MassPRIM: No Regrets Over Breaking Up with Funds-of-Funds

Massachusetts’ public pension system is in the midst of a massive asset shift from funds-of-funds to direct hedge fund investments, and Board Chair Steven Grossman is very happy about it.

(August 16, 2012) — The Massachusetts’ public pension system is adamant about directly investing with hedge funds—and its initial foray into the strategy has been an unqualified success.

“All indications so far say it was the right thing to do,” Board Chairman and State Treasurer Steven Grossman told aiCIO. “It’s going well—we’re steadily moving funds. Certain assets we can get at right away, others we have to wait.”

The Massachusetts Pension Reserves Investment Management Board (MassPRIM) is just over a year into the process of pulling out nearly all of its funds-of-funds investments, cutting ties with most of those asset managers, and reallocating those assets directly into hedge funds. At this point, Grossman estimated, about 60% of MassPRIM’s hedge fund allocation is directly invested, with the target being 85%. Pacific Alternative Asset Management Co. (PAAMCO) takes the entire remaining 15% for funds-of-funds investments heavy on emerging managers. “That’s an area we want to broaden our outreach to, and we’re doing that through PAAMCO,” he said.

“We were paying an extra 84 basis points over standard direct management fees on our funds-of-funds investments,” said Grossman. “On $5 billion, that’s $36 million. We hadn’t been particularly happy with our returns on those investments. And with funds-of-funds, they do the due diligence, and we’re simply more comfortable doing it ourselves.” Given all of these factors, the $48.8 billion fund’s board “carefully, thoughtfully decided to make the move.” And move it did.

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MassPRIM started with a $500 million pilot project to work out the legal and logistical kinks involved in withdrawing the equivalent of Barbados’ GDP from roughly 200 illiquid investments. “We wanted to test everything out first, and make sure we knew all the details before going ahead with it,” explained Grossman.

Cliffwater, MassPRIM’s advisors for this whole process, concluded that optimal diversification could be reached through direct allocations to roughly 20 hedge funds, as opposed to the more than 200 indirect, often redundant, funds-of-funds investments MassPRIM had been dealing with (and paying for).

And now, a little over a year into the process, what’s the verdict? “You might as well own directly, get close to the source, keep due diligence internal, and save $36 million,” Grossman said. “We’re looking forward to cutting out the middle man and working closely with a group of 20 or so hedge funds that we’ve selected ourselves.”

Note: An earlier version of this story mistakenly cited PIMCO instead of PAAMCO as the sole remaining fund-of-funds investment.

Agency costs differ according to different governance structures, an academic study out of Melbourne concludes, and the differences may surprise you.

(August 15, 2012) — Does governance structure influence pension fund fees and costs?

Better governance practices may not actually yield benefits to fund members, an academic paper on Australian pension funds, known as superannuation funds, has asserted. Surprisingly, good governance practices in terms of larger, more independent and diversified boards and the presence of specialized board committees result in higher agency costs, according to the authors.

The paper concludes: “Looking at the trustee boards and committee structures of Australian not-for-profit pension funds, we find correlations between funds’ internal governance structures and their level of fees and costs.”

More specifically, the authors — Monica Tan and Marie-Anne Cam of Melbourne-based RMIT University — find that larger boards are linked to higher investment management fees and expenses, operating expenses and trustee fees. As a fund’s board size increases, for example, so do the number of asset consultants being hired. “In addition, we find a positive relationship between the proportion of independent trustees and investment management fees and expenses, and operating expenses,” the paper noted.

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The paper comes on the heels of a previous research report — written by the same authors of RMIT University — which asserted that while a fund’s governance practices do not affect performance, they do affect fees.