Illinois Teachers sees ‘unlimited opportunities’ in diverse managers as program marks 20 years

In the quest for capital for their first funds, new and diverse investment managers go to the land of opportunity — Illinois. If not in person, new managers reach out through the inbox of Jose Gonzalez, senior investment officer at the Teachers’ Retirement System of the State of Illinois, Springfield.

“There’s new potential opportunities in my inbox every day,” said Gonzalez, who leads the public pension fund’s emerging manager program. “I’m not talking to people just coming back, looking for an update or checking in. I’m talking new because GPs know that Illinois has a focus here … We’ve been doing this for a long time. We’re leaders here.”

Marking its 20th anniversary this year, Illinois Teachers’ emerging manager program is said to be one of the longest running among U.S. pension funds, and boasts 19 graduated firms now receiving larger mandates in its main portfolio. Gonzalez has been around for about half that time — having joined the pension fund as a senior investment analyst in 2015, and tapped in 2019 to lead the program.

“At the end of the day, I know when I retire, I’m going to look back and wonder where some of these managers are — in terms of their business cycle and how much growth they’ve achieved,” Gonzalez said. “Right now, I’m getting tingles just because it’s something that not everyone gets to get involved with.”

In Pensions & Investments’ survey of the 1,000 largest U.S. retirement plans, Illinois Teachers was ranked No. 3 of plans that allocated money to firms owned by women, minorities, people with disabilities and veterans as of Sept. 30. Exceeding the pension fund were the $274.7 billion New York State Common Retirement Fund, which allocated $36.8 billion to diverse managers, and the $285.5 billion New York City Retirement Systems, which committed $23.1 billion.

Of the $74 billion in assets held by Illinois Teachers at the time, $21.4 billion was committed to 46 diverse and emerging managers.

Assets committed to diverse managers rose about 19.3% from the same time in 2023, when $17.9 billion of the fund’s $65.6 billion went to such firms.

Fifth incarnation

Much like the firms Gonzalez works with, Illinois Teachers’ emerging manager program is set again to “scale along with them” as it begins its fifth incarnation.

Every five years since 2005, the staff takes “a deep dive into the program, and we think about what’s worked and what hasn’t,” Gonzalez noted. “Then, we think about what we can do better, what’s in store for the future and how we can make the program better.”

Since 2020, when Gonzalez outlined his goals for the program’s fourth incarnation, he said the investment opportunity he’s seeing has doubled — but “there’s only a limited amount of capital to go around, right? But there’s unlimited opportunities.”

In addition to enhancing Illinois Teachers’ efforts in hiring diverse and emerging managers, Gonzalez is encouraging and helping peers within the world of institutional investing to support these firms.

To industry peers who say “‘I can’t find any diverse, emerging managers in small buyout, early-stage venture capital or growth,’ I’ll tell them, ‘Really? Because you’re not looking hard enough, maybe you’re not stretching your outreach, or maybe you haven’t built out your networks,’” Gonzalez added. “But it takes a long time to really build your program. We have the luxury of being around for a long time.”

The definition of an emerging manager has varied over time, with some focusing on asset size or fundraising cycle.

When Illinois Teachers launched its program in 2005, “the main focus was to invest in promising, younger and growing investment managers that may have smaller bases and developing track records,” Gonzalez said. “We wanted to provide access to firms that — maybe while possessing a marketable investment philosophy or process — really didn’t have dedicated marketing resources to identify themselves to either plan sponsors or the investment consultant community.”

In 2009, the Illinois General Assembly signed legislation requiring that retirement systems, pension funds and investment boards use emerging investment managers “to the greatest extent feasible within the bounds of financial and fiduciary prudence, and to take affirmative steps to remove any barriers to the full participation in investment opportunities afforded.”

By asset size, the law defines an emerging manager as a qualified investment adviser managing at least $10 million and no more than $10 billion. In terms of diversity, the law notes an emerging manager is a business that is at least 51% owned by minorities, women or people with disabilities.

The law also set an “aspirational goal” for allocators to have at least 20% of their assets held by emerging managers by Jan. 1, 2016.

Having used diverse managers “well ahead of the state laws” being established, Illinois Teachers has emerging managers currently accounting for 29.1% of the fund’s total portfolio, Gonzalez said. Since inception, the program has allocated capital to 138 new and re-up commitments — 72 hires worth $4.8 billion to new relationships and 66 re-up allocations worth $6.1 billion.

For the 19 firms that have graduated from the program and are currently in the main portfolio, their initial commitments totaled roughly $602 million. By graduation, the capital grew to a total of $2.6 billion, Gonzalez noted.

He added that there are no parameters written in stone for graduation, but working groups with the pension fund assess the quantitative and qualitative factors in the decision-making. While there are at least three firms in the pipeline for graduation within the next six months, among the notable firms that have graduated from the emerging manager program include Garcia Hamilton & Associates, Siris Capital Group and Clearlake Capital Group.

In a breakdown of the 138 commitments, 40 allocations worth $2.1 billion went to African American-led firms, and 45 allocations worth $4.4 billion went to Latino-led firms.

Additionally, 28 commitments worth $2.9 billion went to female-led firms, while 17 allocations worth $1.3 billion went to firms led by those from backgrounds in Asia and other non-European ethnicities.

Since 2005, the program has switched from a focus on traditional public assets — including stocks and fixed income — to alternatives, including private equity, real estate and private credit. The program has terminated 14 managers, all following graduation and with public market mandates. As the program increasingly focused on private capital, Gonzalez said there has been reduced terminations.

As of Sept. 30, domestic equity accounted for 58.4% of the program’s portfolio; global income and private credit together accounted for 15.9% and private equity made up 15.6%.

Through this current incarnation and into its 25th anniversary in 2030, Gonzalez said he hopes the program continues to evolve — one way being spending more time sourcing asset classes where the program has limited exposure. For instance, he noted the program is underexposed to real estate and real assets when it comes to minority managers, compared to other asset classes.

When running an emerging manager program, having dedicated staff for sourcing, due diligence and ongoing monitoring is essential, he noted. Illinois Teachers’ team currently has a staff of three — Gonzalez and two analysts. But given the program’s growth, he noted that “we are considering expanding our team in the very near future.”

Gonzalez is also considering how it can build out its long-term institutional partnerships. For one, while still in the planning stages, the pension fund’s annual Opportunity Forum for emerging managers is looking at an in-person return after being held virtually since the start of the COVID-19 pandemic.

When it comes to artificial intelligence, Gonzalez said he’s also monitoring how the technology could be leveraged to strengthen the program within the next five years.

Outperformance, credibility and racial disparities

In addition to queries from emerging managers, Gonzalez receives phone calls from other allocators, including endowments and foundations, that are thinking about building their own program and are seeking advice.

Each program is different, and the policy has to be built around what the allocator wants to achieve, Gonzalez said. But he added that having emerging managers is an important aspect of every investment plan because of the “tremendous upside for alpha, given that the managers are smaller and play in niche strategies.”

“I do try to push it, but I also understand that there’s certain other things that come into play with each pension and each institution,” he noted.

At Illinois Teachers, Gonzalez’ push for growth is tied to the outperformance of emerging managers due to their focus on narrower strategies and smaller markets.

“This has been evident in our performance numbers from our managers,” he added. “I would say that performance has been equal to or better than our mature, late-stage managers. The performance continues to be an important gauge for our overall success of the program.”

Additionally, Gonzalez is pushing to expand representation to address the historical lack of diversity within the industry. According to a 2024 report by the National Association of Investment Companies, between 2012 and 2022, more than 95% of pension fund investments flowed to non-diverse managers.

“As we grow, we continue to correct what we feel are disparities in asset allocation by directing this institutional capital to historically underrepresented groups,” Gonzalez said. “Then, as these diverse managers gain credibility, they pave the way for future managers from underrepresented backgrounds.”

Having a program around for 20 years has enabled Illinois Teachers to build out a strong network. What Gonzalez has “found more helpful is just word of mouth, and having networks with other allocators” that run similar programs.

And while there are several conferences dedicated to emerging managers — including events hosted on Emerging Managers Week during the week of Feb. 10 — Gonzalez attends the bigger ones, and sometimes speaks on panels.

“And when I attend these conferences, I’m interacting with potential opportunities because I’m seeing a vast array of managers,” he added.

In-house diversity scoring system

Gonzalez said diversity metrics is another area he wants to strengthen.

Illinois Teachers has its own internal scoring system for measuring diversity and inclusion, made possible through the allocator’s annual survey of firms. The questionnaire collects data to assess what each manager’s workforce looks like — from ownership, down to leadership levels and the total workforce.

“In our existing relationships, we want to make sure that we’re supporting managers,” Gonzalez said. When I mean ‘support,’ we’re reaching out to them and saying, ‘Look, last year, your workforce looked really good — a diverse workforce — but I see here that maybe the past couple of years, you’re lagging here, there, or vice versa.' We want to be able to give credit to those managers that are doing well in terms of really thinking about how to diversify their workforce.”

Before hiring a new firm, Gonzalez goes through a due diligence process that incorporates diversity metrics. Aside from asking about performance, track record and the economic distribution within the firm, he asks managers about where the firm is in terms of diversity. Even during introductory meetings, he’ll aggregate diversity data.

“That way, I can build a pipeline because I might not hire every single manager I talk to. It’s impossible, but I could say I can build a database that tells me, ‘OK, I’ve had calls and meetings with all these managers. This is kind of what the workforce looks like today,’” Gonzalez added. “But I think when it comes to diversity metrics, we’d like to aggregate data that can help us support our managers.”

Aside from looking at the firm’s ownership, Gonzalez assesses the whole firm, including retention and promotion within, diversity of thought on the investment committee and “who’s getting all the carry — is it just the owners, (or) is it being distributed to a diverse piece of the firm?”

“Obviously, ownership is going to dictate what the rest of the firm is going to look like, but there’s other factors that are important when you think about the firm as a whole,” he added. “We’re doing some work and coming up with a customized diversity metric internally that we’re going to start applying that’s more inclusive, (and) has several factors that we’re incorporating to help make a decision on truly what efforts a firm is making around diversity.”