Texas Permanent School Fund eliminated BlackRock asset class, sealing manager's fate

Texas Permanent School Fund’s termination of BlackRock from an active emerging markets equity portfolio came just over a month after its board eliminated the emerging markets equity target allocation.

The $52.3 billion endowment’s board of directors approved by a 5-1 vote the elimination of the asset class and other asset allocation changes at its Feb. 1 meeting, a webcast of the meeting shows.

Other changes included the elimination of targets of 2% each to commodities and emerging markets debt, and long Treasuries and the creation of new targets of 8% to private credit and 4% to bank loans.

In a March 19 news release, Tom Maynard, chairman of the Texas Permanent School Fund, said, “Companies pushing anti-Texas policies and woke indoctrination have no place in Texas public education, whether in the classroom or as investments in Texas Permanent School Fund. We will continue to defend our Texas values while generating more resources to support the school children of Texas.”

Texas Comptroller Glenn Hegar in August 2022 included BlackRock on a list of 10 financial companies he determined “boycott energy companies” as a result of that law.

The terminations affect two portfolios: a BlackRock international equity portfolio that had $4.1 billion in assets and an emerging markets equity separate account called the Navarro 1 fund that had $820 million in assets, both as of June 30, 2022, according to the most recent data available in a September 2022 board meeting packet. According to the March 19 TPSF news release, the current assets in the portfolios totaled $8.5 billion.

However, at the Feb. 1 board meeting, the board of directors had already voted to eliminate the 2% target allocation to emerging markets equities and lower the target to international equities to 7% from 14% based on the recommendation of Robert Borden, CEO/CIO of the Texas Permanent School Fund.

“Our target weights that we’re proposing to you (the board) increase our expected rate of return from 6.6% to 7.05%, almost half a percent of returns annualized, but here is the secret sauce of diversification,” said Borden at the Feb. 1 meeting. “We’re also eliminating certain very risky allocations in emerging markets debt and emerging markets equity, and we’re able in this case to experience a rate of return that’s almost half a percent higher at actually lower risk.”

In a March 20 email, Borden said "Navarro 1 was eliminated as a direct result of the elimination of an allocation to EME. The other BlackRock strategy was a world ex U.S. strategy that both included EME exposure, as well as having its overall target reduced."

"The main implication of Texas Government Code Section 809 was the fact that we chose not to engage BlackRock in a new revised international equity strategy at this time, and therefore are closing the existing strategy altogether," said Borden. "This certainly brings the PSF into closer alignment with the spirit and intent of Section 809."

Borden also noted in the email that the law and its guidance "is nuanced in its application with respect to direct ownership of listed firms vs other contractural relationships, in order to allow for sound fiduciary judgement in the specific actions taken regarding broader tangential relationships with listed firms."

The school fund is in the process of reallocating those assets, which is not yet complete.

Back at the Feb. 1 meeting, Borden said regarding the overall asset allocation that the changes in the asset allocation are designed to increase exposure to private markets and lower exposure to public markets to be in line with their endowment peers.

He emphasized at the meeting that any underperformance issues the endowment has experienced over the last 10 years was not due to implementation within the asset allocation but the asset allocation itself.

He said their asset allocation has accounted for “90% of our underperformance vs. our peers over the last decade.”

Borden also warned that public market valuations are much too high, and in fact create more risk than any risk in private credit.

“The risk in private credit is lower than private equity and real estate, and I can’t underscore enough that (the endowment’s) biggest overweight is in large-cap publicly traded equities, which have set record high after record high after record high after three years,” said Borden. “The risk you are sitting on there is far higher than the risk of implementing private credit. Far higher.”

The target changes are the creation of an 8% target to private credit a 4% target to bank loans and 2% target to cash, increasing targets to private equity to 20% from 16%, infrastructure to 5% from 4%, natural resources to 5% from 3%, reducing targets to domestic large-cap equities to 14% from 15%, core fixed income to 10% from 11%, international equities to 7% from 14%, absolute return/hedge funds to 3% from 6% and high yield to 2% from 3%, and the elimination of targets of 2% each to commodities, emerging markets debt, emerging markets equities and long Treasuries.

Targets that remain unchanged are 12% real estate, 6% domestic small-cap equities and 2% Treasury inflation-protected securities.

The undated actual allocation shown in a presentation at the Feb. 1 meeting was 15.6% domestic large-cap equities, 15% private equity, 13.9% international equities, 11.4% real estate, 10.5% core fixed income, 6% domestic small/midcap equities, 5.6% absolute return, 4.7% natural resources, 4% infrastructure, 2.4% high yield, 1.8% each emerging markets equities and long Treasuries, 1.7% each emerging markets debt and TIPS. 1.6% private credit, 1.3% commodities and 1% cash.

In a March 19 statement, BlackRock said: “Today’s unilateral and arbitrary decision by Board of Education Chair Aaron Kinsey jeopardizes Texas schools and the families who have benefited from BlackRock’s consistent long-term outperformance for the Texas Permanent School Fund. The decision ignores our $120 billion investment in Texas public energy companies and defies expert advice. As a fiduciary, politics should never outweigh performance, especially for taxpayers.”