At last Thursday’s board meeting, the $327.7 billion California State Teachers’ Retirement System (CalSTRS) decided to increase its percentage of assets allocated to co-investments, taking part in the growing co-investments trend that has been a source of success for both the pension fund and other institutional investors.

The new policy would allow co-investments to take up 2% of the Private Equity Program’s net asset value, which would be approximately $880 million. This is a 250% increase from the previous allotment to co-investments of $250 million.

“In the early 2000s, co-investing was limited to a small group of forward-thinking LPs [limited partners]. Today, many LPS have entered the market seeking the performance and cost benefits of no-fee, no-carry co-investments,” said Rob Ross, a private equity portfolio manager at CalSTRS, at the meeting.

Co-investments are a type of direct private equity investment by a limited partner (such as CalSTRS) into a company or business. These investments are usually made in addition to previous investments that were facilitated through a private equity fund. However, because the co-investment is a direct investment, the LP does not have to pay additional management fees on it.

The lack of fees, combined with the opportunity to invest in the well-performing private equity sector, has made co-investments boom over the past few years. Private equity funds benefit from these partnerships as well since they bring an increase in capital flow.

John Haggerty of Meketa, a consultant to CalSTRS, explained at the board meeting how the co-investment space has evolved over time.

“Private equity firms used to pair up with other private equity firms to get these large deals done,” said Haggerty. “Now that the expertise exists in the LP community to do these co-investments, it’s much more preferable to do it not with a competitor but rather with a customer.”

Haggerty also believes that CalSTRS’s large size makes it well positioned to make a profit off the co-investing space. There are not many investors capable of making deals of the size that CalSTRS can, meaning that the pension would have less competition.

“There are more larger deals that are available,” Haggerty said at the latest board meeting. “The larger deals represent a unique opportunity to exploit some inefficiencies as there are fewer players in that arena.”

Margot Wirth, director of private equity at CalSTRS, also emphasized that while these new investments will be larger, the private equity portfolio would still maintain a diversified strategy.

“These will allow us to do bigger investments, but we would do bigger investments sparingly and with an abundance of diligence and forethought,” she said at the board meeting.

The pension fund took the first steps to increase its co-investment program back in 2018, with the implementation of CalSTRS’s Collaborative Model. Wirth said the current steps to increase co-investments are essentially just an extension of the model implemented three years ago.

“The revisions we’re recommending are just more steps along that plan,” she said.

At the board meeting, CalSTRS also increased its overall private equity allocation to 13% from 11% and reduced global equity allocation to 45% from 47%.

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Tags: CalSTRS, Co-investing, John Haggerty, Margot Wirth, Meketa, Pension, Private Equity, Rob Ross