CalPERS’ decision to kill off its $4bn hedge fund allocation earlier this year highlighted some of the problems present in the asset class, but smaller institutions are unlikely to follow suit, Pádraig Floyd writes.
The decision of the California Public Employee Retirement System (CalPERS, to jettison its $4bn hedge fund allocation in September has sent ripples throughout the investment world. Though many of the headlines focused on the $135m the pensions giant paid for 7.1% returns in the previous year, it is far too simple to blame the withdrawal on performance. After all, the fund is in a state of flux as it adjusts not only to the ever changing markets, but the upheaval following the loss of its CIO earlier this year. SEASON OF THE SWITCH Change is often associated with a new leader – a new broom sweeps clean, after all – but even this is too simple a justification for dumping the approach. Complexity has also been cited and scale must be considered. A fund the size of CalPERS should be able to do anything it wants in the investment markets. But its very size – almost $300bn, a sum larger than the 2013 GDP of periphery EU nations including Greece, Portugal and Ireland – is also a hindrance. To get a meaningful allocation the fund would need to allocate anything up to 10%, which at around $30bn is a huge sum to find a home for. As Aurum CEO Kevin Gundle points out: “CalPERS only had a 2% allocation to hedge funds within their portfolio, meaning even a stellar performance would not have really affected the overall picture – the juice simply wasn’t worth the squeeze.” Stephane Enguehard, head of development funds of hedge funds at Lyxor, is also unfazed. “We don’t decipher the CalPERS move as a trend and there is evidence that North American funds are increasing allocation to hedge funds. Last year 254 public pensions had allocations and this year that figure is 269.” This growth in allocation reinforces the suggestion CalPERS hasn’t lost faith in hedge funds, but simply couldn’t get enough exposure to “move the needle” and so has bailed out. “You have to look at the 30-year rally in long-term interest rates. They are low and will stay low and the traditional sources of return are offering less potential to perform,” says Enguehard. “Equity markets are almost fully valued and hedge funds offer appealing proposition.” SEARCH FOR A STAR That desire for alternative exposure is what led many investors to look to hedge funds, says Lisa Fridman, head of research, PAAMCO. “We see some investors using hedge funds as a replacement for part of their equity exposure. They would like to maintain some equity risk while reducing volatility and directionality of the allocation and therefore may pursue a long/short equity strategy.” Investors, particularly in the US, are generally worried about how interest rate hikes may affect the fixed income part of their portfolio. Some allocators have shifted part of their fixed income allocations into hedge fund portfolios with a goal to achieve a similar performance profile while limiting duration.
“Consultants are very much part of the problem. It’s crazy that once a manager has passed due diligence the assets can grow at a speed we have never seen before.”Nicolas Campiche