PennSERS staff use the hedge fund allocation as part of an alpha transport program. They invest "opportunistically in hedge funds invested in emerging market equities and debt to hedge out risk," Mr. Gilbert said. The strategy is beta neutral and non-correlated to U.S. equity market returns, and it uses Standard & Poor's 500 index swaps to transport the alpha generated by the hedge funds back to traditional U.S. equity asset classes. The plan doesn't even have garden-variety, long-only U.S. equity investments any more, Mr. Gilbert said. It now gets its U.S. domestic equity exposure through alpha transport from the hedge fund program and a 17% allocation to U.S. active, small-cap equity managers.
The three-year old hedge fund program has a net return expectation of 4% over the S&P 500 and has actually returned an annualized 4.9% over the S&P 500 with 2% volatility, compared with a 4% volatility target, Mr. Gilbert said.
The return expectation over 20 years for PennSERS' private equity/venture capital allocation is an annualized 10%. That's low, but "we expect to get a lot better than 10% in private equity and would never invest in a fund (that we) expected to return only 10%," Mr. Gilbert said. Since 1985, the private equity portion of the portfolio has returned an annualized 12%, and the venture capital portion has returned an annualized 25%.
For real estate, PennSERS' annualized gross return since inception in 1983 was 8.6%, and its net return was 7.8%, compared with an expected net return of 6.7%. Most of the fund's portfolio is now invested in opportunistic and value-added real estate, as plan officials have taken advantage of the strong real estate market and sold core holdings in recent years, Mr. Gilbert said.
The overall portfolio returned 15.1% for 2004 and an annualized 11.1% for the 10 years ended Dec. 31, well above the plan's 8.5% actuarial assumption rate, due in no small measure to the returns of alternative investments, Mr. Gilbert said. "Our staff and trustees have generally been well-satisfied with our results."