CalPERS considers stock, infrastructure boosts

CalPERS' investment committee is leaning toward expanding the $220.1 billion system's risk portfolio by increasing its public equity and infrastructure allocations.

The panel on Nov. 9 approved the outline of a plan to raise public equity exposure to 53.1% of total assets from 49.1% and increase its infrastructure allocation to 3% from 1%.

Funding would come from its U.S. Treasuries portfolio and other low-risk investments.

The outline is part of the committee's efforts to change the California Public Employees' Retirement System's asset allocation for the next three years, starting in 2011.

The committee selected that outline from among eight investment portfolios based on risk tolerance presented by the Sacramento-based system's investment staff. The portfolios ranged from conservative bond-centric with a low return rate to the public equity increase, which had the highest rate of return and the highest risk level.

George Diehr, committee chairman, stressed that a final decision could be based on a combination of CalPERS' current risk portfolio with elements of higher-risk portfolios. That decision is expected in December.

Mr. Diehr said the higher level of risk was necessary to avoid large increases in contributions to CalPERS from state agencies and public safety departments. Even with the riskiest of the eight portfolios selected, the highest rate of return estimated by CalPERS' investment staff would be an annualized 7.49%, below the current 7.75% assumed rate of return. Under that scenario, state agencies would be required to increase employer contributions from a range of 1.5 percentage points to 3 percentage points, and increase contributions for public safety agencies from a range of 3 percentage points to 5 percentage points.

The ultimate employer contribution rates chosen by the system will be based on CalPERS' discount rate, which is expected to be set by the CalPERS board at its February meeting.

At the Nov. 9 committee meeting, Michael Schlachter, managing director of Wilshire Associates, the system's investment consultant, warned that the equity-heavy portfolio the panel had chosen would do well only if there were economic growth. Mr. Diehr acknowledged Mr. Schlachter's concerns but said he felt that the CalPERS investment staff could find equity opportunities among frontier economies in which they had not previously made investments.

Separately, the system has started a $500 million internally managed portfolio investing in environmentally friendly global public companies, targeting firms that work to improve the environment and mitigate the adverse impact of climate change.

“Until now, we've invested in external managers whose funds screen out the worst offending public companies,” Rob Feckner, board president, said in a news release. “But this more robust, quantitative strategy will allow us on a large scale to support and become more directly involved in positive change by top performers that have improved share value and also done good for the environment.”

Mr. Feckner said companies in the new portfolio must derive a material portion of their revenues from low-carbon energy production. Investment staff will model the new index strategy after HSBC's Global Climate Change Benchmark index, said CalPERS spokesman Clark McKinley in an interview.

Mr. Diehr said in the release that research shows that a positive inclusionary methodology for investing in common-stock companies is more successful than a negative exclusionary approach.

CalPERS has around $400 million invested in four funds that use the exclusionary approach and the four funds have all had negative performance since the program began in 2004, CalPERS data show.

Also on Nov. 9, the system announced a final net return of 13.3% for the year ended June 30 — almost two percentage points higher than its preliminary return estimate of 11.4% released in August.

“This updated report indicates a gain of more than $40 billion since our turnaround from the lowest point of the recession in March 2009,” Joe Dear, CalPERS chief investment officer, said in a separate news release. “We also beat our benchmark of 12.95% and eclipsed return targets for every asset class except real estate. But even that asset class improved dramatically over what we reported in July.”

The net return exceeded the system's long-term annualized earnings target of 7.75%, bringing the 20-year return average through June 30 to 7.65%.

Global fixed income returned 20.35%; private equity, 23.88%; public equities, 14.42%; and commodities, infrastructure, forestland and inflation-linked bonds returned a combined 8.7%. Real estate assets returned -10.76%; the system in July had estimated a -37.1% return for real estate.

“These figures confirm our initial assessment a few months ago that we were in a recovery mode with the opportunity to capture future returns because of our long-term investment horizon,” Mr. Dear said in the release. n