Alaska Permanent Launches Private External-CIO Program

(September 19, 2013) – The Alaska Permanent Fund—channeling its own external-CIO program, as well as the strategic partnerships pursued by Texas Teachers and New Jersey—has committed $750 million to private-equity giant Carlyle.

“We’ve had our external-CIO program in place for a couple of years now,” said Jay Willoughby, the fund’s CIO, referencing the fund’s allocations to Bridgewater Associates, Goldman Sachs Asset Management, GMO, PIMCO, and AQR that gave the firms broad mandates to invest across traditional portfolio buckets. “Now we’re trying to do the same thing in the private markets.”

The Carlyle investments will focus on energy, according to Executive Director Mike Burns. “We’ve reached out to several firms that have multiple capabilities, and we want to access their whole platform,” he said. “We want their best thinking. Carlyle is the first one we’ve done a deal with—and, as it turns out, we are focusing on the energy side. They think that’s where they have their best ideas.”

As part of the deal terms, no more than 50% of the capital can be put in traditional Carlyle Group funds. The remainder will be co-invested and/or used for “pre-fund direct” investments—attractive investments that may not be otherwise offered on a co-investment basis—according to Willoughby.

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This is not the fund’s first foray into this relationship structure—and likely won’t be its last, according to Burns. Along with the allocations to the external-CIO providers, Alaska Permanent has consolidated some emerging markets mandates into a small number of firms—including Capital Guardian, Mondrian, and PIMCO—who “can access debt, equity, and currency managers. The real experts in the equation are them, so they should be looking across investments to see where the best opportunities are.”

The progression from the public-market external-CIO program to the private market program was no coincidence. According to Burns, the fund first got comfortable with the structure before applying it to less liquid transactions. “With this private-CIO program, the challenge is that, by nature, these are longer-term relationship,” he said. “It’s like being married. In a public market deal, you can exit when you want. It’s not that way in the private markets.

“We don’t know the pace at which we’ll allocate to other managers quite yet, but we’re talking to a lot of potential partners,” Burns said.

Related Content: Who’s Paying What, Alaska!

(September 19, 2013) – The South Dakota Retirement System (SDRS) did something unusual among US public funds this month: It fully funded its liabilities.

As of June 30, the $9 billion retirement and health plan held 104% of the assets required to pay its current and future obligations.

The SDRS is not alone among US public plans in reaching full funding, as its top administrators are quick to point out, but it belongs to an exclusive group.

The nation’s 100 largest public funds were, on average, 75.1% funded in 2012, according to Milliman actuarial data. These plans assumed a median 8% annual rate of return, whereas the SDRS lowered its rate to 7.25% last year.

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Investment staffers in South Dakota are free of some of the challenges plaguing other large systems. The state’s public employers, for example, have a strong record of paying their retirement bills in full and on time.

But the Midwestern fund didn’t reach this landmark by following the status quo. In many respects, its governance and investment style shares more in common with its neighbors to north—the Canadians—than with the typical US pension system.

The SDRS handles plan administration, while the largely independent South Dakota Investment Council runs its assets. This division manages a total of $11.3 billion, including retirement assets, health and education trusts, and the state government’s cash flow accounts.

The investment council has taken its mandate to heart: It actively manages 65% to 70% of its assets in-house. Investment head Matt Clark leads a team of about 55, roughly half of which are finance professionals.

“Managing assets in-house is a core part of our strategy,” he says during an interview with aiCIO. “And our staff tends to stay with us for the very long term.” Clark is a case in point: He has worked with the council since 1984. “We couldn’t have achieved all we’ve done if people left every five years.”

The council’s achievement for the 2013 fiscal year—a 19% return—largely propelled the SDRS’ funding ratio into triple digits. From 2003 through 2012, the investment team averaged 7.8% annualized gains, topping its 10-year benchmark by 120 basis points.

In the nearly three decades since Clark joined the South Dakota Investment Council, its assets under management have grown more than thirteen-fold. He acknowledges this latest landmark—full funding—as an accomplishment, but not a finish line.

“The asset values are calculated at market rates,” Clark cautions. “Things could go up or down a little bit depending on a few factors. And over the long term,” he adds, “market returns may be significantly better or worse than expected.”

For this reason, Clark says the council does not plan to dial back risk or change investment strategy in a meaningful way.

“The 104% figure is largely based on actuaries’ prediction of what our returns will be in the future. I think that to assume we’ve already achieved them and change our strategy would be putting the cart before the horse,” he says.

SDRS and its investment council take the quality of its funded ratio seriously, paying as much attention to its inputs as its outputs.

For example, the fund reviews its assumed rate of return every five to seven years as a matter of course, according to Executive Director Robert Wylie.

Last year, this regular evaluation led the investment staff (aided by consultants) to pursue a “select and ultimate” strategy. For the next several years, based on internal market views, the assumed rate of return has been lowered to 7.25%. Following that, the long-term or “ultimate” rate of 7.5% will take over.

Expected returns are not the only dynamic feature of the SDRS’ funding ratio. Liabilities are also flexible, and can be dialed down as well as up depending on the health of the plan.

“When the retirement system was originally established, provisions were made in South Dakota state law that said if we drop below a certain funding status [80%], we have to make changes in benefits or contributions to rise back up,” Wylie says.

“It’s the opposite of what you see in some places, where benefits are constitutionally or statutorily guaranteed. Ours are flexible, by law,” he continues. “When we consider changes in our benefit structure which would raise liabilities, we have to be at least 120% funded.”

The SRDS’ ability to adjust benefits in a worst-case market scenario gives Clark and his team freedom to pursue growth past the 100% funding mark, Wylie points out. Here is perhaps the public fund equivalent of high cash-flow corporations that choose not to pursue LDI. Because if worst comes to worse, the company can afford top off the plan. Or, in this case, the plan could reduce its liabilities.

Of course, the fact that the South Dakota pension system can reduce its liabilities means it almost certainly won’t have to. By maintaining its investments in risk assets, the fund will likely continue its strong course of growth. And that, foremost, is how Clark sees his mandate.

“We’re responsible for the retirements of thousands of people in South Dakota,” he says. “It’s our responsibility to do the best we can with their life savings.”