Illinois Teachers alters fixed-income subasset classes in move to simplify

The $45.3 billion Teachers' Retirement System of the State of Illinois continues to slide its global fixed-income portfolio ever closer to the cutting edge of bond management.

The 2015 fiscal year strategic plan for the portfolio is characterized by moves to simplify the subasset class structure, Scottie Bevill, senior investment officer, said during an investment committee meeting Oct. 29.

Fixed income has a target weighting of 16% of the Springfield-based plan's total assets. That isn't changing, although the composition of the subasset class weightings will.

As of June 30, the actual breakdown of the $7.7 billion portfolio was core plus, 38%; global, 20.6%; emerging markets, 11.4%; short-term/other, 9.2%; duration tactical, 8.1%; special situations, 8%; U.S. TIPS, 4.5%; and core, 0.2%.

The new structure collapses the current eight subasset classes into four with the following target weights: beta plus, 55%; global, 33%; special situations, 12%; and short-term asset reserves, zero.

“This move really is ... a simplification of the existing structure. The change is consistent with how staff has viewed the asset class for some time, and provides better flexibility in the current environment,” R. Stanley Rupnik, chief investment officer, said in an interview.

During his presentation to the investment committee, Mr. Bevill said unconstrained bond portfolios with sufficient liquidity are “likely to produce the best risk-adjusted returns (in fiscal year 2015) because their flexibility allows tactical rotation among various sectors and countries, and to allocate between risk assets.”

As a result of the revamp, fixed-income staff will have the ability to move the target allocation to Pacific Investment Management Co.'s unconstrained bond strategy from zero to 80%. PIMCO's core-plus (total return) strategy allocation range is 20% to 100%. As of June 30, TRS had $593 million invested in PIMCO's core-plus strategy and $559 million in the unconstrained strategy.

Mr. Rupnik said the change is based on staff's desire to reduce beta exposure within the fixed-income portfolio.

“Both PIMCO strategies remain important components of the fixed-income portfolio, with staff simply recommending increased exposure to the unconstrained (strategy) at this time. The previous range allowed for up to 50% in unconstrained,” Mr. Rupnik said. He noted TRS investment staff might not push the unconstrained strategy to its upper limit, “but it does provide PIMCO and staff the flexibility based on market conditions.”

After spirited discussion, the investment committee approved Mr. Bevill's recommendations for changes to the fixed-income portfolio as well as investments in other asset classes. The full board gave final approval to investment changes affecting more than $1 billion during its Oct. 30 meeting.

Manager-specific fixed-income changes included promotion of active bond manager Garcia Hamilton & Associates LP from the pension fund's $732 million emerging managers program to manage a full-size 4% allocation — about $300 million in current dollars.

The restructuring cut Hartford Investment Management Co. as manager of a $350 million U.S. Treasury inflation-protected securities portfolio. Investment staff “believes the net-of-fees results from these mandates can be improved through two mandates. Further, staff prefers to utilize global inflation-linked mandates, while Hartford's portfolio is U.S. only,” said Mr. Rupnik.

PIMCO and New Century Advisors LLC continue to manage $586 million and $268 million, respectively, in global inflation-protected securities portfolios.

Trustees ratified the addition of LSV Asset Management to the fund's global equity portfolio. Investment staff used their discretion to hire LSV in August to manage $360 million in active domestic large-cap value stocks. LSV, which already managed $1.3 billion for TRS in two other equity strategies, replaced Loomis Sayles & Co., which was terminated in August.

Active large-cap value equity managers Affinity Investment Advisors LLC and Lombardia Capital Partners LLC each received $25 million allocations from the emerging managers program for domestic and international portfolios, respectively.

After another lively discussion, the TRS trustees approved the following commitments to private equity and real assets managers:

• up to $100 million to Siris Partners III, a follow-on to the $12.5 million commitment made to Siris Partners II. With the large new allocation, private equity manager Siris Capital Group LLC was moved from the emerging managers program;
• up to $100 million to a customized Asia-focused private equity separate account strategy and an additional $100 million to a companion co-investment vehicle, both managed by Asia Alternatives Management LLC; and
• $30 million from the real assets portfolio to the Taurus Mining Finance Fund, managed by Taurus Funds Management Pty. Ltd.

Trustees also ratified staff-initiated co-investments of $18.5 million and $20 million, respectively, to existing managers The Carlyle Group and NGP Energy Capital Management LLC.

Separately, during an investment committee review of the fund's 2014 fiscal year-end reports, Mr. Rupnik told trustees the staff is considering issuing an RFP for custodial services but has to wait until new risk management and reporting systems are installed. That might mean a delay in issuing a possible RFP for anywhere from six to 18 months.

State Street has been providing custody services to TRS for about five years and does not have a fixed-term contract.

“We negotiated an evergreen contract with State Street so we would have the flexibility to make changes when we want to. But we can't make a shift now,” Richard W. Ingram, executive director, told trustees.

Also, Mr. Rupnik announced to trustees that finalists for a real estate consultant search will be presented to the investment committee during the board's Dec. 10-12 meeting. The five-year contract of Callan Associates Inc. expires Dec. 31.