Viewing the world differently: Alaska Permanent Fund’s new asset allocation

The $32 billion Alaska Permanent Fund has taken a unique  approach to asset allocation, re-organising the fund according to how investments respond to economic conditions and their
purpose in the portfolio. Chief executive, Mike Burns spoke to Amanda White about the new approach, which also includes a search for four ‘external CIO’ mandates.

Alaska Permanent Fund pays a dividend to the people of Alaska once a year, typically in July, and that has created an opportunity to rebalance the fund’s portfolio. But the volatility in the market in the past 18 months has meant funding a dividend that can be up to $1 billion in a 30-day period, putting unwanted liquidity and market-timing pressures on the assets.

The board of the fund recently decided to counter this problem with a first-time allocation to cash of 2 per cent. And chief executive, Mike Burns, says with this decision came an overhaul of the way the fund views assets.

Where previously the fund allocated according to traditional asset classes, the new allocation from July is a 53 per cent allocation to company exposures; 21 per cent to special opportunities; 18 per cent to real assets; 6 per cent to interest rates, and the cash allocation.

“We have some asset classes that are subject to capital draws, plus the payment of the dividend, so it made sense to create an allocation to cash to take the risk out of trying to pay the dividend,” he says.

In addition the volatility and the different behaviour of treasury and corporate bonds demonstrated the traditional reasons to hold fixed income in one bucket, as a defence, made little sense.

“The pieces of fixed income have been behaving very differently. Treasury and sovereign debt have been very different to corporate debt which is acting more like the equities of the issuers,” he says.

“We are now grouping assets by economic conditions, what they respond to, and what their purpose is in the
portfolio.”

Company exposures, with a return expectation of inflation plus 600 basis points, includes public and private equity, small caps and emerging markets, corporate debt, high yield debt and bank loans.

The special opportunities bucket which has as much as 21 per cent of the fund allocated, is designed to take advantage of inefficiencies in the market, and invests in assets such as absolute return, distressed debt and commercial backed securities.

This also includes a new allocation to real return mandates, with the fund searching for what has been dubbed ‘external CIO’ mandates.

In conjunction with Callan Associates the fund is looking to hire four managers, each with an allocation of $500 million, in what will essentially be global TAA mandates. The managers will be able to allocate to any assets, in any proportions, in the public assets the fund currently invests in.

Burns says it is likely the fund will hire managers with four different approaches, allowing investment staff to learn from the managers in addition to their mandates adding value.

The fund employs 12 investment staff, including chief investment officer Jeff Scott, who joined the fund last November from global multi-strategy hedge fund, Tahoma Capital. The internal team manages treasury and sovereign debt, as well as conducting strategy and risk functions.

The real assets allocation, which has a return expectation of inflation plus 400 basis points, includes infrastructure, real estate and a new allocation to TIPS, half of which is managed in-house.

Across the fund, the five buckets produce an average return expectation of inflation plus 522 basis points, which is
well within the fund’s long term goal of a 5 per cent real rate of return.

According to Burns this fresh approach to how the fund views asset allocation is recognition that some investments within an asset class may have more in common with other asset types with regard to expected risk and return.

“We have new allocations to cash and TIPS, but apart from that all the mandates and managers are the same, we are just viewing the assets differently,” he says. “It allows us to keep a better holistic grip on risk. How we observe these assets has changed, but what we’re observing hasn’t changed.”

The fund’s dividend calculation is determined by an average of five-year annualised income, which according to Burns is an antiquated formula determined when the fund was only authorised to invest in fixed income.

At the moment the asset allocation decisions are still made by the six-member board, but Burns says there is a consideration the investment charter may change in order to make a “sharper point” in the decision making around special opportunities.

If no “special opportunities” are identified the money will be allocated back to company exposures.

Alaska Permanent Fund

asset allocation by traditional asset classes, 2009  asset allocation by economic conditions, 2009

stocks 38%

company exposure 53%

bonds  special opportunities 21%

real estate 12%

real assets 18%

cash 2%  interest rates 6%

infrastructure 3% cash 2%

absolute return strategies 6%

private equity 6%

other 11%