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All in the family

The connection between money managers and the pension funds they serve is growing deeper all the time.

The connection between money managers and the pension funds they serve is growing deeper all the time.

By Eric Rosenbaum
July 2001
Institutional Investor Magazine

The connection between money managers and the pension funds they serve is growing deeper all the time. Consider two provocative deals that closed within the past year or so, each designed to back young or tightly niched asset managers.

State Street Global Advisors, which oversees $703 billion in assets, teamed up in February with E150 billion ($129.6 billion) Dutch pension fund giant ABP to form a joint venture com-

pany that will seed start-up asset managers. The State Street-ABP alliance follows the California Public Employees' Retirement System's 14-month-old initiative to back fledgling money managers in return for equity in the firms.

Although the deals differ - CalPERS isn't linking with an asset manager but working with investment bankers to select firms to seed - they share two goals: gaining early access to new investment ideas and claiming a stake in promising new ventures.

Certainly, pension funds know the money management game as well as anyone. "Plan sponsors have been on the other side of the fence for so long, feeding revenue to asset managers," says David Silvera, co-manager at Rosemont Partners, which makes investments in start-up hedge funds and other asset managers. Now, Silvera says, pension funds want a piece of the revenues.

It's not just the plan sponsors who hear opportunity knocking. State Street hopes that its joint venture with ABP, State Street Global Alliance, will bolster its profile in the growing European pension market, which is gradually shifting toward privatization. State Street Corp. executive vice president John Snow, who heads the joint venture, says that as more plans are privatized, State Street will find more investors for its portfolios.

The advantages of these alliances for fledgling money managers are clear. Not only do they receive a welcome infusion of assets, but they can also exploit the instant credibility that results from an association with a large institution such as State Street, ABP or CalPERS.

"The CalPERS name is like the Good Housekeeping seal of approval for these small money managers," says Jeffrey Lovell, head of private capital at Progress-Putnam Lovell Advisors, a venture capital firm formed last year by Putnam Lovell Securities, which CalPERS retained to locate investments.

What's more, a giant like State Street can offer distribution and back-office support that small firms can ill afford on their own, allowing portfolio managers to focus on what they do best: investing. Backers often provide financial reporting and accounting support as well.

Douglas Case, president of Advanced Investment Technology, a Clearwater, Florida-based money manager that specializes in quantitative U.S. equity and is now part of the ABP-State Street venture, raves about the affiliation. "Being able to say that our majority owner is SSGA is a huge plus to the outside market. To date, everything has been positive." Case notes that his niche shop, which has $770 million in assets under management, makes use of SSGA's trading desk as well as its compliance and legal departments.

State Street, for its part, draws upon the intellectual capital at Advanced Investment Technology, which in late March received a $100 million large-cap mandate from ABP.

Before it linked up with ABP, State Street had a venture capital program that since 1997 had directed assets to young investment firms; it has since been folded into the joint venture with ABP. The growing list of money managers in Global Alliance include Pallada Asset Management, a Moscow-based firm that manages Russian equities; London-based Rexiter Capital Management, which focuses on emerging markets; and Tuckerman Group, a New York-based manager of real estate investment trusts.

The ABP-State Street joint venture focuses on finding and funding active money managers with new - even offbeat - approaches to the market. "We expect everything to be actively managed, higher-return-seeking and higher-risk," says State Street Global Alliance's Snow. These active managers will provide a strong complement to State Street's huge indexing business.

Jelle Mensonides, a board member of ABP Investments, the fund's money management subsidiary, says ABP sought the deal with State Street in part to generate a new source of revenues, which the equity stakes will provide. ABP also hopes to gain access to money managers with expertise in asset classes where the Dutch fund has rarely ventured, such as absolute return strategies and emerging markets. "It's a window to another world," Mensonides says.

Last month the ABP-State Street joint venture formed a new investment advisory firm, Ssaris Advisors, to focus on absolute return strategies for institutional and high-net-worth investors. Ssaris was formed when the joint venture bought Stamford, Connecticut-based RXR Group, a quantitative asset manager with $335 million in assets. RXR was no start-up, though - it had been in business since 1983.

Although ABP is new to the game, CalPERS has been occasionally seeding niche asset managers since 1989, when it launched its Emerging Managers program. In 1991 the plan doled out $40 million to 12 different managers.

But the California plan did not take equity stakes in the managers, and that was a mistake, says Mary Cottrill, senior principal investment officer at the fund. She notes that Oak Associates, a concentrated-growth equity manager chosen for CalPERS's Emerging Managers program, saw its assets under management jump from $550 million in January 1991 to more than $18 billion today.

In 1998 CalPERS began to rethink its relationship with the start-up managers. The fund ended the Emerging Managers program that year, replacing it with the Manager Development program. CalPERS now aims to invest $80 million of its own assets in equity positions in money managers. Also, the fund will direct, on average, between $100 million and $150 million in seed capital to each niche asset manager it selects. Since 1998 about $750 million in seed capital and $13.5 million in equity stakes have been disbursed among six money managers: Cambridge, Massachusetts-based Arrowstreet Capital; New York-based Broadmark Asset Management; San Diego-based Denali Advisors; Charlotte, North Carolina-based Golden Capital Management; New York-based Philippe Investment Management; and Richmond, Virginia-based Shenandoah Asset Management.

Greg Golden, president of Golden Capital, says CalPERS's investment jump-started his business. When he and another portfolio manager, Jeffrey Moser, cut loose from Bank of America Corp.'s TradeStreet Investment Associates to launch Golden Capital in March 1999, they needed to gain a critical mass of assets to show potential investors that Golden was a legitimate manager. The California fund put $1.5 million into Golden Capital for a 50 percent equity stake for a five- to seven-year period and doled out a further $200 million in seed assets. That investment gave the start-up an important vote of confidence. Says Golden: "CalPERS is a resource available to us. They have legal, compliance and business staff who have dealt with issues we now confront."

Other players in money management may well follow the lead of CalPERS and State Street and set up their own alliances. Lovell believes the roster could include insurers or a giant like TIAA-CREF. "I'm not sure how many more, but there is room to grow," he says.