Institutional Investor's Alpha Magazine - May 2008 - (Page 20)

Pension Corner But not everyone is as conﬁdent as Gröttheim in the merits of replication strategies. U.S. investors have been less likely than their European counterparts to embrace the product, says James McKee of Callan Associates in San Francisco. He suspects the divide exists because European investors demand that their assets be always available. But investors should be aware, he adds, that these products could have difﬁculty predicting market turning points. “It’s hard to replace the experienced hand of a hedge fund manager, who has incentives to preserve capital, with a quantitative model,” says McKee. Gröttheim says he’s heard the argument that hedge fund clones haven’t been tested in enough market conditions to ensure their reliability. He counters that the volatile markets during the past year have offered ample testing. “It’s not a worry,” he says. “Many of these products have been doing quite well, even over the course of this year.” “We’ve been pleased with the performance of our funds of funds,” he says. “But we think that we could help our consultant put together a portfolio that’s as good, if not better.” McDonough explains that direct hedge fund investments will allow the system and its consulting ﬁrm, New York–based Aksia, to use their knowledge of market movements to invest more strategically and nimbly than they can with funds of funds. “We will be able to allocate to funds that we believe are best suited to take advantage of market conditions,” says McDonough, who took over as CIO two and a half years ago, after running the system’s private equity and ﬁ xed-income portfolios. “Additionally, we hope to be able to access some managers that are closed to funds of funds and thereby potentially improve our returns.” McDonough and the board were already sold on the merits of direct investing three years ago, when the system carved out its maiden 6 percent allocation to hedge funds. But they agreed that funds of hedge funds would be the best introduction to the asset class, ultimately splitting their money among seven ﬁ rms, with the intention of eventually moving into direct investments. Concerned with the overlap among the underlying hedge funds held by the original seven funds of funds, the plan in 2006 pared its portfolio to four ﬁ rms — Arden Asset Management, Attalus Capital, Goldman Sachs Asset Management and Mesirow Financial. Six months ago, in anticipation of the change to direct investing, the system replaced the consulting ﬁ rm that had helped it set up its fund-of-funds portfolio — CR A Rogerscasey — with Aksia, which McDonough and the board believe has better resources to handle direct investments. This year the system will interview potential managers and hopes to make its ﬁ rst hires immediately after that. Over the next two years, it plans to build a diversiﬁed portfolio of 15 to 20 hedge funds, which will account for half of Philadelphia’s overall hedge fund allocation; funds of funds will make up the other half. Although McDonough admits there are potential drawbacks to investing in individual hedge funds — such as the risk of being named in a story about the next blowup — he says they don’t overshadow the many advantages, especially the potential boost to returns. — K.G. Philadelphia Public Employees Retirement System I t’s not that Christopher McDonough is dissatisﬁed; he just thinks his fund could do better. That’s why the CIO of the $4.9 billion Philadelphia Public Employees Retirement System, along with its nine-member board, has decided to move half the plan’s hedge fund assets from funds of funds into direct investments. McDonough is willing to accept the additional risk that comes with investing in single-manager hedge funds as a necessary price for possibly better returns. MANDATES Hedge funds have played a major role in the ongoing market volatility, according to a report recently released by the New York–based Security Traders Association as part of its annual review of market structure. The STA found that as institutional investors have increased their allocations to alternatives, the short-term trades and complex strategies characteristic of hedge funds have created “movement and momentum among stocks that fuel volatility and velocity.” Below are a few of the investors that are stepping up their involvement with hedge funds. SEARCHES* Investor Harvard University Assets ($ millions) $34,900 Mandate amount ($ millions) Details $349 Harvard, with the biggest U.S. endowment, plans to raise its hedge fund allocation from 12 percent to 13 percent and may hire external managers for the mandate. The system plans to make a maiden 5 percent allocation to hedge funds. The fund is looking to boost its absolute return investments to 5 percent from 2 percent. It will use incumbent managers for the mandate and will fund the allocation from its domestic equity exposure. San Luis Obispo County Public Employees’ Retirement System University of California Endowment 800 40 6,700 201 ALLOCATIONS* Investor County Employees’ Retirement Fund of Missouri Delaware Public Employees’ Retirement System Louisiana Sheriffs’ Pension & Relief Fund Assets ($ millions) $ 225 Mandate amount ($ millions) Details $ 25 The plan hired Archstone Partnerships to replace Meridian Capital Partners in managing its fund-ofhedge-funds portfolio. The fund committed $200 million to Barlow Partners to create a fund of hedge funds. The system hired Blackstone Group for a $15 million fundof-hedge-funds portfolio. Funding came from equities. 6,450 200 1,530 15 * Ongoing searches for and recent allocations to hedge funds or funds of hedge funds by institutional investors, as reported by iisearches.com in April. 20 • INSTITUTIONAL INVESTOR’S ALPHA • MAY 2008 http://iisearches.com

Table of Contents Feed for the Digital Edition of Institutional Investor's Alpha Magazine - May 2008

Institutional Investor's Alpha Magazine - May 2008 Contents Letter from the Editor Longs & Shorts Pension Corner: Send in the Clones The Good Guys: Outside the Box Cover Story: Welcome to Oz Interview: The Tipping Point Regulation: When Sentinels Go Astray Strategies: Taking Credit Research Center: The Hedge Fund 100 Book Excerpt: Shoot the Messenger Alpha Bytes: VaR Enough? Unhedged: Commentary: Not Your Father's Activist

Institutional Investor's Alpha Magazine - May 2008

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