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GFOA of NJ Day at the Races

News & Press: Pension

Unions: N.J. worker pensions shouldn't rely so much on hedge funds

Wednesday, May 25, 2016   (0 Comments)
Share | 05/25/16

Public pension funds have become a cash cow for Wall Street, as states search for ways to maximize returns and deal with continued underfunding from employers. Unfortunately, under Gov. Chris Christie, the portion of New Jersey's pension fund invested in high-cost hedge funds has led to skyrocketing fees with less-than-impressive returns. Over the past two years alone, $1.3 billion was forked over to outside investment managers, paid from the pension fund and from investment returns. In terms of a return-on-investment, pension members have been better served by the steady hands of Division of Investment (DOI) state workers — at a lower cost and closer alignment of interest — than by outside managers.

The best-performing sector of our portfolio in recent years has been managed by staff at the DOI, not by outside hedge fund firms. This tiny staff manages about 65 percent of the fund with better returns than hedge fund managers, and cost only a fraction of what we are paying in fees. The most recent Annual Report cites $11 million for operating expenses, compensation, overhead and equipment for the entire DOI. By contrast, we paid an enormous $701 million in fees to alternatives managers. New Jersey is an outlier as we have 35 percent of our pension fund invested in alternatives, including over 12 percent allocated to hedge funds alone. Nationally, public pension funds invest an average of 25 percent in alternatives, so we are 10 percent — that's $7 billion of our fund — more invested in alternatives than other public funds. And the fees we pay reflect that.

All the while, investors, pension fund managers and investment advisers have voiced increasing skepticism about hedge funds. Other states are rightfully evaluating their hedge fund and alternative commitments — exhibiting less, not more, commitment to risky, expensive investments. California and New York both announced divestment from hedge funds. Bloomberg News recently reported hedge fund firms bracing for redemptions as investors have suffered lower returns. Due to their fees, hedge funds have to consistently outperform traditional investments by several percent just to keep pace. Over the long term, this is a built-in drawback for anyone betting hedge funds will yield better returns than traditional investments without these fees. In fact, the S&P 500 has outperformed typical hedge funds, especially those with additional performance fees. Warren Buffett has criticized the 2 percent management plus 20 percent incentive fee structure of hedge funds and said he wants his assets to be invested in simple, passive indexes after he passes away. That speaks volumes.

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