The California Public Employees’ Retirement System, with $231 billion in assets, has in the past few years been one of the industry’s biggest supporters of mega-funds.
But that mindset may be changing, judging by the transcript of a recent discussion among CalPERS’ board members.
“I’ve never understood why we, as the biggest pension fund in America, continue to do business with the mega-funds,” said Louis Moret, a member of CalPERS’ board of administration, during a 14 February meeting. “There’s no movement to say ‘bye, Apollo, bye Carlyle, bye TPG’.
CalPERS has been increasingly targeting “mid-market restructuring and even growth opportunities”, according to Joncarlo Mark, a senior portfolio managers in the pension’s alternative programme.
“The challenge is the scale of our programme and our ability to deploy meaningful capital,” Mark said at the meeting. “And what it will force us to do is to make larger commitments to smaller funds.”
The pension was also ramping up its ability to co-invest for exposure to the mid-market, he said.
If we want to insist on the terms that are best for the limited partner and are willing to forego that investment, are we prepared to reduce our exposure to private equity … in order to accomplish that?
Mega-funds have not all “outperformed”, but many of the bigger funds to which CalPERS has committed in the past few years are, on average, only about two and a half years old, and those funds have appreciated recently, Mark said.
“Where we’ve committed $500 [million] or even up to $1 billion dollars, we’re starting to see them come out of their J-curve,” Mark said. “If they didn’t get too exposed in 2007 to some of the most pricey, highest leveraged deals, they actually were able to find some pretty interesting investments in 2008 and 2009.”
CalPERS investment staff reviewed with the board the alternative investment programme at the last meeting – a review staff undertakes each year. The pensions’ alternative investment portfolio had a total market value, including $16 billion of unfunded commitments, of about $48 billion. About 38 percent of the portfolio was invested in “large/mega-buyouts”, according to the pension’s annual programme review.
Along with the shifting strategy, the pension board and staff discussed other goals going forward, including negotiating with managers for lower fees and other fund structures that could cut away at the cost of private equity. The pension has also considered creating separate accounts with certain managers.
One problem with an aggressive stance on terms, though, was the pension would have to be prepared to miss out on potentially quality funds, CalPERS’ chief investment officer Joseph Dear said at the meeting.
“If we want to insist on the terms that are best for the limited partner and are willing to forego that investment, are we prepared to reduce our exposure to private equity … in order to accomplish that?” Dear asked. “We believe we’re going to get 3 percent over the public markets in that asset class, so this is a pretty important strategy for [us to] achieve our investment objective.”
Also, getting multiple limited partners to band together and agree on terms in a fund can be tricky, he said.
“Although all the limited partners would be better off if they stuck together and got better terms, each gets a higher payoff if they defect and take the terms the general partner’s offering than not to do the investment at all,” he said.