CalSTRS Looks For Benchmarks

Faced with the possibility that private equity write-downs could drive down the value of its $100 billion portfolio the California State Teacher’s Retirment System’s (CalSTRS) investment committee last week argued in favor of creating a benchmark to standardize measurement of private equity returns.

If LPs are able to benchmark returns, they will be able to better assess the performance of fund managers, get out of under-performing funds, hedge against future losses and perform better due diligence on fund managers.

“Especially on a multiple-year perspective [in a year when there is a state budget shortfall and the value of the public equity portfolio has fallen] there’s a need to pump returns and I’m concerned about fake returns,” said California State Controller Kathleen Connell. “We need to get an accurate measure of where we are at a given point in time.” Connell sits on both CalSTRS’ and CalPERS’ investment committees.

LPs, it seems, are increasingly dissatisfied with IRRs. They are inconsistent and misleading, charge investors, especially when used to calculate the value of unrealized gains. Since IRRS are based on the valuation of privately held companies, two funds can calculate different valuations – and different IRRs – for the same investment.

The issue was raised at CalSTRS when California State Treasurer Phil Angelides questioned the carried value of unrealized gains in the pension plan’s alternative investment portfolio. Since September, the value of the system’s alternative investment portfolio has dropped between 5% and 6%. Of $10 billion worth of active commitments, CalSTRS counts $3.97 billion in realized gains and another $4.39 billion in unrealized gains. The system’s portfolio lost 3.4% of its value in the fiscal year ending in June. “This is a pretty quick melt – how much further could it go?” he asked.

Most volatile, Angelides said, was the value of the unrealized portfolio. Since the carried value of that piece of the investment portfolio is based on valuations calculated by GPs, its value is likely to swing in tandem with the whims of the market and with the moods of fund managers.

“[The portfolio’s value] will still come down,” predicted Real Desrochers, principal investment officer for the pension fund’s alternative investment portfolio. By how much, he could not say, although he defended the value of unrealized gains as calculated by GPs as being “conservative.”

Sacramento-based CalSTRS is not the first public pension fund to raise the issue of performance measurement standards. In March, Rick Hayes, senior investment officer for alternative investments with the nation’s largest public pension fund, CalPERS, and the face of the newly incorporated Institutional Limited Partners Association, proposed a cash-in/cash-out’ standard for benchmarking returns.