Largest Pension Fund dumps Hedge Funds


The nation’s largest public employee pension fund, California’s Public Employees’ Retirement System (CALPERS) announced that it is ending its investments in hedge funds. The move comes in the midst of debate among some large institutional investors as to the value offered by hedge fund investment versus alternative, more liquid funds. The impetus for exiting from hedge funds ranges from a desire to reduce high fees to the benefit of enhanced liquidity. Are “liquid alts” the next big institutional investment?

A $4 Billion Dollar Exit

While the CALPERS total fund value is estimated at $298 billion, the $4 billion hedge fund stake may not seem particularly significant; however, of greater note is whether the CALPERS move will encourage other pension and endowment investors to do the same and thereby initiate a trend.

Fund Fees a Factor

According to CALPERS’ own figures, the pension fund paid about $135 million in hedge fund fees for fiscal year ending June 30, 2014. Generally, hedge fund fees include a 20 percent performance fee in addition to a 2 percent management fee. By contrast, many alternative mutual funds have fees of less than 1.8 percent, and hedge fund managers may be coming under increasing pressure to justify their higher fees.

Liquid Alt Advocates

Bob Rice, managing partner at Tangent Capital, cites several factors motivating the shift to liquid alternatives, known as “liquid alts”:

“All the early studies say the liquid alts perform as well or nearly as well as hedge funds, and whatever performance lag there is can simply be seen as a premium for liquidity, lower cost, transparency, simplicity and regulatory safeguards.”

That opinion was seconded by Rick Lake of Lake Partners Inc., another proponent of liquid alts:

“Lower costs and simplicity are hallmarks of liquid alternatives, compared to hedge funds, and that is why institutional use of liquid alternatives is growing “

How Liquid Alts Differ

As the name implies, liquid alts are an alternative investment — as are hedge funds — but are differentiated by a limited range of investment strategies utilizing mutual funds, ETFs and closed-end funds. The common denominator among all liquid alts is that they allow daily liquidity. Also known as “40 Act Funds,” their history goes back to 1940 when the funds were created by an act of Congress. According to Morningstar, Inc., 465 mutual funds are categorized as alternative strategy mutual funds, which together hold $161.5 billion in assets.

The “Everyman” Alternative Fund

While hedge fund investors need to be “accredited investors” who can qualify for participation based on net worth and income thresholds, liquid alt mutual funds have no such income requirements and, therefore, are accessible via stock exchanges to the average investor.