Apollo, KKR agree to partner with Texas Teachers

Texas Teacher Retirement System, Austin, approved strategic partnerships on Nov. 4 with two of its existing private equity managers, Apollo Global Management LLC and Kohlberg Kravis Roberts & Co.

Trustees of the $107.4 billion system authorized investment staff to set up fund-of-funds arrangements with both managers to manage up to $3 billion each, pending successful contract negotiations, according to a webcast of the board's meeting and an e-mail from Howard Goldman, a spokesman for the retirement system.

During a presentation to the board, Steven LeBlanc, a senior managing director for the retirement system, said the fund's private equity assets totaled 11.7% of plan assets, and real assets were 12.2%.

The KKR and Apollo strategic partnerships are the fund's first such arrangements within its private markets portfolio, which includes private equity as well as real-return investments such as real estate, real estate investment trusts, inflation-protected securities and energy-related investments.

Mr. LeBlanc told trustees the strategic partnerships will generate “a long-term competitive advantage” and higher investment returns. He noted that collaborative relationships with Apollo and KKR will permit faster, more efficient investment that will result in “advantaged economics” and terms that are really “trade secrets” that will give TRS “first mover” advantage in many deals.

Without providing details, Mr. LeBlanc said the two strategic private markets investment partners will be rewarded for aggregate investment performance rather than on a fund-by-fund basis, something he said is “unique in the industry.”

Earlier this year, investment staff unveiled a major restructuring of the fund's private equity and real assets portfolios (Pensions & Investments, June 27).

By the end of 2015, Mr. LeBlanc, said the private markets portfolio will be fully restructured, reducing the number of relationships to a maximum of 70, down from 111 in September, according to the webcast.

By strategy type, Mr. LeBlanc estimated that by the end of 2015, private equity will account for 12% of the total fund; real assets, 15.8%; energy, 2.2%; credit, 1.7%; and special opportunities, 0.9%.

In 2008, the Texas fund invested $1 billion each in four strategic partnerships with public markets managers BlackRock (BLK) Inc. (BLK), J.P. Morgan Asset Management (JPM), Neuberger Berman Group and Morgan Stanley (MS) Investment Management. In July 2011, Barclays Capital Fund Solutions-Americas was awarded $500 million. As of July 1, the public market strategic partnership program totaled $5.2 billion.

Separately, trustees learned that the system's assets rose 12.2%, or $11.7 billion, to $107.4 billion and its one-year performance was 15.5% in the fiscal year ended Aug. 31. However, according to the latest actuarial valuation report, the system is “currently deferring $7.8 billion of investment losses” incurred during the fiscal year “due to smoothing methods utilized in the valuation process.”

The report went on to say that the investment losses from the just-ended fiscal year “are waiting to be recognized in future valuations” and that “the current combination of benefit structure and contribution policy is likely not sustainable indefinitely.”

The fund's actuary, Gabriel Roeder Smith & Co., recommended in the valuation report that contributions to the Texas Teacher fund be “increased over the next few legislative cycles.”

The system's unfunded pension liability rose to $24.9 billion in the fiscal year ended Aug. 31, compared with $22.9 billion the prior year. For the same period, the system's funded ratio dropped slightly to 82.7% from 82.9% at the end of the previous fiscal year.