September 26, 2012

Alternative investments have officially entered the mainstream.

In a bid to improve sagging returns, a pair of pension plans in San Jose, California are looking to invest $730 million in hedge funds within the next six to 12 months, according to Bloomberg Businessweek. The publication says the City of San Jose's Police and Fire Department Retirement Plan, along with the Federated City Employees' Retirement System, are looking to invest in 15 to 20 hedge funds. The piece notes that the pension funds will first look to find multi-strategy funds to invest in, but that they will eventually look to add relative value, event-driven, long-short equity and macro funds to their respective portfolios.

From Bloomberg Businessweek:

The initial allocation to each manager selected is expected to be about $50 million, Bill said.

The pension plans seek to create a diversified, global portfolio, he said. They are looking for managers that are uncorrelated to traditional market indexes and that will provide low portfolio risk to minimize losses in falling markets. The pensions are targeting a return of Libor plus 5 percentage points for the absolute-return portfolios, with annualized volatility of 4 percent to 11 percent.

But city governments aren't just turning to hedge funds to manage their employees' retirement accounts. For cash-strapped cities whose finances are too shaky to convince conventional banks they're a worthy credit risk, hedge funds are shaping up to be a realistic Plan B. Last month it was reported that Scranton, Pennsylvania's city council was in serious discussions to borrow $18.5 million from hedge funds to close a gap in its budget.

However such a loan would likely come at a steep price for Scranton. Andrew Schneider, director of the Hedge Fund Association, told the Scranton Times Tribune that in this case, a hedge fund would likely borrow money at 2 percent and then lend it to the city for much more.

Cases like Scranton's are still rare and this is something of a last resort for a bankrupt city. But both San Jose and Scranton's stories are a worthy indicator of just how mainstream hedge fund investments are becoming.

ABOUT THE AUTHOR
As the Senior Editor of Advanced Trading, Justin Grant plays a key role in steering the magazine's coverage of the latest issues affecting the buy-side trading community. Since joining Advanced ...