San Francisco Needs to Commit $2.8 Billion to Private Markets

The pension system will need to make major new investments in 2019 to keep its large private markets portfolio intact. In the case of private credit, the investments will also help build the asset class.

The San Francisco Employees’ Retirement System (SFERS) will need to commit $2.8 billion to private market investments in 2019 to maintain its large allocations to private equity and real assets, and to build its small private credit portfolio into a much larger asset class, shows a report from one of the system’s private market consultants.

The April 10 report by Torrey Cove Capital Partners estimates that a $1 billion commitment is needed by the $25.1 billion retirement plan in 2019 to maintain its 18% target allocation to private equity and another $1 billion should be committed to real assets, including to real estate, to meet the system’s 17% target allocation to the asset class.

Torrey Cove Capital Partners said an $800 million target will also be required in 2019 to build the system’s private credit asset class to its 10% target. The private credit portfolio now stands at just 2.5% of plan assets, with $628 million invested into the asset class.

In contrast, the $4.9 billion private equity portfolio makes up 19.6% of plan assets and is overweight the 18% target allocation.

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Real assets, meanwhile, makes up 16.3% of the portfolio at $4.096 billion, under the 17% target allocation.

Combined, the private markets portfolio of SFERS makes up almost 40% of its total assets under management, one of the largest private market concentrations for a pension plan of its size.

Because of funds that are expiring and making cash distributions to the pension plan, the Torrey Pines pacing report shows that commitments to private equity will need to increase incrementally in subsequent years past 2019 for the system to maintain its 18% target asset allocation.

The report says that private equity contributions will need to reach $1.3 million by 2025. Real Asset contributions will also need to reach $1.3 billion by 2025 for the pension system to reach and maintain its 17% allocation to the asset class, the report says.

Pension plan contributions for private credit will also need to increase gradually, reaching $950 million by 2025 for the pension system to build the asset class to a 10% allocation, the report said.

SFERS Chief Investment Officer William Coaker Jr. has said that reductions in corporate lending by banks in both the US and Europe following the financial crisis has helped fuel the private credit asset class.

The asset class can pay returns in excess of 6%, an attractive proposition for many pensions plans, who have been stung by low fixed income rates. There is a potential downtown: A meltdown in the economy could mean bankruptcy risk for some private companies that are the subject of the loans made by institutional investors.

Competition among institutional investors to find the best private market investments has also meant a slow build-out of the asset class for San Francisco and other pension systems.

The San Francisco system has had better luck in building its private equity and real assets portfolios.

The rest of the San Francisco system’s asset allocation are: hedge funds, which make up $3.2 billion or 12.7% of the pension’s assets, public equities ($8.6 billion, 34.2%), and fixed income (11.6%, $2.9 billion). Cash makes up 3% of the system’s assets for a total of $755,562.

Coaker has attributed the system’s 4.24% return for the first nine months of the 2018-2019 fiscal year ending March 31 to the high percentage of assets devoted to private market investments.

While the return is under the pension system’s assumed 7.4% rate of return, relatively it is above the returns of many other public pension plans, whose larger equity allocations have made for rough going due to market volatility.

At the retirement system’s board meeting on April 10, Coaker announced some of the first progress to new private equity commitments in 2019. He said that two private equity investments were approved by the board meeting in closed session in February.

He said at the system’s meeting on February 13, an investment of up to $50 million was committed to C-Bridge HealthCare fund IV, a buyout fund managed by C-Bridge Capital Investment Management.

At the same February meeting, he said, an investment of up to $25 million was approved by the board in closed session to venture capital fund Versant Vantage I. The firm running the fund, Versant Ventures, has a staff of approximately 100 scientists who validate academic discoveries as potential foundations for new companies.

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