European Credit casts eye on U.S. pension business

LONDON — Fast-growing bond manager European Credit Management Ltd. is beefing up its U.S. presence and plans to start targeting U.S.-based pension plans by year's end.

The London-based firm will pitch dollar-denominated portable alpha strategies to U.S. institutions seeking to pick up enhanced returns. ECM executives say U.S. investors don't realize how deep and liquid European credit markets have become since the introduction of the euro in 1999.

What European Credit Management officials can do is take the alpha from these instruments and hedge out the local currency. They can then port the alpha onto any currency, relieving investors from bearing unwanted currency risk.

"Our proposal is that U.S. investors can participate in this market. We can issue a dollar-denominated security without their taking on the currency risk," said Stephen Zinser, chief investment officer.

That portable alpha strategy has proved popular with European pension fund officials and has turned the firm into one of the fastest growing in the Pensions & Investments/Watson Wyatt Worldwide annual ranking of the world's largest money managers.

As of June 30, ECM had €18.6 billion ($23.2 billion) in assets under management, according to the firm.

That's more than three times the $5.95 billion the firm had as of June 30, 2003, according to the 2004 P&I/Watson Wyatt survey (P&I, Sept. 6, 2004.) At year-end 2004, ECM had $15.44 billion under management (P&I, Sept. 5, 2005).

In the last year, the seven-year-old firm has seen its client base of U.K pension plans double, largely because of pension executives hungry to match liabilities, said Chief Executive Officer Steven Blakey. This reflects a shift to bonds by U.K. pension plans, combined with their need for alpha/investment returns in an environment where local regulations force them to invest large chunks of fixed income in low-alpha/low-return generating long bonds.

These schemes have mainly invested in the firm's Luxembourg-based portable alpha strategy, which offers returns of up to 300 basis points over benchmark and earns investment returns from a wide range of credit strategies.

Recent client wins include:

• The £3.3 billion ($6 billion) London Pension Fund Authority, London, for a £300 million absolute return mandate;

• The £1.3 billion Environment Agency pension plan, London, for a £130 million mandate;

• The £7 billion West Midlands Pension Plan, Wolverhampton, England, for a £65 million portable alpha mandate;

• The €160 million Kosovo Pension Savings Trust, Pristina, for an €34.8 million absolute return mandate; and

• The £600 million Northumberland County Council Pension Plan, Morpeth, England, for a £47 million active bond mandate.

ECM officials plan to hire up to eight marketers in the firm's Chicago office, said Rusty Reese, president of European Credit Management Inc (USA), Chicago.

U.S. clients — including endowments and banks and insurers — account for 18% of the firm's total assets under management. Mr. Reese wouldn't name any clients.

ECM executives expect demand from U.S. pension plans to grow rapidly and to follow trends in the U.K, where there has been a noticeable pickup in interest in the credit market from local plans during the past 18 months, said Mr. Blakey.

The introduction of new accounting rules in the U.K. and Europe and the closure of mature defined benefit plans have resulted in decreases in pension plans' overall equity allocations. "The same thing will happen in the U.S., and that is music to our ears," Mr. Zinser said.

"In the U.S., we have so far focused on the obvious opportunities with insurance companies, re-insurers and endowments. You get those clients in and the pension sector will follow," Mr. Zinser said.

But U.S. pension plans are often reluctant to invest in European credit, he said. "When U.S. investors think of credit, they think of US. dollar-denominated issues, Yankee bonds and private placements."

He thinks U.S. investors might be missing out now that the European credit market is maturing. "Many European corporations (issuing bonds) don't bother to enter the U.S. dollar market any more. They have a very liquid market here."

ECM issues notes rather than units. These notes can be denominated in any currency and are rated by global credit-agencies. ECM is able to hedge out currency risk and offer clients a return based on whichever currency they prefer, he added.

ECM invests in a range of credit assets, including investment-grade and high-yield corporate bonds and asset-backed securities. It also uses leverage to increase returns.

ECM sees U.S. fixed-income houses, rather than European ones, as its main competitors, said Chief Executive Officer Steven Blakey. They include Pacific Investment Management Co., Goldman Sachs Asset Management LP and Western Asset Management Co.

(updated with correction)