Kentucky Pension Recommits to Hedge Funds Amid Governance Turmoil

The Kentucky Retirement Systems approved new hedge fund investments as controversy reigned over fund leadership.

Following a string of high-profile hedge fund exits, the Kentucky Retirement Systems (KRS) investment committee recommended $300 million in allocations to its board of trustees Thursday.

The recommendations came at a time of upheaval for KRS, with its governance uncertain following the removal of board chair Thomas Elliot last month.

Kentucky Governor Matt Bevin issued an executive order ousting Elliot on April 20, citing concerns over fund performance and transparency. In his place, Bevin appointed dermatologist William Smith, who has since declined the position.

Executive Director William Thielen, who previously announced his intent to retire but stayed on due to a lack of replacement, said Thursday that he would officially step down on September 1.

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Thielen said he was “grateful to have served the KRS membership for over ten years and honored to have worked with very talented and dedicated KRS trustees and staff during this period.”

Amid this turbulence, the investment committee approved initial investments of $20 million to $30 million each in Anchorage Capital Partners, BlackRock’s Global Alpha Opportunities fund, and the Finisterre Global Opportunity fund. It also recommended an increased target allocation to Prisma, KKR’s hedge fund-of-funds arm.

As of March 2016, the $15 billion pension and insurance fund had $1.6 billion in “absolute return” strategies. The new investments will not affect KRS’s target hedge fund allocation of 10%, said CIO David Peden, but will replace investments in Pacific Alternative Asset Management Company and Blackstone Alternative Asset Management. 

This recommitment to hedge funds comes weeks after the $55 billion New York City Employees’ Retirement Systems voted to do away with hedge funds altogether. The California Public Employees’ Retirement System famously made a similar move in 2014.

Insurance giants AIG and MetLife also recently announced decisions to slash their hedge fund portfolios.

However, research by data firm Preqin shows that public pension funds on average are increasing their allocations to hedge funds, growing their investments from 7.2% of their total portfolios in 2010 to 9.2% in 2016. KRS comes in slightly above average, with an allocation of 10.6% in March.

The fund’s absolute return portfolio returned 3.3% over the last three years and 4.1% over five years.

Related: Kentucky Pension Fights to Retain Control of Governance & Public Pensions Still Hungry for Hedge Funds

The Hidden Cost of Longevity Swaps

Offloading longevity risk is not a one-way transaction, Redington has warned.

Remember that longevity transaction? It may be time to check it’s still doing what it should, a consultant has said.

“While longevity hedging may be appropriate for some schemes recent experience reminds us that this isn’t a ‘one-way’ risk.”Recent updates to long-term mortality data have challenged assumed trends and may require action from pension funds that have hedged their longevity risk, warned Dan Mikulskis, head of asset and liability management at Redington.

His comments followed an update from The Pensions Regulator (TPR) in the UK, which alerted those responsible for running defined benefit funds of the change in mortality trends.

In particular, the Continuous Mortality Investigation (CMI) model used by pensions in England and Wales has shown a fall in life expectancy over the past few years, TPR noted.

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“Contrary to longer-term trends, experience in the last five years has implied a lower level of life expectancy,” Mikulskis said. “While this may be ‘good’ news for many schemes in a financial sense, this has particular implications for schemes who have enacted longevity swaps in recent years, as they may need to adjust their strategic asset allocation to allow for the collateral that needs to be posted if and when the contract takes on a negative value.”

Many transactions executed since 2009—including the BT Pension Scheme’s record-breaking £16 billion ($23 billion) longevity swap in 2014—may now have a “significantly negative value,” Mikulskis said. Pensions in this situation should inquire whether their contracts include provisions to review mortality assumptions, he added.

Other high-profile longevity swaps have included brewer Heineken, insurer and fund manager AXA, and the Merchant Navy Officers Pension Fund, all in the UK. In Canada, telecom giant Bell sealed a C$5 billion (US$3.8 billion) deal with Sun Life in 2015.

“It also provides an interesting perspective to debates around longevity risk and the cost of hedging,” Mikulskis said of the mortality data. “While longevity hedging may be appropriate for some schemes, recent experience reminds us that this isn’t a ‘one-way’ risk.”

However, TPR’s own recommendation to UK pensions was less explicit.

“The CMI model is driven by assumptions, one of which is the single long-term improvement rate,” TPR said, “and we would consider it unlikely to be appropriate to make any changes to this assumption until it is clearer that recent experience is indicative of being a trend over the longer term.”

Related: Longevity Improvements Hit the Brakes; Pensions to Save $18B from ‘Outdated’ Mortality Tables; Time Running Out on Longevity Risk, Warns OECD

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