The Alaska Permanent Fund will contain fewer individual investment portfolios and more index funds, after its stock portfolio was restructured Tuesday to begin implementing a cutting-edge new investment strategy that was first adopted last summer.
Among the changes will be firing a dozen or more money management firms, so the fund can focus on its top prospects, managers told the Alaska Permanent Fund Corporation's Board of Trustees while meeting at its Juneau headquarters.
"We're almost cutting in half the number of unique firms," said Maria Tsu, the permanent fund equities manager.
Equities, or stocks, make up about $18.8 billion of the $34.4 billion permanent fund.
Permanent fund Chief Investment Officer Jeff Scott told the trustees the changes would implement the new risk-based management style it adopted last year.
"We adopted a new risk benchmark that was active July 1," he said.
The move quickly became controversial, and took top state legislators by surprise. They said they should have been told in advance that the permanent fund was abandoning its traditional stock and bond allocation formulas.
"This is how we are going to do it; after months of work, now we are going to implement it," Scott said.
One of the biggest changes will come from the elimination of the Small Cap Management Pool, in which 15 separate managers were given small portions of the permanent fund to invest in small capitalization stocks, those with relatively small total market values.
Tsu told the board that now only four investment management companies would be handling the same amount of money.
"Each of those managers would be managing a much larger portfolio," she said. "Instead of a $45 million portfolio, it would be a $200 million portfolio."
Board Chairman Steve Frank asked if the small cap pool the permanent fund had been using was not working they way it had been expected to work.
Tsu replied that it had kept up with the benchmark against which it was measured, but had done so at the cost of high fees that made it less profitable for the permanent fund.
"We are essentially recommending that we dissolve the small cap pool," Tsu said.
Some of the existing managers would be retained, she said. The five-year small cap pool experiment has provided permanent fund staff with an in-depth look at 15 individual managers from which to choose, which Tsu called a "silver lining."
"After five years of observation, we're comfortable with floating a few to the top that we'd like to keep," Tsu said.
Part of the reason for the broader changes to the permanent fund's management was an effort to have fewer relationships with investment management firms. The permanent fund has only two people managing its entire equity portfolio.
In the past few years, the Legislature and the governor's office have rejected requests by the permanent fund to hire additional staff.
Permanent fund Executive Director Mike Burns said that the decision to go with fewer individual managers with larger portfolios was not driven by staff limitations but was the best way to manage the portfolio.
"The performance numbers are not bad," said Michael O'Leary, the permanent fund's outside investment advisor with Callan Associates. But they took too much staff to manage relatively small amounts of money, he added.
"With what limited resources we have, how can they best be utilized?" he said.
Tsu said that a single small cap management firm, which managed only a fraction of a percent of the permanent fund, changed hands three times in the past year. Each time, permanent fund managers had to review whether to keep the firm, taking time away from much more important portfolios.
At the same time, the board also approved shifts in the permanent fund's total stock portfolio away from active management to passive, or indexed, management.
In active management, the fund's outside portfolio managers pick individual stocks in their assigned sectors that they believe will do better than average. In passive management, managers simply buy all the same stocks that are in the Standard & Poor's 500 or a similar index.
Active management promises, but doesn't always deliver, better returns, but can cost much more in management fees.
A passively managed U.S. large cap stock fund might cost one basis point, or one hundredth of a cent per dollar to manage, while an actively managed fund might cost 22 to 35 basis points. Other portfolios, such as international or small cap stocks, typically cost even more.
Tsu said that currently 62 percent of the stock portfolio is actively managed, but with the board's endorsement of the changes Tuesday, that number will be brought down to 55 percent.
The increased passive investment will be divided among quasi-passive and passive. Quasi-passive has some elements of an index fund, but involves at least some active management.
The changes could take several months to fully implement, Tsu said.
Contact reporter Pat Forgey at email@example.com.
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