N.Y. fund boosting direct investment

ALBANY, N.Y. — Executives at the $164 billion New York Common Retirement Fund are considering a major shift in the fund's $5.7 billion hedge fund portfolio to direct investment from funds of funds.

Sources said investment staffers at the Albany-based plan are looking to flip the hedge fund allocation to 80% direct investment and 20% in hedge fund of funds, the opposite of the current allocation.

Sources, who asked for anonymity, said Peter Carey, senior investment officer, absolute-return strategies, who oversees a New York-based staff working on hedge fund investments, has been spearheading a top-to-bottom review of the hedge fund portfolio for some months. Mr. Carey assumed oversight of hedge fund investments in the third quarter of last year.

Sources said Mr. Carey talked to staff at other large public pension plans — including the $237.3 billion California Public Employees’ Retirement System, Sacramento — about their hedge fund arrangements. They said New York Common's proposed allocation is remarkably close to CalPERS'.

Mr. Carey was not available for an interview. Fund spokesman Robert Whalen would not comment about specifics other than to stress that plan officials are still reviewing possible changes to the hedge fund portfolio.

“Funds of funds have worked as expected and provided value to our absolute-return strategy program. We are pleased with their performance and with the hedge fund managers they have selected. Funds of funds will continue to have a role in our program going forward,” Mr. Whalen wrote in an e-mail response to questions.

But sources said Mr. Carey has begun to dismantle some of the fund's hedge fund-of-funds portfolio, which includes separate accounts managed by seven firms.

The fund reported in its most recent annual report that as of March 31, 2007, its hedge fund-of-funds managers were Coast Asset Management LLC; Permal Management; Mezzacappa Management LLC; Olympia Group of Cos.; Hunt Financial Ventures LP; Guggenheim Advisors LLC; and Consulting Services Group LLC. CSG, Memphis, Tenn., also is the plan's alternatives consultant.

It isn't clear which of the hedge fund-of-funds managers have been asked to reduce or terminate their portfolios, sources said.

Mr. Whalen declined to comment on the terminations or on the amount each managed for the fund. But according to press reports and one manager, Coast managed about $550 million; Permal, $675 million; Mezzacappa, $465 million; Olympia, $1 billion; Hunt Financial, $115 million; and CSG, $935 million.

The fate of New York Common's direct investments with four hedge fund managers — Mariner Investment Group Inc., Och-Ziff Capital Management Group LLC, Pequot Capital Management Inc. and Ramius Capital Group LLC — is not known.

What is clear is that staffers will have its work cut out for them as they redeploy the $4.8 billion from the funds of funds into direct hedge fund investments.

But that's not all. The target allocation to hedge funds is 5% of total assets, according to the annual report, but hedge fund assets now total 3.5%, meaning another $2.5 billion or so remains to be invested. According to a review of the plan's monthly transaction reports posted on the website of state Comptroller Thomas DiNapoli, plan officials have a good track record of investing a large amount in hedge funds in a short amount of time; slightly more than $2 billion was invested in the year ended Feb. 28.

In apparent preparation for direct investment, fund officials are interviewing firms to fill two key consulting roles: strategic due diligence and operational due diligence.

According to the request for proposals, obtained by Pensions & Investments through a Freedom of Information request to Mr. DiNapoli's office, fund officials are seeking investment management consulting firms that specialize in hedge funds, have at least three years of experience in assisting large institutional investors, and advise on at least $1 billion of hedge fund investments. The RFP noted that one firm may be selected to fill both roles.

The strategic consultant would be responsible for researching hedge fund managers, setting performance goals and asset allocation objectives and working closely with staff on investment strategy due diligence. The operational one would handle the detailed assessment of hedge fund candidates, including investment and administrative review, background checks, ongoing monitoring of investment performance and operations.

Mr. Whalen said the RFP is not connected to a possible change in hedge fund investment strategy. He said Consulting Services Group's contract expires in June.

But sources who read the RFP and are familiar with the fund said the RFP represents a move by staff to bolster its ability to select and monitor a hedge fund portfolio. As one source said, the split means the fund would outsource much of the research and due diligence so staff can concentrate on final manager selection.

New York Common's move — although one of the largest — is the latest in a trend among institutional investors with large hedge fund portfolios, said industry observers. Among large institutions that have already moved to a mostly direct invested hedge fund portfolio for their defined benefit plans are CalPERS; Pennsylvania Public School Employees’ Retirement System, Harrisburg; Teacher Retirement System of Texas, Austin; and AT&T Inc., New York (See Hedge funds: Investors shift to direct strategies, P& I, Jan. 21, 2008).

“For many pension funds, this is the inevitable direction they wish to move in, and it is often driven by a long-term strategic positioning rather than market conditions,” wrote alternatives investment consultant Aoifinn Devitt in an e-mail response from her London office. Ms. Devitt is principal of Clontarf Capital.

“It obviously makes so much sense for a $5 billion allocation to be made directly, saving the $50 million or so in fees that a fund-of-fund(s) program would generate,” she said.

Ms. Devitt said such a large portfolio would optimally invest in at least 40 to 50 hedge funds and could take as long as three years to fully implement. She said managing such a portfolio is possible with an internal staff of six, provided those officials are “experienced and dedicated to the task (i.e. not also working on other areas). The key issues will be manager selection, access and later monitoring.”

Contact Christine Williamson at [email protected]