Texas Teachers looks to hedge bets in low-returns world

Teacher Retirement System of Texas (TRS) will look to investments in hedge funds to maintain its position as one of the best performing public pension funds in the United States, its chief investment officer Britt Harris told trustees at its recent board meeting.

While the $109 billion fund had achieved strong returns so far this year, Harris warned trustees that they were entering a challenging returns environment, where long-term investors had to be prepared for a bumpy ride in volatile markets.

Harris said that in a volatile investing environment, hedge funds provided a vehicle that gave his pension fund more flexibility.

The fund had recently gained approval to lift the amount it was allowed to invest in hedge funds from 5 per cent to 10 per cent of the total value of its investments.

“If you believe that the risk premium will be there and you are going to get a decent return out of stocks, you can stay in the game long enough and you can stand the short-term volatility then that works fine,” he told trustees.

“But we are entering a part of the market where returns are down and there is more volatility, so we need more flexibility and this is what a good conservative hedge fund does.”

Harris said they were looking at a number of  hedge fund strategies and aimed to have their suite of hedge fund investments up and running by the end of the year.

In 2010 the fund had $4.1 billion invested in a range of hedge fund strategies. This made up 4.1 per cent of its total asset allocation.

In its 2010 annual report, TRS said it had structured its hedge fund strategy to reduce downside equity market risk.

Harris and the investment team were riding high on the back of returns that TRS said made it $15 billion in the year to March 31.

TRS said in its recent quarterly report that this 15.9 per cent yearly return put them in the top 8 per cent of public funds in the US.

The returns were driven primarily by a successful tactical bet which resulted in an overweight position to credit and an underweighting of 5.5 per cent to long treasury bonds for much of last year.

The investments were mainly in dislocated credit.

This resulted in a yearly return that was 150 basis points above the fund’s index.

In the first quarter of the year they also outperformed their index by 30 basis points, making $4.4 billion from their investments and achieving a 4.2 per cent return to March 31.

Harris said that, while other funds had seen the opportunity in credit, many had not achieved the results that TRS did because they did not bet big enough.

“Most people had some money in this trade but most didn’t put anywhere near enough in,” Harris told trustees.

Of the 150 basis points of returns it achieved for the year above its benchmark, TRS said 90 basis points was due to asset allocation and 60 basis points was due to stock selection.

As of March 31 TRS had a risk position that was underweight treasury (-3.8 per cent), private equities (-1 per cent) and TIPS (-1 per cent). It was neutral on hedge funds, cash, REITs and real assets and was overweight credit (+3.2 per cent), public equity (+2.5 per cent) and commodities (+0.8 per cent).