Pensions Shun Hedge Funds

Terry Flanagan

Hedge funds have always promised pensions higher returns, and diversification, but do current volatile times warrant their high fees.?

Hedge funds suffered in the fourth quarter of 2011—losing almost 6% industry-wide during that time period, according to Hedge Fund Research. Comparatively only trailing the third and fourth quarters of 2008 and the third quarter of 1998—a sour and extremely volatile year for hedge funds, respectively.

Even as performance has waived, fees, for the most part, have not. The industry standard still remains “two and twenty”—a flat charge of 2% of total asset value, paired with a 20% of any profits earned. Though, the financial crisis of 2008-2009 stabilized fees across the industry.

According to The Wall Street Journal, the fees associated with alternative investment vehicles has just become too much to bear for the South Carolina public pension plan. The plan’s state treasurer, Curtis Loftis told the Journal that he is “fed up with years of high fees on the state’s hedge fund, private equity and real estate investments, and their complex terms, which are incomprehensible to the average taxpayer.”

Loftis hones in on a valid point given that industry-wide, 80% of U.S. pensions are reportedly underfunded. Still, recent market trends have shown that pensions have been more open to directly allocating to hedge funds, with allocations increasing to 10 to 15% within the next decade, according to data compiled by Agecroft Partners.

Perhaps, the key for pensions to get the most bang for their buck is to pick and chose strategies that have lower fees, but still yield high results.

“Across the portfolio of Illinois State Board of Investment (ISBI), we are cognizant of fees, particularly in the pricier assets, such as hedged equity,” noted Bill Atwood, executive director of the state public plan. “That being said, while hedged equity is clearly priced higher than conventional, long only assets, the pricing is more manageable than that of other hedge strategies, such as global macro, or other alternatives, such as private equity.”

And for the ISBI, net of fees, “our hedged equity portfolio has consistently met or beat the Board’s expectations,” Atwood told Markets Media and feels fees are a part of working with all kinds of investment professionals.

“We are actively aware of the fees charged by hedged equity providers, just as we are for all retained investment professionals. The response is to do our best to actively manage and mitigate those costs,” Atwood said. The ISBI has “no plans to change their asset allocation to hedge funds in 2012,”—currently at roughly at a target of 10%.

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