investments may be an appropriate strategy for certain investors and I trust that SERS and PSERS weigh investment options carefully,” DePasquale said in a statement. “But, SERS and PSERS are dealing with public pension funds that are already stressed and high fees cost state taxpayers more each year. I support full disclosure of hedge fund fees paid by our public pension funds and we owe it to taxpayers to ensure that those fees do not outweigh the returns.”

Spokespeople for both the State Employees Retirement System (SERS) and the Public School Employee Retirement System (PSERS) have now responded. The consensus: the pension funds will not be cutting their hedge fund allocations.

From Philly.com:

SERS has no plans to cut hedge funds further. “Hedge funds play a role in our current board-approved strategic investment plan, which was designed to structure a well-diversified portfolio,” SERS spokeswoman Pamela Hile told me. With many more workers set to retire, hedge funds (or “diversifying assets,” as SERS prefers to call them) combine relatively steady returns with low volatility “over varying capital market environments.” By SERS’s count “difersifying assets” are now down to $1.7 billion, or 6% of the $28 billion fund and returning 10.7% after fees for the year ending June 30, up from a 10-year average of 7.4%.

Says PSERS spokeswoman Evelyn Williams: “We agree with the Auditor General that hedge funds are appropriate for certain investors. Not all investors can or should invest in hedge funds. Clearly CALPERS reviewed their hedge fund allocation and acted in their own fund’s best interests.

“PSERS also sets our asset allocation based on our own unique goals and issues. We do not have any immediate plans to change our hedge fund asset allocation at this time… PSERS’ hedge fund allocation provides diversification for our asset allocation and is specifically structured so it does not correlate with traditional equity markets…PSERS hedge fund allocation has performed as expected and provided positive investment returns over the past fiscal year, one, three, and five years.”

SERS allocates 7 percent of its assets, or $1.9 billion, towards hedge funds. PSERS, meanwhile, allocates 12.5 percent of its assets, or $5.7 billion, towards hedge funds.

Photo by TaxRebate.org.uk

Pulitzer Prize Winner: Hedge Funds Not Worth The Risk For Pensions

David Cay Johnston, former Pulitzer prize-winning reporter for the New York Times and lecturer at Syracuse University, has written a column calling for pensions to stop risking assets with hedge funds.

He says the nature of hedge funds make the investment “not suited” for pension funds. First, he takes hedge funds to task for their fee structure. From the piece, published on Al-Jazeera:

Hedge funds charge hefty fees. Many hedge funds charge what is known in the trade as 2 and 20. That is for a 2 percent annual management fee, or $20,000 per $1 million, and 20 percent of all gains. Julian Simon’s Renaissance Technologies charges a 5 percent base and 44 percent of gains. From 1982 through 2009, when it averaged extraordinary 35 percent annual returns after expenses, that was a great deal, but since then, Simon has underperformed the market.

Compare these numbers with the very well-managed ExxonMobil pension fund, which its latest disclosure reports show has overhead charges of less than $1,200 per $1 million. Vanguard 500 investors pay as little as $500 annually to manage $1 million.

To get a better sense of the numbers, consider a year when the market return is 5 percent and a hedge fund earns that. On a $1 million investment, after a 2 percent management fee and a 20 percent profit performance fee, the hedge fund investor will be ahead by $19,200, or less than 2 percent; the Vanguard investor will be ahead by $49,950, or almost 5 percent.

The other facet of his argument is that hedge funds, while not necessarily a bad investment for other entities, are not a “prudent” investment for pension funds to make. From the editorial:

Hedge funds simply are not appropriate for taxpayers and public-sector workers. They are, rather, for wealthy speculators willing to take big risks in the hopes of earning big rewards while being able to tolerate the chance that an investment will shrivel or even be wiped out.

Pension money should be invested prudently. “Prudent” comes from the word “provident,” meaning to prepare for the future. And while its origins are in religious concepts, failing to prudently handle earthly money can turn the end of life into hell.

Given survivor benefits in pension plans, these pools of money should be treated as widows-and-orphans money. Under ancient and well-tested principles, the money of such vulnerable people must be invested with exceptional care to safeguard from loss. That means investment-grade bonds (more on that below) and either blue chip stocks or broad indexes.

Only with the rise in the last six decades of modern portfolio theory — investing in many different arenas to spread risk — have we gotten away from the idea that for widows, orphans and pensioners, only high-grade corporate bonds and a few blue chip stocks paying big dividends are appropriate investments.

The rest of the piece can be read here.

Deprecated: Function get_magic_quotes_gpc() is deprecated in /home/mhuddelson/public_html/pension360.org/wp-includes/formatting.php on line 3712