Friday, September 8, 2017

CalPERS To Outsource PE to BlackRock?

Melissa Mittelman, Sabrina Willmer, and John Gittelsohn of Bloomberg report, BlackRock Is in Talks for Calpers's Buyout Business:
The largest U.S. pension fund is talking to BlackRock Inc. about outsourcing its private equity business as it seeks to control fees and offset anemic returns, people familiar with the matter said.

The California Public Employees’ Retirement System is in discussions with New York-based BlackRock about managing some or all of its $26.2 billion in private equity investments, said the people, who asked not to be identified because the conversations were private. The discussions are preliminary, they said.

Calpers spokesman John Osborn and Brian Beades, a spokesman for BlackRock, declined to comment.

Calpers is reckoning with criticism over its private equity investing and how it discloses and accounts for fees. The pension giant convened a panel of executives, including Carlyle Group LP’s Sandra Horbach and BlackRock’s Mark Wiseman, to discuss possible models during a board meeting in July. Calpers leadership raised questions about challenges of bringing direct-investing capabilities in-house, contracting with outside managers or creating an independent entity with appropriate oversight.

Target Cut

Calpers, which manages about $333 billion on behalf of police officers, firefighters and other current and retired government employees, is trying to improve its investment performance and reduce fees amid low returns across many asset classes. In December, Calpers voted to cut its long-term return target from 7.5 percent a year to 7 percent, a move that will require larger contributions from workers and taxpayers.

The mandate would be a big win for BlackRock, which is best known for offering lower-fee passive products, such as iShares exchange-traded funds. The world’s largest money manager, which oversees $5.7 trillion in assets, has been trying to expand its more lucrative alternatives business to increase fee revenue and meet client demand for investments that aren’t closely correlated to the stock and bond markets.

BlackRock’s $128 billion alternatives business includes private equity, real estate, infrastructure and hedge funds. The firm hired Wiseman last September as chairman of the unit and global head of active equities. He previously led the Canada Pension Plan Investment Board and directed the private equity efforts at Ontario Teachers’ Pension Plan Board.

Real Desrochers, the head of Calpers’s private equity division, quit in April. The fund hasn’t announced plans to replace him.
Trevor Hunnicutt of Reuters also reports, CalPERS in talks with BlackRock to outsource private equity business:
The California Public Employees’ Retirement System (CalPERS) is in talks to outsource its private equity business to BlackRock Inc (BLK), according to a person familiar with the matter.

The largest U.S. pension fund’s discussions with BlackRock about managing some or all of its private equity investments are at a preliminary stage and may not result in a deal, the person added.

Private equity has been CalPERS’ best-performing asset class in the past two decades and accounts for about $26 billion of its portfolio.

But CalPERS, under increasing pressure to achieve higher returns, has been criticized for accepting the high fees and limited disclosures typically associated with the asset class.

The fund said in July it was considering making direct investments in private companies, a potential shift in strategy to improve returns on their investments, in part by cutting fees.

“No decisions have been made. We are still looking at models to bring back to the board,” a spokeswoman for CalPERS said on Thursday.

BlackRock declined to comment.

Bloomberg reported CalPERS’s discussions with New York-based BlackRock earlier on Thursday.
Well, well, well, isn't this interesting? Réal Desrochers is probably fuming but if this deal goes through, Mark Wiseman and Larry Fink will be ecstatic because it will open up a whole new and much more lucrative business for the world's largest asset manager.

To be fair to Réal, he inherited a pile of crap, a private equity monster which was everybody's sugar daddy. Venture cap, buyout, mezzanine, secondary and diversity funds, you name it, CalPERS invested in it. I think at its peak there were thousands of legacy funds in CalPERS' private equity portfolio, it was literally a giant PE index.

And in private equity, you don't want to be a giant benchmark, you need to find and develop relationships with the best funds and make sure you're significantly outperforming median returns or else the fees and returns aren't worth it over the long run.

Réal knew all this, attempted to streamline the portfolio, get rid of under-performers and concentrate the mandates in the hands of a few top performing private equity funds.

But the reality was he and his team couldn't do much, they didn't manage to turn that portfolio around and the returns were paltry lately, significantly under-performing the PE programs of some other large US pension funds and definitely under-performing the private equity programs at large Canadian pensions.

To add insult to injury, the fees and hidden fees paid out to CalPERS private equity funds for paltry gains were shocking to say the least, and left them exposed to a daily barrage of criticism from all over the place like Yves Smith's naked capitalism blog.

Some of this criticism was warranted but most of it wasn't, it was just Yves blowing smoke, trying to look very knowledgeable by citing academics who think they understand private equity but don't really know what they're talking about.

It's important to note that over the last ten and twenty years, private equity was and remains CalPERS most important asset class. Yes, there were problems but if you read Yves' comments, you'd think that CalPERS and other large pensions are better off not investing in private equity.

She's clueless and relentless in her criticism. Even today, she posted a very nasty comment on how CalPERS goes for secrecy, exploring paying additional layer of private equity fees by outsourcing to BlackRock.

Excusez moi, Yves? You obviously have no idea of what you're talking about, none whatsoever, but like a blogger who seizes every news item to sensationalize and distort reality, you jumped on this Bloomberg article to vindicate all the nonsense you've been posting on CalPERS' PE program.

The problem is naked capitalism and Zero Hedge are far more popular financial blogs than Pension Pulse will ever be. Kudos to them, they initially helped me and I was thankful but quickly realized I wanted to be completely independent from them for all sorts of reasons.

Sometimes they post good stuff, I glimpse at it quickly and even tweet items I like or want to remember. But often times they post such nonsense, I feel like asking them: "Aren't you embarrassed to post this  nonsense?!?"

Let me explain why I believe CalPERS and other large US pensions need to outsource their PE program or consider shutting it down altogether if they can't.

One word: Governance. US public pensions lack the proper governance to hire a team of highly qualified people to manage absolute returns strategies internally across public and private markets.

This leaves them at a huge disadvantage to Canada's large pensions which have the proper governance that allows them to operate at arm's length from the government, set a highly competitive compensation package to attract and retain highly qualified individuals to manage absolute returns strategies internally across public and private markets.

In private equity, Canada's large pensions absolutely invest in top funds, paying the same fees their US counterparts do. The big difference, however, is they have the right teams in place to quickly jump on co-investment opportunities as they arise, lowering overall fees significantly, and they are increasingly able to source purely direct deals or bid on companies in their portfolios once a private equity fund unwinds a fund.

This is a HUGE advantage over large US public pensions. In infrastructure, for example, Canada's large funds go direct and have become the world's most powerful infrastructure investors.

Now, Mark Wiseman who left CPPIB to join BlackRock a little over a year ago knows all this. He can write a textbook on what I'm writing about here. Before joining CPPIB, he was the head of fund investments and co-investments at Ontario Teachers' Pension Plan, reporting to Jim Leech.

He took that knowledge and experience, went over to CPPIB to do the exact same thing. There's nothing magical or earth-shattering here, a proper and well functioning private equity program needs to develop great relationships with funds all over the world and to do this properly, it needs to have the right team in place to quickly analyze co-investment opportunities and jump on them to lower overall fees (they pay little or no fees on co-investments after investing a significant amount in private equity funds where they pay the same fees as everyone else).

When Mark Wiseman joined BlackRock, he knew what he was doing. They initially placed him to clean up the quantitative hedge fund group but this business is peanuts compared to what he should be doing, developing relationships with large pension and sovereign wealth funds in desperate need to revamp their private equity program.

And they went after CalPERS first. Why CalPERS? Simple, because of its well-publicized problems in private equity and because if BackRock succeeds in getting this mandate, it opens the door to other very large mandates from many other US and global public pensions looking to revamp their private equity program by cutting fees through co-investments and boosting returns.

Will BlackRock charge an additional fee for its services? Of course, it will. It needs to clean up that portfolio which is no easy feat and hire people to invest and co-invest with the top funds to reduce overall fees in CalPERS' private equity portfolio.

Larry Fink isn't running a charity, he's running the world's largest asset manager. He's no fool, he knew exactly what he was doing hiring Mark Wiseman, this is all part of their long-term strategy to become the world's largest asset manager not only in public markets but in private markets where the fees are much juicier.

If this deal goes through, it's a definite win for BlackRock but don't kid yourselves, it's a definite win for CalPERS and its beneficiaries too because they will finally be able to revamp their PE program properly since they don't have the governance to do this internally and never will.

Moreover, Ted Eliopoulos, CalPERS' CIO, will have a trusted partner in Mark Wiseman who will more than likely appear at these public board meetings, get grilled, but answer a lot of important questions and demystify once and for all a lot of the myths about private equity as an asset class.

Some idiots will look at this deal and criticize Mark Wiseman as being nothing more than an opportunist looking to capitalize on his knowledge, experience, and relationships. To those of you thinking this way, I have one question: If Larry Fink approached you with a vision to develop BlackRock's private equity business, helping pensions revamp their PE portfolio, would you pass up at the opportunity? Answer that question and then criticize Mark Wiseman for leaving CPPIB to join BlackRock.

Again, Larry Fink is no idiot. He knows all about the ongoing pension and retirement crisis, and he went after Mark Wiseman (or maybe the other way around) knowing there is serious money to be made managing the private equity programs at large US public pensions.

But Larry Fink and Mark Wiseman also know they can't screw this up, it's a highly competitive space and they need to succeed in revamping CalPERS' private equity portfolio in order to use this experience to gain the trust of other large US public pensions looking to outsource their PE program.

On that note, I kindly remind all my readers that there is a lot of thought and reflection that goes into my comments. I know it doesn't seem that way, but I work hard to bring you some very insightful and thought-provoking comments you would never read anywhere else.

There is a value to what I'm providing you but after eight years, I still haven't figured out a way to properly monetize it. If you have any thoughts on how you can help me with this issue, I'd appreciate your feedback (LKolivakis@gmail.com).

Let me thank those of you who have supported my blog and continue to do so through your donations and subscriptions. I truly appreciate it and ask those of you who haven't done so to please go to the right-hand side (view web version on your cell) under my picture to donate or subscribe via Paypal.

One last comment, last night, Ron Mock, OTPP's President and CEO was kind enough to share this with me on their mid-year 2017 results: "Yes they are here to stay. We now have a commercial paper program. Market needs more frequent updates as other plans do. So it is something we will be doing as an ongoing semi annual process. Mid year and year end."

I thank Ron for clarifying this, and for giving me more to cover throughout the year. -:)

Below, while the next CalPERS board meeting is on September 18-20, take the time to watch all fours parts of the August Investment Committee board meetings which can be found here.

I noted an interesting discussion which takes place at 1:30 of Part 1 with JJ asking Ted a few good questions on why CalpERS under-peformed CalSTRS this year in many asset classes, including private equity (answer: CalSTRS' PE portfolio is more concentrated in better funds; Réal Desrochers was in charge of that program and subsequently joined CalPERS).

I definitely think CalPERS should outsource its private equity program to BlackRock. I also believe other large US pensions should scrutinize this deal closely and contemplate doing the same thing. It's in their best interest to outsource their PE program and more importantly, they need to keep in mind it's in the best interest of their pension plan's beneficiaries over the long run.

Update: JJ Jelincic, a board member of CalPERS, sent me an email stating this:
"CalPERS has the authority to pay the salaries it needs to in order to get the skill set it needs. See CA Government Code 20098. It may not have the stomach for it but that is another issue."
JJ also added this: 
"Salary resistance is from the governor's office in part due to impact on other state salaries. It also comes from the unions.The governor's objection is not about holding down contributions.

CalHR has a matrix of about 6000 classifications. If you move one then you get a big push back from other classification that are at the same level or have a existing relationship. If my class makes 70% of what a portfolio manager makes I want to stay there. If you double the PM wage I want mine doubled to keep my 70% relationship.

It was Department of Personnel Administration's historical unwillingness to deal with the investment officer salaries that lead CalPERS to push for GC 20098. Part of the push to limit raises is coming from the unions. If they can only get a 3% raise they will push back on a 70% raise for management."
If this is indeed true, and I have no reason to believe otherwise, the issue then is why doesn't CalPERS have the stomach to do this? It comes back to my observation on lack of proper governance where the organization can't operate at arm's length from the state government, nominating a qualified and independent board and setting a competitive compensation package to attract and retain highly qualified investment professionals to manage public and private assets internally.




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