U.S. public pension funds could increase their average annual return by 51 basis points by adding a 10% allocation to hedge funds, according to a paper released Tuesday by the Managed Funds Association, the hedge fund industry group.
The paper's author, Everett M. Ehrlich, worked with alternative investment manager Campbell & Co. to model the impact of hedge fund investments on institutional investor portfolios. His research showed that the estimated average annual return was 7.03% for a standard portfolio allocation of U.S. equity, 50%; international equity, 20%; fixed income, 20%; real estate, 5%; and commodities, 5%.
The addition of a 10% hedge fund allocation boosted the estimated average annual return to 7.54%, reducing the U.S. equity allocation to 45%; international equity and fixed income to 18% each; and real estate and commodities to 4.5% each.
In the paper, Mr. Ehrlich noted that the addition of a 10% hedge fund allocation to the standard portfolio mix also reduced the possibility of the overall portfolio experiencing a negative return to 23.4%, from 26% for an institutional portfolio without hedge funds.
Mr. Ehrlich said he estimated that an additional 10% hedge fund allocation on top of whatever hedge fund allocation the 100 largest U.S. public pension funds already have would yield combined additional returns of $13.7 billion annually.
The paper, “The Changing Role of Hedge Funds in the Global Economy,” is available on the MFA's website.
Mr. Ehrlich is president of economic research firm ESC Co. and served as undersecretary of commerce for economic affairs during the Clinton administration.
