The California Public Employees’ Retirement System yesterday announced plans to end its ill-conceived, twelve-year costly gamble on hedge funds. The pension will divest the entire $4 billion it had speculated in 24 hedge funds and six hedge fund-of-funds. Assuming that each of the six hedge fund-of-funds invested in perhaps a hundred underlying hedge funds, CalPERS may have assets with over 600 largely unnamed hedge fund gunslingers globally investing in God-knows-what. Worse still, the nation’s largest pension pays multiple layers of lavish, avoidable fees for these indirect poor-performing fund-of-fund investments that should have never been made.
Hopefully, there will be no unpleasant surprises related to pulling the money safely back into the state pension over the next year. The more public pensions that follow CalPERS’ lead and run (as opposed to walk slowly) for the door, the greater the probability they’ll find it’s locked. Structural illiquidity (lock-ups) and illiquid investments are commonplace in hedge funds.
To paraphrase Warren Buffett (who opposes public pension investments in hedge funds), only when the tide goes out will we discover who swam away with state workers’ money.
Rolling the dice on hedge funds has proven disastrous for CalPERS and its stakeholders, including taxpayers. The annualized rate of return on its hedge fund investments over the last 10 years is reportedly a paltry 4.8 percent, about half the S&P 500’s return of 8.12 percent. That’s about $1.3 billion in underperformance.
High-risk, low return is generally considered the very definition of a doomed investment. Yet the interim chief investment officer of the fund is quoted as saying the decision to eliminate hedge funds isn’t related to the performance of the program. It seems the fees and the complexity—two massive drawbacks of hedge funds which have always been known to CalPERS—are the reason for ending the program twelve years too late. CalPERS had better come up with a more believable explanation. Global warming?
“Red flags” related to this costly roll-of-the-dice are copious. Californians would be well-advised to investigate the unprecedented emergence and elimination of this entire asset class at CalPERS, in my opinion. The wreckage was clearly foreseeable and, indeed, foreseen by experts not party to the hedge fund daisy chain. Placement agents, investment consultants, fund managers, lawyers and others who played a role, should be held accountable. It seems many of the culprits are involved in similar scheming at other public pensions.
In my opinion, the hedge fund “complexities” that are troubling to public pensions at this time relate to potential illegalities, including pay-to-play, bogus fees and insiders being granted “licenses to steal” state workers’ retirement savings. These abuses are well-documented in my investigations into the Rhode Island and North Carolina state pensions, which were both filed as whistleblower complaints with the Securities
and Exchange Commission by state workers.
There is reason to believe regulators are on the verge of catching industry abuses that have grown ever-more egregious in the past decade.
For public pension stakeholders, now is the time to get out of hedge funds. Hopefully, workers will find the money is still there.
