Rolling up their sleeves

In case you needed more proof that limited partners are attempting to do more direct investing, cut non-core relationships and generally reduce asset management costs, State Street helpfully published a survey in November showing that pension funds plan to take a more hands-on approach to managing their portfolios.

Some 81 percent of the 134 global pension respondents said they were exploring ways to bring more asset management responsibilities in-house over the next three years. That is in part due to efforts to cut costs (nearly 30 percent said they have difficulty justifying fees paid to asset managers), but also to better manage risk and leverage technology more efficiently.

“Pension funds’ desire to deliver strong investment returns to their participants, coupled with improved oversight and governance, is leading to a need for more in-house accountability for asset and risk management,” Martin Sullivan, State Street’s North American head of ‘asset owner sector solutions’, said in a statement. He added that “this undertaking requires pension funds to carefully evaluate how to achieve a balance of in-house and external talent, tools and technologies”.

The report showed that core components of the move to in-house asset management include pursuing lower cost strategies – witness the California State Employees’ Retirement System’s recent move to terminate its standalone hedge fund programme – and an increased reliance on technology platforms to make decisions. The rationale being that better software and cheaper products will remove some of the risk inherent in making investment decisions.

The data provided by new platforms and dashboards is richer in detail than ever before, and regulators continue to put pressure on investment managers to provide clearer disclosures, allowing for greater data-driven decision making. Additionally, losses with a cheaper product could have less of an impact on the bottom line.

SECONDARY SOLUTIONS

Secondaries and co-investments are nothing new for LPs – particularly for the longer standing investors with mature private equity portfolios. But in recent months it seems the activity on those fronts by US pensions in particular has increased dramatically in line with their desire to reduce GP relationships and secure more advantageous economics with fund managers.

For example, South Carolina’s pension system announced plans to increase target allocations to buyouts exposure within its private equity portfolio, specifically citing greater potential for co-investment opportunities over the next 5-7 years. When all is said and done they plan to be overweight buyouts with an eye toward more active management of this exposure. Recent reports that CVC Capital Partners plans to launch a special 15-year ‘strategic opportunities’ co-investment fund also highlights long-term investors’ appetite for this sort of strategy.

On the secondaries front, as our sister publication Secondaries Investor has reported, Montana’s Board of Investments, New Mexico’s State Investment Council, Wisconsin’s State Investment Board, and the Florida State Board of Administration are just a few of the many LPs that have realised successful sales on the secondaries market in recent months. And more are on the way: New Mexico SIC alone plans to sell 100 tail-end positions in the short-term. These realisations are important as these public pensions weren’t winding down toxic assets or bad investments, but instead were just trimming the fat from the portfolio – be it in the form of tail-end positions or non-core relationships – and are doing a pretty good job of navigating today’s seller’s market.

Montana, for instance, saw more than 40 potential buyers for the eight fund stakes it had put up for sale, and was able to realise value in the sale. The eight stakes had a net asset value of $126.6 million as of September 2013, and sold for $133.6 million – roughly a 6 percent premium. Montana’s chief investment officer Clifford Sheets specifically cited “the current valuation perspective, good market timing, strong demand and ample dry powder among secondary funds” at a recent investment meeting as rationale for the pension selling positions.

The market assessments coming from internal teams are also becoming sharper and memories are getting longer. New York City’s pension system is getting in on this trend by banning placement agents entirely and adding to its headcount in alternatives, bringing on two new people for private equity and hedge funds. As the preference for co-investments becomes stronger too, GPs will have to prepare for a new type of pension fund sitting across from them in negotiations – one that will be much less passive.