CalPERS shifts gears on private equity investment plan

CalPERS is tweaking its new private equity investment proposal, switching to two outside partnerships from an earlier version to create an outside corporation that would manage the direct investment portions of its portfolios, John Cole, senior portfolio manager, told the pension fund's investment committee on Tuesday.

The two outside companies would be the general partners and funded by the $346.6 billion California Public Employees' Retirement System, Sacramento, which at least in the beginning would be the sole limited partner. The two firms would each have their own independent management teams and advisory boards.

CalPERS staff have been working on the business model for investing in private equity, which includes its traditional investment model plus new elements, for more than a year. CalPERS had $27.2 billion in private equity as of June 30.

The idea is to divide the portfolio into four pillars: a fund-of-funds type portfolio that invests in emerging managers; investing in commingled funds, the current model; and two direct investment strategies that would be run by the separate partnerships.

The two direct portfolios are expected to grow to $10 billion each over a 10-year period.

One of the direct portfolios would be an innovation strategy, with the outside limited partnership dedicated to investing "in late-stage venture capital, at the nexus of life sciences, health care, and technology," Mr. Cole said. It would make commitments of $1 billion to $2 billion a year.

The second limited partnership firm would make long-term investments without an expiration date. This so-called horizon portfolio would focus on "core economy companies … with durable business models, capable of attractive cash yields over time with the opportunity to grow revenues by taking advantage of longer term investments and a platform approach to building a portfolio," he explained. CalPERS would make larger, less frequent commitments.

CalPERS staff are in the midst of a search for a manager to run the emerging manager fund-of-funds portfolio — the first pillar — with a selection expected to be announced in December, Mr. Cole said. The mandate increases CalPERS investment in private equity emerging managers to less than $500 million from "a couple of million," he said.

CalPERS executives' thinking is also evolving regarding the management of the traditional commingled fund portfolio — the second pillar. Earlier this year CalPERS had conducted a search for a manager to run that commingled fund strategy, which also includes co-investments, separate accounts and secondaries. Bidders in the alternative solicitation proposal, an invitation-only process, were AlpInvest Partners, Hamilton Lane, HarbourVest Partners, Neuberger Berman, BlackRock (BLK) and Goldman Sachs Asset Management.

Now, instead of outsourcing management of that portfolio, CalPERS staff could hire a firm in an advisory role to assist staff with the portfolio, Mr. Cole said. That decision has been delayed until after CalPERS hires a permanent head of private equity, expected sometime in early 2019. CalPERS has not had a permanent management investment director of private equity since Real Desrochers resigned in April 2017. Sarah Corr has served as the interim private equity director.

"We have come to the realization after a lot of analysis and discussion that the structure is unlikely to meaningfully strengthen our organization," Mr. Cole said on Tuesday.

"So as we complete our search, which will be in early 2019, for a permanent head of our private equity team, we will re-evaluate our options under pillar two (the commingled fund portfolio)."

During the course of the 18-month review of the private equity investment business model, CalPERS staff have provided regular updates to the investment committee, which can decide whether or not to fund the revised business model. But most of the changes now under consideration would be made under the board's delegation of authority to staff, Mr. Cole said in an interview. Staff will, however, need to return to the investment committee to seek an exemption and/or change in its delegated authority when it is time to execute contracts. There is no time line for when staff will return to the investment committee for this approval, Mr. Cole said.