Three board members dissent from CalPERS’s move to direct PE investment

California Public Employees’ Retirement System has a tentative green light to proceed on its long-simmering move toward an in-house private equity program, but at a meeting Monday, three board members put their objections to the plan on the record.

CalPERS’s investment committee voted 10-3 to express “support for the concept” of creating two private equity vehicles that would focus on late-stage venture investments and long-hold investments. CalPERS would be the sole limited partner in the funds, which would be run by external managers, who have not yet been chosen.

The early vote was necessary to give potential managers of the new funds confidence that the system was serious about the plan, CalPERS staff said. This would also allow staff to begin negotiations that would flesh out the details of how the new funds would actually operate.

The investment committee approval comes with caveats, such as directing CalPERS staff not to invest in the new funds without getting permission from the board. But those limits didn’t go far enough for three board members who voted against it.

Opposing the plan were California Controller Betty Yee and board members Margaret Brown and Jason Perez.

Yee said she was concerned about the new funds’ ability to meaningfully increase CalPERS’s investment returns. This was based on her skepticism about late-stage venture’s ability to consistently beat the market and CalPERS’s admission that the long-hold fund may not lower fees in the short run or outperform the markets in the long run.

Yee also questioned why CalPERS’s PE consultant, Meketa, was not more involved in vetting the direct-investing concept. “Part of my discomfort around this as you’re exploring, we haven’t been able to get more independent opinions along the way,” Yee said.

Brown wanted to make sure investment staff would not use the current approval to begin making new commitments to the pools, even though staff has authority to make commitments under $2 billion without board approval. Investment Director John Cole said staff was committed to being transparent with the board.

Brown also pressed CalPERS CIO Ben Meng to name the experts who had developed the PE strategy. Meng said they were himself, the PE team, real-assets head Paul Mouchakkaa and external experts including Silicon Valley lawyer Larry Sonsini and firms like KKR, Blackstone and Hamilton Lane.

Perez, who joined the CalPERS board in January, said he had trouble using a committee vote to signal approval at a conceptual stage.

The vote did not mean any money was going to flow, Meng stressed. “This item does not constitute a change to our statement of the investment policy, nor does it establish any exception to that policy,” Meng said. “No contracts will be signed, no commitment made, should you approve the concept as recommended by the staff.”

In the “second phase” of the PE project, CalPERS expects to identify potential partners, clarify the governance structure and budget of the new funds and assess ways to mitigate risks, Meng said.

Board members Fiona Ma and David Miller also had concerns about the plan, but they ultimately voted for the proposal.

Miller said that he needed to see more details to get comfortable with the structure of the funds, but that those details would not be available until CalPERS gets further into negotiations with potential partners.

Ma said she was uneasy with allowing CalPERS to spend money exploring the concept without clear reporting. And at her request, the committee directed CalPERS staff to track and report what it spends on the project.

Members of the public and CalPERS constituents also voiced opposition to the plan, although many supported it as well.

Al Darby, of Retired Public Employees’ Association, questioned why CalPERS thought it could recruit top talent to lead the new PE funds when its own top PE job has been vacant for nearly two years. He asked that the fund pause the proposal until a permanent PE head was in place to oversee it.

Action Item: Check out the materials from CalPERS’s latest investment committee meeting here: https://bit.ly/2JmKa2x