Texas TRS Looks to Replace Some Public Equity Allocation with Private Credit

The fund’s new CIO Jase Auby describes the portfolio’s new path forward.

The Texas Teachers’ Retirement System (TRS) is moving toward a new strategic asset allocation that aims to transition the portfolio to a more risk-averse stance in a downward market environment.

As part of its new target equity allocation completed in the fall, the fund’s public equity allocation was reduced to 54% from 57%. The potential switch to private credit is propagated by the market, where equities are experiencing relatively high valuations and at potential risk of a downfall, Chief Investment Officer Jase Auby told CIO.

“The TRS strategic allocation to public equity is designed to capture long-term equity risk premiums. That said, at times of historically high valuations and extended market cycles, we believe it is prudent to consider replacements for a part of that exposure where we see characteristics of equity-like returns with lower correlations to equity markets. Right now, we like private credit as it is more protected than equity in a market risk event and we can use credit to produce return profiles close to our long-term equity return assumption,” Auby said.

“We will always be on the lookout for equity alternatives to bring the best balances to the portfolio. Equity risk is still the largest risk to the portfolio,” he continued.

“Public equity is a very difficult thing to trade out of. It is the engine behind the return of most investment portfolios,” Auby said. “It’s a difficult one to reduce but we will continue to seek ways to do it.”

In TRS’ new asset allocation, alternative asset classes received a bit of attention, including private equity, infrastructure, natural resources, and energy, which each saw a 1% increase in their overall targets. The system also got rid of a 4% target to directional hedge funds.

“To some degree we also saw low-volatility equity as a bit of an equity alternative,” Auby said. “To the extent that it provides [similar] returns with a bit lower risk, but that one’s a little bit of a stretch.”

Sub-asset classes in the global equity portfolio include 18% for US equity, 13% for international developed markets, and 9% for emerging markets.

Allocations to US Treasuries also rose by five percentage points, from 11% to 16%, in the funds’ new asset allocation. Risk parity targets increased to 8% from 5%. Cash holdings also rose to 2% from 1%.

In its last fiscal year ending fall 2019, the system returned 6.4%, shyly missing the benchmark for the $156.4 billion portfolio.

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