CHICAGO -- The consultant for the Public School Teachers' Pension and Retirement Fund of Chicago is recommending terminating three managers and adding $600 million to its alternative investments and emerging managers program.
The $10 billion fund's consultant, William M. Mercer Investment Consulting Inc., recommended a number of changes to help the fund achieve a balance between its fee and manager structures and performance vs. the efficient frontier.
The board plans to review Mercer's recommendations in depth at a special board meeting May 23.
The board did approve this month an increase in international equity, boosting the portfolio by $250 million to 12.5% of total assets. The increase from 10% likely would come from domestic equity and the decision is contingent upon other manager allocations decided at the board's May meeting.
The consultant's other recommendations include:
* terminating fixed-income managers Smith Graham & Co. Asset Managers, which runs $56 million in an opportunistic bond portfolio for the system; Banc of America Capital Management Inc., $99 million in opportunistic bonds; and Brinson Partners, $235 million in large-cap value equities;
* placing bond managers Miller Anderson & Sherrerd LLP, which runs $300 million in domestic core bonds for the system; J.&W. Seligman & Co., $272 million in active small-cap equities; and Woodford Capital Management LLC, $30 million in large-cap growth equity, on watch for six to nine months;
* reclassifying the fund's emerging managers as "emerged" and searching for a fund-of-funds emerging managers strategy to run $300 million to $400 million;
* reducing the fund's $2.2 billion allocation to active large-cap equity and increasing the active strategies in small-cap and midcap equities;
* combining Northern Trust Quantitative Advisors' $726 million passive midcap and small-cap equity portfolios to one portfolio based off of the Wilshire 4500 index; and
* increasing the commitment to alternatives to 4% of the total fund to get to the 2% target allocation.
The board agreed with Mercer's recommendation to hire The Townsend Group, Cleveland, as its first real estate investment consultant. Townsend is expected to review the fund's $600 million real estate portfolio, which includes real estate investment trusts, core real estate and opportunistic real estate funds.
Separately, the board in May will consider Mercer's proposals to increase the commitment to the emerging managers program through a funds of funds approach and to consider managers Zevenbergen Capital Inc., Seattle; New Amsterdam Partners LLC, New York; Smith Graham, Houston; Holland Capital Management, Chicago; MDL Capital Management Inc., Pittsburgh; and Woodford Capital Management, New York, "emerged." All of the firms slated to be "emerged" have more than $1 billion in assets under management and have grown since the fund hired them.
Trustees asked Mercer to find out which firms provide the fund-of-funds strategy and how such strategies work. The strengths of the approach include lower fees, less due-diligence work for the pension fund and less of the responsibility of hiring and firing of individual firms, according to Mercer.
If the emerging manager program, which began in 1990, expands it will total $700 million to $800 million.
But Woodford Capital, an emerging manager hired in 1998, likely will remain on a watch list because of organizational changes that took place late last year after Michael Gayed's departure. Peggy Woodford Forbes, chairwoman of the firm, addressed trustees' concerns at a board meeting two months ago.
Another emerging manager, Smith Graham, also has had personnel turnover in addition to poor performance, according to Mercer's Brad Blalock and Stephanie Grieser. Officials did not return calls by press time.
Bond manager Banc of America Capital Management, St. Louis, which also faces termination by the fund, has also had organizational changes in recent times stemming from the moving of its bond team to Los Angeles and the need for a strong high-yield management team to be in place, the consultants said.
Saying the fixed-income department has been centralized in Los Angeles since before Chicago Teachers hired Banc of America, Scott Boswell, director of institutional sales, added, "We're very disappointed and surprised regarding Mercer's comments. We've had ongoing dialogue with them and we were not under the impression that they were disappointed with how we were managing this account."
BofA's high-yield performance has been strong, he said.
There is also some redundancy with BofA's portfolio and other bond portfolios, according to Mercer.
Bond manager, Miller Anderson, West Conshohocken, Pa., likely will stay on a watch list, because of poor performance. A spokeswoman for the firm declined to comment. The firm manages more than $300 million for the fund.
If trustees decide to terminate BofA and/or Smith Graham it's likely that current fixed-income manager Wellington Management Co., Boston, would receive the assets.
On the equity side, Mercer recommended Brinson Partners, Chicago, be terminated. Hired July 1, Brinson has had organizational changes and performance issues.
Trustees will decide whether to terminate the firm in May and will decide whether to search for another active large-cap value manager or place Brinson's $235 million portfolio in a passive portfolio managed by Northern Trust.
Active small-cap equity manager J.&W. Seligman, New York, may be put on watch because of changes in portfolio managers. The board did not vote on whether to review the firm's performance in the next six to nine months.
Mercer also proposed the fund reduce its active allocation to large-cap equity, while increasing exposure to active small-cap and midcap equities.
The board decided to hold off on voting on changes in the equity portfolio, because the money manager allocation decisions had to be decided upon before the equity portfolio changes could be approved.
Mercer also is asking the board to combine Northern's S&P midcap and mini-cap indexes into a passive portfolio benchmarked to the Wilshire 4500 index.
