NEW YORK -- In just two years, commitments to alternative investments by large institutions have risen a whopping 67%, according to a new study.
The country's biggest pension funds, endowments and foundations increased their total commitments to alternative investments to $152 billion as of June 30 from $91 billion on June 30, 1997, according to the report on alternative investing by Goldman, Sachs & Co., New York, and Frank Russell Co., Tacoma, Wash.
Of the 189 funds that responded to the survey, 61.4% said they invest in alternatives. The survey was sent to 251 major funds in North America.
The overall average allocation to alternatives rose to 7.3%, compared with a typical 6.3% allocation in 1997. Endowments and foundations continue to have the largest average allocations to alternatives at 13.8%. Corporate pension plans' allocations grew one percentage point to 7.3% and public pension plans have upped their allocations to an average 5.5% from 4.9% in 1997.
In dollars, commitments by public pension funds rose the most from 1997 to 1999, more than doubling to $92 billion from $44 billion, at an annual growth rate of 44%.
The overall average allocation to alternatives is expected to rise to 8% in 2001, according to the report.
For the first time since 1992 when Goldman and Russell began surveying alternative investing patterns, there was a $28 billion aggregate overcommitment to alternatives. The strategic allocation for 1999 was $18 billion.
"It was the first time we have seen an aggregate commitment in excess of the strategic allocation," said John Taylor, managing director, pension services, at Goldman Sachs.
Added Hal Strong, managing director at Frank Russell: "The reason is the lag effect from the time commitments are made until they are drawn down. To get closer to the strategic allocation, it helps to overcommit."
He added that to get $100 invested, a fund should commit about $140.
Leveraged buyouts continue to get the lion's share of commitments, and are most popular among smaller plans with assets of $5 billion to $10 billion. But funds with more than $10 billion in total assets reported they are having trouble committing significant portions of their assets to venture capital. The survey did not ask why they're having problems committing.
Endowments and foundations put more of their alternative investment portfolios in venture capital funds than do corporate and public pension plans. Venture capital investments make up an average 32.5% of endowment and foundation allocations to alternative investments, vs. 18.1% and 17.7%, respectively, for corporate and public pension plans. And 38.9% of respondents see venture capital in North America as the most attractive asset class for the next three years, followed by 14.1% that selected international leveraged buyout funds in developed countries.
Another significant change was the increased commitment to Europe in international investments, Mr. Taylor said. European investments made up an average of 14% of funds' international alternatives commitments, up from 9.3% in 1997. Western Europe was the favored region among corporate pension plans and plans larger than $10 billion.
Returns exceeded forecasts in every category, particularly in venture capital, which yielded 33.5% on an annualized basis in the two years ended June 30, far outpacing the expected returns of 17%. Respondents were most optimistic about venture capital investments, predicting they will yield average returns of around 22% between 1999 and 2001.
Only 23% of those polled said they invest in hedge funds as a separate asset class, and 77% of the total $5.6 billion total assets now invested in hedge funds comes from foundations and endowments.
The major reasons participants gave for not investing in hedge funds were: the risk/return profile of the asset class did not fit into their investment objectives; the plans were prevented either legally or by investment policy from investing in hedge funds; and the hedge funds lacked disclosure and transparency.
Even though respondents were polled about hedge funds in the last survey, there were too few major institutional investors to include them, Mr. Strong said. He noted the asset class is more popular with high-net-worth investors, endowments and foundations than with pension funds, but predicted more institutional money will start to flow into them.
This year's survey also polled 90 of the largest pension funds in Europe, 61 of which responded. Of those, 38, or 62.3% said they invest in alternatives. Their average allocation grew to 3.5% in 1999 from 1.9% in 1997. They expect to increase their average allocation to 2.9% in 1999.
The survey, which also asked about real estate opportunity funds for the first time, excluding all core real estate investments, found 66.4% of U.S. respondents invest in real estate through commingled funds or opportunistic partnerships.
While 32% of those polled decreased their allocations to such funds in the past three years, 78% said they don't plan to change their allocations in the next three years.
Although the popularity of funds of funds is increasing and grew to 6.9% from 1.7% in 1997, respondents still prefer limited partnerships. In 1999, 79.1% of alternative investments were held in limited partnerships, vs. 94.2% in 1997.