Pension Officers Putting Billions Into Hedge Funds - New York Times

Pension Officers Putting Billions Into Hedge Funds - New York Times:

"Those benefits are considered so crucial that they are guaranteed: corporate pension failures are covered by the Pension Benefit Guaranty Corporation, a federal agency, while pension failures by state and local governments are covered by taxpayers. Given that the benefits are paid out on a set schedule, critics wonder whether it makes sense to rely on investments whose returns are hard to predict, managed by private partnerships that disclose little about their operations and charge some of the highest fees on Wall Street.

'It's very inappropriate when the company is offering a pension plan that is guaranteed by the federal government,' said Zvi Bodie, a professor of finance and economics at Boston University who is enthusiastic about hedge funds in other contexts.

Hedge funds make large, sophisticated investments based on the premise that by swimming outside the currents of the markets, often betting against conventional wisdom, they can outperform other investments. Hedge funds became famous in the 1990's, when managers like Michael Steinhardt and George Soros made huge swashbuckling bets that sometimes produced returns of 30 percent or more.

More recently, hedge funds have made headlines when they ran into trouble: Long-Term Capital Management, a hedge fund whose principals included two Nobel Prize-winning economists, nearly collapsed in 1998; and this summer, Bayou Group, a $450 million hedge fund based in Connecticut, shut down after most of its money disappeared. Its two officers have pleaded guilty to fraud charges. Hedge funds have traditionally been only for wealthy, sophisticated investors so regulators have not monitored them as they have stocks or mutual funds, although they are starting to do so.

The news of splashy gains and scandals may not paint an accurate picture of a business that in many ways has become more conservative as a result of the flood of pension fund money. To attract that money, many hedge fund managers emphasize stability.

Among pension fund managers, however, 'the whole mentality has changed,' said Jane Buchan, chief executive of Pacific Alternative Asset Management, which manages $7.5 billion in funds that invest in hedge funds, primarily for large pension funds. 'They are saying, we need returns and we will be aggressive about getting them. They just don't want any downturns.'

One of the first pensions to start working with hedge funds is also the nation's biggest corporate pension fund, the $90 billion General Motors fund. It started with a small test investment in 1999 and increased it to about $2 billion in 2003, said Jerry Dubrowski, a G.M. spokesman.

The company is using hedge funds, along with other unconventional investments, in hopes of getting something close to stock market returns without the market's volatility, Mr. Dubrowski said. To pay out the $6.5 billion G.M. owes to its retirees each year, the pension fund must produce annual returns of a little more than 7 percent. Otherwise, G.M. will have to dip into the fund's principal. At current interest rates, G.M. cannot get those returns with bond investments, and if it tries to juice returns by betting on the stock market, it will have to cope with market swings."