Texas TRS’s PE Strategic Partnerships miss target returns

Apollo and KKR manage more than $9bn across multiple strategies in a programme designed to deliver more than dollar returns.

The performance of Teacher Retirement System of Texas‘ strategic partnerships with Apollo Global Management and KKR took a hit in the fourth quarter due to lower returns from public holdings and low-returning credit strategies.

Private equity, which makes up more than 75 percent of the strategic portfolio, generated an internal rate of return of 4.7 percent over one year and 11.5 percent over the five years ended 30 June. Consequently, the total private strategics portfolio generated a 5.5 percent IRR over one year and 11 percent over five years as of June 30, against a target return of 13 percent.

The portfolio has returned 11.1 percent since inception in 2011.

Texas TRS’s private equity portfolio comprises commitments to private equity funds, “strategic partnerships” – separately managed accounts with Apollo and KKR – and “principal investments”, which include direct and co-investments.

TRS’s Strategic Partnerships and Research unit was set up in 2011 to contribute to the pension system’s return objectives and to help it capitalise on the total firm capabilities of its partners, according to a presentation by Michael Pia, managing director of strategic partnerships and research, at Texas TRS’s 19 September board meeting.

In 2011, Texas TRS committed $6 billion to the plan, signing Apollo and KKR as the two partners. The programme, which has a mandate to invest across multiple strategies, received another $3 billion in capital last year – the same year a $1 billion co-investment sidecar was approved, Pia’s presentation said.

The strategic partnerships programme is split into $4.4 billion in “strategics” – invested across private equity, real estate and energy and natural resources – and $1.784 billion in “tactical value”, comprising credit strategies.

As of 30 June the partnerships had $3.8 billion, or 48 percent of the total, in dry powder to invest, and had invested in more than 40 investment strategies.

The performance dip was due to the “structural asset allocation tilt by the strategic partners,” Pia said at the September board meeting.

The firms are concentrated on mega-buyouts and credit, and public holdings and low-returning credit strategies were also a drag on performance, he added.

The initial capital has been fully committed and future commitments will depend on distributions. The portfolio is focused on deploying capital in Asia, global public to private transactions and real assets, according to Pia’s presentation to the board.

More than 75 percent of the strategics portfolio is made up of private equity. The capital is invested in the flagship private equity funds of Apollo and KKR, senior investment manager Courtney Villalta said at the 20 September 2018 meeting.

The non-dollar benefits

In addition to the strategic partnership returns, Texas TRS had invested $1.3 billion in 16 principal investments (including direct and co-investments) with both firms, which had generated net IRRs of 16 percent, Villalta said at last September’s meeting.

Texas TRS has benefited from its partnership with the two firms, which are “thought leaders” that provide key market insights and support Texas TRS’ innovation initiatives, Pia said at the 19 September meeting. Texas TRS also benefited from being the go-to partners and getting the first call on investments, Pia added.

The two firms assisted in developing the 2.0 version of Texas TRS’ private equity strategy and building the “fleet initiative”, a term used by the system to describe its strategy of consolidating funds and its addition of staff to save on fees over time, according to its website. They also participate on co-investment reference calls and give Texas TRS early calls on co-investment opportunities, Pia’s presentation said.

The firms have also worked on research projects on private equity portfolio construction, post-IPO security management and streamlining operational processes.

Moreover, Texas TRS has institutionalised a training programme with Apollo and KKR, where its employees spend three months on-site at the firms to learn about processes and the firms themselves.