Searches, hires latest crisis casualty

Pension funds sharply curtailed their money manager searches and hires in the third quarter, as fund executives tried to absorb the effects of the market turmoil.

An analysis of second- and third-quarter published reports of pre-searches (asset allocation or investment policy changes that could lead to manager shifts), searches and hires, and additional allocations to existing managers showed:

•Hires of new managers were down 32%, to 259, in the third quarter, compared with 382 in the prior quarter;

•Searches declined 28%, to 95, in the three months ended Sept. 30, from 132 in the second quarter;

•Additional allocations to existing managers dropped 38% to 15 in the third quarter from 24 in the previous quarter; and

•Asset allocation shifts or investment policy changes that usually lead to portfolio reconstruction and manager changes were down 37%, to 27 from 43.

Only manager terminations increased: up 39% during the quarter to 39.

The most notable results of a comparison of pension fund activity in the first nine months of 2008 vs. the first nine months of 2007 were a 35% drop in terminations year-to-date Sept. 30 and a 27% drop in additional allocations to existing managers.

Investment manager hires declined 8%, but search activity was up 8%.

Given the extreme volatility of global markets in September and the first half of this month, plan sponsor inaction seems likely to only grow during the remainder of the year, some sources predict.

“In the institutional world, everything is so frozen, so seized up,” said Deborah D. Boedicker, director of marketing at Strategic Investment Group, Arlington, Va., a manager of managers.

“I don't hear panic in pension fund (executives') voices. Instead, I'm hearing, "This is not good; we've never seen anything like this before.' And they are saying that they have to wait until the dust settles — whenever that will be — before they can do any rebalancing or look at adjusting their asset allocations,” Ms. Boedicker said.

Others think pension fund boards might make changes during the remainder of the quarter.

“I think terminations are likely to show up in fourth quarter after institutional investors have a chance to look at third-quarter returns and rethink their asset allocation,” said David L. Eager, partner with Eager, Davis & Holmes LLC, Louisville, Ky. The firm tracks institutional pension fund investment activity, but third-quarter data were not yet available.

Pension fund sponsors likely will have to adjust their asset allocations at some point, given the huge hits in long-only equity and hedge funds in the nine months ended Sept. 30.

Equity and hedge fund index returns were significantly down, with the Standard & Poor's 500 index down 20.57% for the first three quarters; the Morgan Stanley Capital International World index, down 32.47%; the HFRI Hedge Fund Weighted Composite index, down 9.41%; and the HFRI Fund of Funds Composite index, down 11.03%.

The only relatively bright spot during the period was the Lehman Brothers U.S. Aggregate Bond index, which was essentially flat at -0.02%.

All the bad news and uncertainty have made some pension plan trustees and investment staff jittery about moving forward.

The School Employees Retirement System of Ohio, Columbus, is temporarily halting its hedge fund investment program at $258 million — only 23% of its target allocation of 10% of plan assets. The plan has invested in 25 hedge fund managers to date.

The $11 billion system's board, at a meeting Sept. 26-27, approved suspending the direct hedge fund investment program “until market turbulence calms down,” confirmed Laurel Johnson, a spokeswoman. Ms. Johnson stressed that the move is not permanent.

Another pension fund board is moving forward with manager selection, but is holding off on funding some accounts.

Trustees of the Metropolitan Water Reclamation District of Greater Chicago hired active domestic midcap equity managers Systematic Financial Management LP, Teaneck, N.J., to manage $51 million in value and Wellington Management Co., Boston, to handle $40 million in growth, said Sue Boutin, executive director of the $1.1 billion defined benefit plan.

But the district is not funding the mandates of two minority-owned investment firms until markets stabilize, said Ms. Boutin. Atlanta Life Investment Advisors Inc., Atlanta, will manage $45 million in active U.S. large-cap core equities, while Opus Capital Management LLC, Cincinnati, will run $49 million in active U.S. small-cap value equities when their mandates are funded.

On the other hand, many a pension executive has been forced by necessity into becoming a proselytizer to nervous trustees and constituents for sticking to investment discipline and continuing regular operations of their funds.

Michael Travaglini, executive director of the Massachusetts Pension Reserves Investment Management Board, for example, ended the board's Oct. 8 meeting with a pep talk of “let's put this into context” to trustees and staff.

Mr. Travaglini told trustees of the $45.7 billion Boston-based plan that he has seen signs that “some of our peers” are making investment decisions in response to the market upheaval, “pulling levers” and retreating from hedge funds and private equity. He called that reaction akin to “moving the deck chairs on the Titanic.”

Mr. Travaglini noted that between 2003 and 2007, PRIM's assets grew by 80% on a cumulative basis. “PRIM's biggest advantage is its investment horizon,” he said, urging trustees to keep faith that the fund's investment strategy will ultimately work. “It must be remembered that moments like these also offer up very attractive opportunities” and PRIM should remain confident that it will be able to meet its long-term objectives, he said.

It's business as usual when it comes to investment decisions for the $14.5 billion Teachers’ Retirement System of the State of Louisiana, Baton Rouge, said Robert Leggett, chief investment officer.

The fund's board on Oct. 7 approved the rehire of Shenkman Capital Management Inc., New York, to manage the plan's $100 million high-yield bond portfolio. Shenkman had been one of four managers of the portfolio, which was consolidated under one manager when the five-year contract was rebid.

The plan also is searching for a manager for its $400 million active domestic large-cap value equity portfolio, another contract that has reached its five-year expiration.

“The genesis of both of these searches is that the contracts are coming up and our investment policy requires that we get new bids for them. We are strategic investors and developed an investment policy that ensures that we take action as long-term investors,” Mr. Leggett said.

The New York City Retirement Systems is seeking managers for its $1 billion U.S. small-cap equity portfolio, confirmed Laura Rivera, spokeswoman for New York City Comptroller William C. Thompson Jr., who oversees the $128 billion systems.

Officials at other plans are proceeding with normal investment operations, but seem compelled by extreme conditions to explain — out loud — what they're doing and to offer reassurance.

These pension funds are not alone in proceeding with investment operations. P&I's analysis of announced pension fund activity so far in the fourth quarter (through Oct. 8) revealed that sponsors had initiated 12 searches and made nine new manager hires.

Strategic Investment Group's Ms. Boedicker said her pipeline of potential new business remains robust. She also noted that her own experience surviving past turbulent market cycles has helped her manage her own emotions as well as those of her clients and prospects.

“For those of us who have been around for 20 years, this is one more bad cycle. I was on trading desks during 1987... I, for one, am glad right now that I have those scars to prove (that) markets will survive this cycle, too,” Ms. Boedicker said.

Contact Christine Williamson at [email protected]

Reporters Douglas Appell, Jennifer Byrd and John D'Antona Jr. contributed to this story.