CalPERS' Hedge Fund Gambit and a Changing Tech Mindset

High fees, too much complexity, putrid relative performance—CalPERS, the influential public employee pension plan in California, this week ticked all the standard complaint boxes that many institutional investors have voiced in recent years about their hedge fund managers. Few, though, have made so public a stand about it as the $300 billion mandate did, surprising many.

In part, CalPERS is bucking the trend. Despite investors' recent misgivings, growth in hedge fund allocations has mostly continued steady and unabated, even while investors have become far more picky in the process. That's raised awareness about operational and technological due diligence even at the smallest of shops, which I've written about in October's issue of Waters.

According to a recent study by buy-side provider eVestment, fund investments have grown on an average of 1.6 percent in 2014, and in-flows were positive each month of this year. This was especially the case for event-driven equity strategies and activist funds, which have pulled in the lion's share of new assets as institutions flee from traditional equities.

More Tech Saavy
But just the same, the recent tech story at public investors—particularly in Canada, but increasingly in the United States, too—presages this kind of news.

As I wrote in a feature for Waters last summer, these organizations' technology has historically dragged well behind its buy-side partners and sell-side intermediaries, in part because there wasn't a ton of need for it. Also, many tend to be very operationally cost-constrained due to their public nature.

What I found then is that this is quickly changing, especially among the larger mandates and endowments. In fact, a critical mass of significant tech refresh projects—from bolt-on valuation analytics tools to sweeping investment book of record (IBOR) platforms—are making these investors more interesting targets for third-party providers than ever.

So, how are they justifying these projects? Well, political calls for transparency and having better accounting information are definitely involved. Some of their systems are ancient, and that's being generous. But the sexier driver is that many of these organizations are pondering greater co- and direct investment, and bringing in more in-house investment and portfolio management talent than they once had, instead of relying exclusively upon private equity mainstays and, indeed to the CalPERS point, external hedge funds. The mix is changing, and CalPERS might just be way out in front.

Now, this doesn't always work perfectly; for example, Harvard's endowment jumped right in on developing a handful its own fund management groups, which reportedly hasn't gone quite according to plan so far. And some in the industry have vocally wondered whether CalPERS' recent stand has less to do with dismay about the innate qualities of the hedge fund model, and more to do with the specific hedge funds' performance it's been working with.

More Coming?
No matter, to make a move like this indicates a certain belief from CalPERS' that its alternatives are better. Clearly, whatever those alternatives are, Sacramento also believes it has the personnel and technical wherewithal to pursue them. And examples abound from Calgary and Toronto to Austin, Texas suggesting CalPERS aren't the only ones giving this some serious thought—even if they see no need to completely abandon their alternatives managers just yet.

It could be my background in political science or obsession with locality, but the subject continues to pique my interest, and anyone working with public investors these days to strengthen their technology, I would love to hear from on 646.490.3968 or at timothy.murray@incisivemedia.com.