Much has been made of California Public Employees’ Retirement System’s (CalPERS) decision to redeem some $4 billion of its assets from hedge fund investments. However, less is made of the fact that CalPERS manages some $300 billion in funds. This means that CalPERS had slightly more than 1% of its assets under management invested in hedge funds, so the real question is … why did they bother?
Perception is Everything
Is the redemption of $4 billion in a $3.1 trillion hedge fund industry truly that consequential? After all, hedge funds attracted more than three times that amount in new money just in the month of August. Massachusetts has $5.6 billion invested in hedge funds, a much larger investment than CalPERS. Yet California has attracted all the press because of its decision to pull out.
While the CalPERS’ redemption will be largely without consequence to any hedge fund’s bottom line, the perception that hedge funds are in any way failing their clients, could have serious consequences. This perception, however false it may ultimately prove to be, is why hedge funds need to be concerned about the CalPERS decision. To quote the Chief Investment Officer of CalSTRS (California State Teacher’s Retirement System, Christopher Ailman, “that industry definitely has a perception problem” Worth noting – CalSTRS has no current plans to redeem its hedge fund investments.
The CalPERS determination has attracted attention because it was among the first pension fund to test the hedge fund waters and like many other California icons, it has a disproportionate influence among its peers.
Hedge Funds Need to Respond
CalPERS’ prominence as a pioneer in hedge fund investment places it in a unique position to undermine the hedge fund industry’s preeminent role among institutional investors. No doubt, this is the principal driver for those hedge fund managers who have, albeit anonymously, spoken out.
There have been two primary rebuttals. The first purports that CalPERS chose the wrong hedge funds. Therefore, the redemption reflects on the selected hedge funds rather than the industry as a whole. While this argument makes a good sound bite, it falls short of the quantitative argument necessary to keep other institutional investors in the fold.
The second argument, marginally compelling, defines the thirty or so hedge funds employed by CalPERS as poor performers and, by extension, poor choices. The unnamed source forthrightly acknowledged that CalPERS was underserved relative to equity market returns. This source goes on to suggest that hedge funds may need to bring fee structures in line with results.
A Third View
Hedge funds, by definition, are designed to function as preservers of wealth, while taking full advantage of investment opportunities that do not subvert that objective. The hedge fund industry would be better served by emphasizing the tremendous success it has enjoyed in this traditional role.
Hedge funds cannot, nor should they attempt to, be all things to all clients. Concerns regarding fee structure, complexity, and scalability need to be addressed with potential clients up front. Net performance is, and will continue to be, the best measure of hedge fund success.