CalPERS Dials Up Real Estate; Will Increase Allocation By 27 Percent

man in suit holding small model house in his hands

CalPERS has beefed up its real estate portfolio this summer, but the fund is far from finished: by 2016, it plans to increase its real estate holdings by 27 percent.

The pension fund says real estate will largely fill the void left in the wake of its hedge fund exit.

From Bloomberg:

The California Public Employees’ Retirement System, the biggest U.S. fund, is increasing investments in real estate by about $6 billion within a year as it begins to exit hedge funds.

The $295 billion fund had 8.7 percent in real estate as of July 31. Since then, the allocation has risen to 9.9 percent, and the fund has set a target of 11 percent in fiscal 2016, according to documents posted on its website.

Calpers began restructuring its real estate portfolio after suffering a 37 percent loss in 2010, when it wrote off speculative residential investments as property values slumped. As part of the overhaul, the fund has focused on core income investments such as rental apartments, industrial parks, offices and retail space.

The shift will mean an increase in commercial real-estate investments by 27 percent, the Wall Street Journal reported.

More details on the strategy from the Wall Street Journal:

[CalPERS] is focusing on investments such as fully leased office towers and apartments in big cities, which it argues are safer because there is established demand for these properties. In another shift, the giant pension fund has been investing almost exclusively through real-estate funds that manage separate accounts created for Calpers, which offers more control over how that money is invested.

Some of Calpers’ real-estate consultants are warning that moving too much money into pricey properties could backfire. Pension Consulting Alliance Inc. cautioned in a July report to Calpers not to expect “these increases in value to be sustained when interest rates and new construction starts return to more normalized levels.”

Ted Eliopoulos, Calpers’ recently appointed chief investment officer, changed the fund’s real-estate approach in 2011, when he led that group. Since then, the fund has delivered average annual returns of 14% in its real-estate portfolio. But Mr. Eliopoulos acknowledges the recent high returns are unsustainable.

The fund’s goals now are to diversify its portfolio risk and generate steady, modest gains, rather than striving for outsize returns with more speculative bets, he said. Likewise, Calpers on Sept. 15 said it would shed its $4 billion investment in hedge funds as part of an effort to simplify its assets and reduce costs.

“Our strategy is to focus on high-quality real estate,” Mr. Eliopoulos said. “We’re still on track.”

CalPERS was a large real estate investor in the years before the financial crisis and frequently saw returns of 30 percent or more within the asset class. But the economic downturn led to losses of $10 billion, or 50 percent.

CalPERS’ CIO, Ted Eliopoulos, maintains that the fund learned from those losses and staff plan to make less speculative investments this time around.