Timber policy changeto move CalPERSinto new markets

SACRAMENTO, Calif. — CalPERS' new forestlands policy goes well beyond trees.

It emphasizes investment in sustainable forests, both domestically and abroad. What's more, it allows the fund to invest in nascent carbon markets and in cellulosic ethanol, a type of biofuel developed from woodland products that is still in development.

“This new policy reflects some important substantive changes for healthy and sustainable management of forest systems and a new use of the products,” said Russell Read, chief investment officer at the $240.6 billion California Public Employees' Retirement System, Sacramento, in an interview. The policy is “an important fundamental shift in what really could be the oldest profession.”

CalPERS is not alone. The $53.7 billion Massachusetts Pension Reserves Investment Management Board, Boston, expects to issue a request for proposals March 3 to invest $1.1 billion in alternative energy sources, funded by the sale of half of the fund's timber assets late last year.

CalPERS officials plan to invest 1% of total assets, or about $2.4 billion, in timber assets. The allocation falls within a new 5% inflation-linked asset class that also includes investments in inflation-linked bonds, infrastructure and commodities.

Currently, CalPERS has more than $1 billion invested in timber. The fund has three timber managers: Hancock Timber Resource Group Inc., Boston; The Campbell Group LLC, Portland, Ore.; and Global Forest Partners LP, West Lebanon, N.H. In October, the fund committed $1.25 billion to the Crown Pine Timber/Campbell Opportunity Fund-A, which invests in 1.5 million acres in eastern Texas and western Louisiana, according to documents on CalPERS' website.

Exactly how much of the timber allocation will go toward the more non-traditional investments like biofuels is undecided. But board approval to invest in feedstock for biofuels and the burgeoning carbon credit markets give CalPERS a chance to cash in as these markets develop, Mr. Read said.

CalPERS officials want their timber managers to invest in sustainable forests, which are managed in a way that is sensitive to maintaining the soil quality, clean water, ecosystems and a host of other requirements.

The policy, adopted in February, requires that all forest investments receive an environmental certification, a sort of green seal of approval, said Louis Blumberg, director of the California forest and climate policy program at The Nature Conservancy, a conservation organization that worked with CalPERS in developing the policy.

Industry experts say CalPERS is likely the first U.S. pension fund to put such a heavy emphasis on environmental investing through a timber policy.

The new policy also allows for the buying and selling of carbon credits, a robust market in Europe but a relatively small one in the U.S.

But the U.S. market is poised for dramatic growth once a new president is in office, said Doug Cogan, director of climate change research at RiskMetrics Group Inc., New York.

Presidential candidates Sens. Barack Obama, Hillary Clinton and John McCain all support the development of a domestic emissions trading market.

When Mr. McCain, the only Republican to support emission trading became the apparent Republican presidential nominee after Super Tuesday on Feb. 5, trading volume on carbon credits soared on the Chicago Climate Exchange. According to data from Point Carbon, an Oslo-based energy consultant, 2.4 million tons traded Feb. 11, more than the average monthly volume traded on the CCX in 2007.

The prices of carbon financial instruments jumped to $4.50 after Super Tuesday, from about $2.75 in the days before, according to Point Carbon.

The U.S. carbon trading market was valued around $100 million at the end of 2007, Mr. Cogan said. That's just a small portion of the global carbon market, which Point Carbon valued at more $60 billion at year-end 2007.

While the U.S. did not sign the Kyoto Protocol, the international environmental treaty that sets carbon emission ceilings for different countries, the U.S. is expected to participate in the protocol's successor, the Bali Roadmap.

However, CalPERS will move ahead with or without domestic policy changes, Mr. Read said. “National policy will be important, but the forestland policy needs to make sense even without subsidies and the development of carbon markets,” Mr. Read said.

Some experts think the commercial availability of cellulosic ethanol is at least five years away, but Mr. Read thinks the technology will become viable much sooner.

“Through our efforts in private equity, we pay close attention to efforts in developing cellulosic ethanol facilities,” he said. “... We fully anticipate that the technology will be developed quickly over the coming two to three years.”

One investment banker who helps finance ethanol plants questions that time line. It takes nearly two years just to build the plant, and the technology behind cellulosic ethanol hasn't been proven. “The technology is not perfect,” said Ralph Cho, director in the New York office of WestLB AG, Dusseldorf, Germany. He agrees with the five-year estimates.

Cellulose, the most common organic compound on earth, is the tough structural material found in leaves, stalk and roots. The technology is expected to complement corn-based ethanol, not replace it, Mr. Cho said. The benefit of cellulosic ethanol is that the raw material — paper, wood, switch grass — is less expensive than corn, he said.

Range Fuels Inc., Broomfield, Colo., an alternative energy company, broke ground on the first U.S. cellulose ethanol plant in November in Soperton, Ga. Researchers at the Argonne National Laboratory estimate cellulosic ethanol can reduce the consumption of fossil fuels by 70%, according to data on Range Fuels' website.

Mr. Read declined to say if CalPERS has invested in Range Fuel's Soperton plant. A call to Mitch Mandich, chief executive officer at Range Fuels, was not returned.

While the technology is in the research and development phase, there are still questions about its commercial viability. “There are still people who wonder if (cellulosic ethanol) will be economically feasible,” said Jeffrey Christian, managing director at CPM Group, New York, a commodities market consulting, asset management and investment banking firm.

At least one other pension fund is replacing half of its overall timber allocation with investments in natural resources, including alternative energy sources, although the decision was made before CalPERS officials announced its new policy.

MassPRIM had about $2 billion invested in timber until the fourth quarter of 2007 when the fund locked in a substantial gain by selling half of its timber assets, said Michael Travaglini, executive director.

“Becoming a timber buyer right now is hard because of (high) valuations,” he said. Plan sponsors are turning to alternative energy sources as inflationary pressures boost the cost of traditional energy.

PRIM plans to issue a request for proposal March 3 for natural resources managers, including renewable energy, farmland, minerals and coal, among others, Mr. Travaglini said. The fund plans to invest 2% of its assets in natural resources. Assisting PRIM is alternative investment consultant Cliffwater LLC, Marina del Rey, Calif.