Alaska Permanent Is Reconsidering Private Equity
After decreasing its allocation to private equity in 2023, the Alaska Permanent Fund Corporation is once again rethinking how much of its sizable investment pool it will commit to the asset class.
“In 2012 when I came to the fund, we had invested four percent of our portfolio in private equity,” CIO Marcus Frampton said. “We grew pretty fast up to 19 percent, but last year we reduced our pacing. Our board members wanted to revisit that.”
Last year, APFC’s staff decreased its private asset allocation from 19 percent to 15 percent, hypothesizing that there were better risk-adjusted returns to be had in asset classes like fixed income and hedge funds. Meanwhile, fellow major pension funds, including CalPERS, continued to bolster the assets they were putting to work in the private markets.
As it reconsiders this decision, the APFC Board heard from AQR, Pathway Capital Management, and Callan last week about why they should — or should not — make a change. Their views went as one may expect: AQR suggested adding hedge funds and inflation-sensitive assets, Pathway highlighted APFC’s private credit and infrastructure approaches, and Callan provided data on what could happen if APFC increases its PE allocation.
A decision has yet to be made. When one has, though, APFC will have the chance to reconsider its investments in other areas, like real estate, hedge funds, and even gold.
APFC’s private equity portfolio is worth $15 billion, and its largest single exposure in net asset value is about $900 million, according to Frampton. But big allocations like that are markers from his predecessor, Jay Willoughby (who is now CIO at OCIO firm TIFF).
For example, under Willoughby’s leadership, APFC put $500 million to work in Dyal’s first GP stakes fund. Frampton reports that the investment has done well for APFC, but that the organization is now reupping at smaller ticket sizes.
These smaller checks are indicative of Frampton’s private equity strategy at APFC. Rather than allocate big pools of capital to large scale private equity funds, his team is hyper-focused on finding outperformers, many of which operate in the middle market. “If you’re only writing $150 million checks, you can’t really be in middle market buyout funds,” Frampton said.
Right now, his team is typically writing $30 million to $40 million checks to private equity funds and committing a total of $1 billion to the asset class annually — a lower figure than some of its peers. “We definitely write a lot of small tickets,” Frampton said. “My guess is we’re more diversified than large state funds and less than university endowments.”
This strategy has also given Frampton’s team the flexibility to get into some incredibly competitive investment funds. The first time they had access to Sequoia’s U.S. Venture Fund, they could only make a less-than $10 million allocation. Most major pension funds would write that opportunity off, claiming that an ultra-diversified pool of private equity and venture funds wouldn’t move the needle on outperformance.
“We said we’d do that,” Frampton said. “We need to shoot for the top.”
Beyond private equity, Frampton and his team are navigating the high interest rate environment — and what it means for their portfolio. Frampton pointed out that APFC can earn 4.5 percent on Treasuries, and 5.5 percent on investment grade bonds. The sovereign wealth fund’s return target is the CPI (consumer price index) plus five percent, so with yields in fixed income as high as they are, the investment team is excited about the possibilities of lower risk opportunities. The investment office recently brought its high yield fixed income operations in-house, which lowers the cost of those strategies, too, adding potential for returns.
“I’m really excited about the rate world we’re in now,” Frampton said. “It used to be that we had to rely on stocks and PE to get the returns I’m focused on.”
The federal funds rate also has implications for APFC’s real estate investments. In real estate development assets, in particular, Frampton sees higher potential for returns. “On the development side, there’s just been a lot of capital coming out of that,” he said. “There are some huge developments that need money to come in.”
He described real estate development assets as a “buyer’s market,” with the biggest risk taken being what the developed real estate can actually be leased at. But Frampton and his team control these investments in separately managed accounts, and intend to hold them for the long term, which helps lower some of the risk. “For real estate, we’re not trying to shoot out the lights, we’re trying to have a safe portfolio of high quality properties,” Frampton said.
One quirk of APFC’s portfolio is that it holds a small allocation to gold— and has done so since 2019. The holdings are in different allocations including cash, hedge funds, and tactical opportunities. Because they are concerned about the Federal Reserve’s ability to navigate current economic conditions — and the value of the dollar — APFC sees an attractive hedging opportunity in this part of the market.
I don't find a small allocation to gold or commodities that quirky, it's all part of a risk mitigation portfolio.
Hell, if BlackRock gets its way, pension funds and sovereign wealth funds will soon be investing in bitcoin ETFs (that will be the ultimate top of this market).
There are things I like and don't like about Alaska Permanent's approach.
I like that they write smaller tickets and don't just focus on the big buyout funds and they can play in the mid market where there are still great opportunities.
But there's a cost to this as well, smaller tickets, more diversified portfolio means you're wasting a lot of resources to do due diligence on funds that may not have the track record and experience of larger top tier funds.
There's also a risk of over-diversification when you're writing smaller tickets and then your returns take a hit (happened to CalPERS years ago).
Having said this, there are also better relationships as smaller funds will be a lot more conducive to working closer with your team and offer you great co-investment opportunities.
Beyond private equity, however, I like what Frampton states here on navigating the high interest rate environment:
[...] Frampton and his team are navigating the high interest rate environment — and what it means for their portfolio. Frampton pointed out that APFC can earn 4.5 percent on Treasuries, and 5.5 percent on investment grade bonds. The sovereign wealth fund’s return target is the CPI (consumer price index) plus five percent, so with yields in fixed income as high as they are, the investment team is excited about the possibilities of lower risk opportunities. The investment office recently brought its high yield fixed income operations in-house, which lowers the cost of those strategies, too, adding potential for returns.
“I’m really excited about the rate world we’re in now,” Frampton said. “It used to be that we had to rely on stocks and PE to get the returns I’m focused on.”
No doubt, as rates back up to historical averages, pension funds do not need to overly rely on private equity or stocks to get decent risk-adjusted returns.
As far as real estate, he's right to focus on development projects and all they want to achieve is decent, steady returns in a difficult market:
The federal funds rate also has implications for APFC’s real estate investments. In real estate development assets, in particular, Frampton sees higher potential for returns. “On the development side, there’s just been a lot of capital coming out of that,” he said. “There are some huge developments that need money to come in.”
He described real estate development assets as a “buyer’s market,” with the biggest risk taken being what the developed real estate can actually be leased at. But Frampton and his team control these investments in separately managed accounts, and intend to hold them for the long term, which helps lower some of the risk. “For real estate, we’re not trying to shoot out the lights, we’re trying to have a safe portfolio of high quality properties,” Frampton said.
Interestingly, in 2019, Marcus Frampton won an innovation award for his out-of-the-box thinking on alternatives:
Marcus Frampton, CFA, CAIA, is a stalwart alternatives investor who rose through the ranks at the Alaska Permanent Fund Corporation and was appointed chief investment officer in 2018. During his time at the fund, he’s demonstrated out-of-the-box thinking and pushed through the imagined constraints of how a sovereign wealth fund should behave to hit its risk and return targets.Anyway, I like Alaska Permanent, it was always a fund that did things differently and wasn't afraid to go against the grain.
One such example of Frampton’s unique style of work is the successful co-investment program he helped develop at the APFC. Initially, the program was limited to traditional private markets classes like private equity and infrastructure, but it’s since matured and expanded into new territories like private credit.
“We’ve been moving our portfolio towards a barbell strategy, where we’re aggressively growing our private equity portfolio, but at the same time, we’re also growing our cash, fixed income, and hedge funds,” Frampton says. The team’s ambition to raise its private equity allocation from 13% to 19% will be underscored by an approximate 20/80 ratio between direct and indirect investments.
“That’s a good mix for us, and it results in us spending more than half of our time on the direct investments, because they’re much more time intensive,” Frampton says. “Then getting most of the capital out through funds, and having such large fund investments that it’s really synergistic. It helps us be on the first call for co-investment opportunities.”
The APFC’s co-investment program has posted strong returns since it’s been in development. It could scale to become even larger, but one of the major inhibitors to its growth is tight control on the state’s budgets. “If we had a lot more budget flexibility, we might do more on the direct side,” he says.
Another such example of Frampton’s creative thinking is his idea to allocate a certain percentage of the portfolio towards gold. Not many investors have a dedicated gold allocation, given there is no revenue stream from the asset class, but Frampton asserts that gold can be a stable anchor for a portfolio in times of crisis. This potential addition to the menu of asset class options could be discussed at APFC’s first board meeting for 2020 in February.
Between you and me, co-investments is how Canada's large pension funds have grown their private equity portfolios to mammoth sizes and how they maintain an important allocation to this asset class.
Unlike state plans, Canada's large pension funds have a better governance model (no government interference) and are able to better compensate their employees and bring more assets internally so instead of an 80% funds/ 20% co-investments split, it's more like 50/50 or higher here as they manage more direct assets internally to reduce fee drag.
And therein lies the major difference between the private equity programs at Canada's large pension funds and those at US state pension plans, they do a lot more direct investing (purely direct and co-investments) internally to reduce fees and maintain a sizable allocation to private equity.
And when they need to, they tap the secondaries market through their trusted partners to shore up liquidity and diversify vintage year risk.
Lastly, a quick note on hedge funds since I am an expert in the field. Don't bother paying big fees for beta chasers here, it's a recipe for disaster and keep in mind, as rates move up, so does their bogey to charge performance fees (T-bills + 500 bps ain't what it was back in 2020, duh!).
Alright, let me end it there, you can read more about the Alaska Permanent Fund Corporation here.
Below, an older fireside chat
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