Ohio SERS reduces hedge funds

This year the $12 billion Ohio School Employees Retirement System is prioritising projects that fulfil the board’s desire to find income from alternative sources and manage risk, including allocating more to real assets, and initiating an RFP on a risk management system. Farouki Majeed speaks to Amanda White about the fund’s investment program.

With a fund the size of Ohio School Employees Retirement System (SERS), director of investments Farouki Majeed is enjoying the ability to be more nimble and opportunistic in the investment approach.

Previous to this role he spent five years at CalPERS as senior investment officer of asset allocation and risk management. While clearly there are many benefits to working at a fund like CalPERS, at 20 times the portfolio size of Ohio SERS it also has limitations. A $12 billion portfolio, fully outsourced, is a different beast to tame.

Ohio SERS completed its asset liability study last year, and this year will implement the minor tweaks to the strategic asset allocation, which include reducing the hedge fund allocation from 15 to 10 per cent, and increasing real assets from 10 to 15 per cent.

“We have had a shift to tangible/income related returns because of low interest rates and our need to look for income from other sources,” Majeed says. “We are looking at not just total returns but from income and growth and other sources.”

The real assets bucket, which was previously only a real estate portfolio, also includes infrastructure and REITs, with the fund also considering timber investments.

While the hedge fund program has been reduced, the fund is still committed to using hedge funds, and sees the recent move as more of management of the program, which has grown quickly since its introduction in 2009.

Majeed says the hedge fund portfolio, which is all direct, is also morphing from a 50:50 equities and fixed income substitute, to a more diversified exposure.

“We are making it more diversified across hedge fund exposures and reducing our equity beta. This means we are looking at event driven, relative value, and global macro strategies.”

In addition to the strategic asset allocation review every three years, in the past year the fund introduced an annual review of investments and capital market expectations so it can make tweaks to exposures along the way.

“This is a new thing to be more dynamic, but it doesn’t mean it will always result in change,” Majeed says.

For example allocating to inflation-sensitive assets has been a consideration for the fund, and at the annual investment review last week, it was decided an allocation shoud remain on watch.

“We have been questionoing the role in our asset allocation of the exposure to inflation-sensitive assets. Last year we said it was not the time to allocate, because of outlook for inflation and disinflationary trends. Last week we reviewed that again and decided we would not allocation to inflation-sensitive assets,” he says. “These are the types of things we look at it in an annual review.”

The fund is also looking at the feasibility of allocating up to 5 per cent on opportunistic investments.

“We already have about a 1.5 per cent allocation to a variety of opportunistic investments, which are organised with a special purpose to take advantage of certain anomalies, such as the concept of bank deleveraging in Europe.”

Ohio SERS already has two different funds targeting European banking debt, and Majeed says the 700-odd US banks on the FIDC’s official list of problem banks are also a target.

“They are under capitalised and had to write off assets, this is an opportunity for us to act as a capital provider,” he says.

With a strategic allocation to fixed income of 19 per cent, and an actual allocation closer to 15 per cent, Ohio SERS has a lower than average allocation to the fixed income.

While opportunistic allocations and hedge funds are a fill in for fixed income, the allocation is still underweight, and overweight equities.

Within the equities allocation, US and European equities are overweight and there is a slight underweighting to emerging markets. The overall allocation to equities is 45 per cent, with a further 10 per cent in private equity, and is split roughly 50:50 US and non US.

While the overweight position in equities is quite deliberate, Majeed says it is only a single grade, and the fund is discussing with the strategy team the option of a tactical asset allocation overlay.

“Underweight fixed income and overweight equities is a single trade, when it goes wrong it can go badly, so we need more breadth with our tactical positioning. We are looking to possibly partner on an overlay, purely derivatives and based on valuation, we are interested in style premia as well.”

Ohio SERS is looking at more optimal ways to manage its allocations, and understanding its exposures in risk terms, and is in “RFP mode” for a risk platform.

“We want to more optimally manage allocations. An internal risk system gives you some additional insights and metrics into positions, understanding exposures in risk terms and allocating accordingly.”

The board, which had an offsite last week, is also finalising its investment beliefs. While the fund has not yet adopted those yet, Majeed says beliefs around active management, risk premia, long-term holdings, and sustainability are being considered.