High-performing alternative investments are great if you can find them, but pension plans shouldn’t count on it.
The Pew Charitable Trusts recently published its latest report on the investment practices and performance of the 73 largest state public pension funds as of the 2016 fiscal year. The big development is that pension funds are moving their money from stocks to alternatives such as private assets and hedge funds. The average allocation to alternatives more than doubled to 26 percent in 2016 from 11 percent a decade earlier, with a roughly equal percentage leaving stocks.
In an accompanying blog post, Pew warned that the move to alternatives would result in more volatility and higher fees for pension funds. Writing for Bloomberg Opinion, investor Aaron Brown took the opposite view last week, arguing that alternatives dampen volatility and boost performance, even after accounting for fees.
Neither view is entirely right. And with an estimated $1 trillion in state and local public pension funds invested in alternatives, and the retirement of 19 million current and former state and local employees at stake, decision makers rushing into alternatives should be clear about what they’re buying.
If you want to know where cryptocurrencies are in their development, keep an eye on fees.
When a new “investment” comes along, investors are often too busy counting their anticipated bounty to care about cost. Shrewd purveyors predictably seize the opportunity to charge excessive fees. But reality inevitably falls short of investors’ expectations, and the focus eventually turns to how much they’re paying to invest.
That’s a short history of stock investing. Investors had little access to stock market data a century ago. They didn’t have the luxury of knowing, for example, that the S&P 500 Index would generate a real return of 7.1 percent annually from 1926 to 2017, including dividends. Or that the index’s real return would fall short of that long-term average 52 percent of the time over rolling 10-year periods.
Investors can’t get enough of private equity. According to research firm Preqin, private equity firms’ assets under management ballooned from $580 billion in 2000 to $2.4 trillion by June 2015 (the latest date for which numbers are available).
Private equity investing has become de rigueur for big money managers ever since The Yale Endowment made piles of money in the funds years ago — making private equity a fixture for money managers trying to emulate Yale’s model.
Current expectations for low returns on U.S. stocks and bonds, at a time when many hedge funds are stumbling, has also left many investors seeking private equity returns to breathe life into their portfolios.