State Investment Council Deadlocks On Hedge Fund Investment Percentage

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Public worker representatives on the State Investment Council tried and failed May 25 to force the pension system to pull billions of dollars in assets out of hedge funds, citing higher fees and recent losses. The rare motion spurred a debate that lasted more than an hour, and prompted one appointee of Gov. Chris Christie to say he would resign if the proposal passed without further study by state investment staff and outside consultants.  In the end, board members deadlocked, 7-7, and the motion failed.

The pension system’s share of assets in hedge funds will likely remain around 12 percent for the time being — much higher than the 4 percent cap vice chairman Adam Liebtag had hoped to put in place with his proposal. The motion came as the council prepares to put in place its asset allocation plan for the next fiscal year.

Had the motion passed, the state investment staff would have had to divest nearly $6 billion from hedge funds. The money could have been put into traditional stocks and bonds, or left as cash, but could not have been put into any other “alternative” investments.

Some who opposed the motion raised questions about the argument that cash may be the safest bet of those options. In addition, they argued that alternatives had kept the pension system in the black during rough years and reduced losses at other times. But Liebtag argued that hedge funds had not served them well, with high costs and recent weak returns that didn’t justify their use at existing levels.

The pension system spent $289.9 million in the last fiscal year on fees, expenses and performance bonuses for hedge fund investments and earned $389.8 million in return, according to recent reports. Its total fees for alternative investments, which also include such assets as real estate and private equity, totaled about $700 million.

So far this fiscal year, the pension system’s hedge fund investments have lost 6.87 percent. The investments are also off by about 4 percent this calendar year and declined a little more than 1 percent in the last month. On the whole, though, the hedge funds have made money and are up 3.43 percent in the last five years and 2.87 percent over the last decade.  Other alternative investments, however, have performed better — private equity and real estate have posted gains this month, this year and over the last decade. Alternatives overall are up 7.79 percent over the last five years and 4.56 percent over the last 10.

The council member who threatened to resign on Wednesday, Guy Haselmann, said he did not necessarily object to the idea of pulling back on hedge funds. He just thought careful analysis needed to be undertaken before putting in place such a mandate.  He said it was unclear where the divested money could go and what the ramifications would be, and that the approach would make it difficult for the Division of Investment staff to recommend a sound plan for asset allocation.

Regardless of the May 25 vote, the Council did agree to take a closer look at its reliance on the hedge funds. Chairman Tom Byrne said the discussion can be revisited and that he takes the issues raised “very, very seriously.”  He also stated that the he thought the council members were delivering “a pretty darn severe warning shot to the hedge fund industry — to individuals in it managing money for us — that if you don’t come around on fees, you’re at high risk of losing the money altogether.”

The director of the Division of Investment, Chris McDonough, said even before the motion was made that his staff was in the process of developing a strategy that would could reduce hedge-fund fees while keeping similar levels of asset allocation.  Some managers, he said, are willing to accept flat management fees and forgo performance bonuses in exchange for getting the business of such a large fund. In other places, he said, there are opportunities to negotiate lower fees.

Investment Report

Source: PoliticoPro