CalSTRS plans to build out co-investment team despite covid crisis

Co-investments play a large role in the $246bn pension's 'Collaborative Model,' which seeks to bring more investment activities in-house.

California State Teachers’ Retirement System chief investment officer Christopher Ailman said plans to build out the $246 billion system’s co-investment team were “critical” and would continue despite the coronavirus pandemic.

Ailman said staff will keep the board posted on how the recruitment process is going, and hinted that it might be necessary to let new staff be based outside the Sacramento area.

“We’re trying to pull people in, but even then you do get people reluctant to come to Sacramento,” Ailman said. “We’re going to have to use this…new word of remote access to allow people to be in the Bay Area, to be in [Los Angeles], and likely work in different areas.”

A big challenge would be acclimating new hires into CalSTRS’s culture.

“I think we have a very unique and special culture in the investment branch, but frankly I don’t know how to do culture when everybody is remote,” Ailman said. “So that’s something we’re going to have to learn as we grow into this world.”

Deputy CIO Scott Chan and private equity director Margot Wirth are overseeing building out the team, Ailman said.

Co-investments are the main private equity focus of the pension’s “Collaborative Model,” which seeks to bring more investment capabilities in-house. They will play a major role in the private equity group plans for fiscal 2020-21, according to an investment business plan approved by the investment committee Wednesday.

The group will seek to recruit “experienced direct investors with co-investment and secondary transaction expertise,” the plan said. In a January 2019 agenda item, CalSTRS’s PE group said it planned to hire 15 staff members. It wanted to increase direct investment staff from four to 12 and direct investment operations specialists from one to five. Currently, the PE group has 23 staff members.

In addition to recruiting, the private equity group will be re-organized to focus more staff energies on the burgeoning co-investment program. “Some staff will focus primarily on co-investments and others will focus primarily on partnership investing,” the plan said.

The 2019 item said that due to high competition for these sorts of skills, it may be necessary to budget for a higher salary for these employees.

“[The hiring] does lean over into that uncomfortable area of total compensation,” Ailman said Wednesday. “And are we able to compete in that environment and find those people?”

CalSTRS has been bullish on co-investments for quite some time now, last year pledging to double them, as Buyouts has reported. In the planning document, staff said co-investments “significantly decrease external fees and incentives paid to out side parties” and are “likely to produce superior risk-adjusted returns if implemented properly.”

Staff is “engaged in a multi-year effort to significantly increase the proportion of capital deployed within direct structures such as co-investments,” the planning document said. In the second half of 2019, CalSTRS made $855 million in co-investment commitments, as Buyouts reported.

Earlier this year the fund decided to increase its private equity allocation by several percentage points, as Buyouts reported. However, the timeline during which to do this is flexible and dependent on the quality of opportunities presented.

As of June 30, CalSTRS’s PE allocation stood at 9.6 percent of the fund, according to Ailman’s presentation to the board. At the meeting Wednesday, the investment committee approved raising it to 10 percent. The long-term target is 13 percent.

The change is effective as of July 1, meaning it takes effect retroactively and the fund starts the fiscal year slightly underweight. When board delegate Gayle Miller expressed concern about this, Ailman said making the change as of July 1 was “clean,” but admitted he was a bit worried about the PE allocation.

“It’s aspirational, but we have a lot of dry powder we’ve committed in private equity so I’m worried about increasing that, but I think that’s the right thing to do,” he said.

As of March 31, its PE assets were valued at $25.2 billion. Co-investments made up 12 percent of that, valued at $3.1 billion.

The planning document said the private equity absolute return objective was 9 percent for the fiscal year. In FY 2019-20, PE returns were 10.5 percent, as Buyouts reported.

Ailman recently told Buyouts CalSTRS was poised to take advantage of direct or co-investment opportunities provided by the ongoing coronavirus pandemic, and would try to do so mostly through the collaborative model.

Action Item: read CalSTRS’s Fiscal Year 2020-21 Investment Business Plans here.