Mass. state fund adjusts hedge fund investments

* Massachusetts state fund scraps portable alpha strategy

* Cuts absolute return strategies to 8 pct from 11 pct

By Svea Herbst-Bayliss

BOSTON, Aug 5 (Reuters) - Fresh from suffering its biggest-ever losses, Massachusetts' state pension fund will adjust its hedge fund investments by eliminating a technique that used a lot of leverage and cost the fund dearly in 2008.

Trustees for the nearly $40 billion fund voted on Wednesday to scrap a 6 percent allocation to the so-called portable alpha investment strategy, a technique used by many pension funds to try and outperform the markets.

They also agreed to reduce the overall investment to absolute return strategies, including hedge funds, to 8 percent from 11 percent, suggesting that the fund will have to remove more than $1 billion from hedge fund managers with whom it invests.

"We are scrapping portable alpha," the fund's Executive Director Michael Travaglini said. "It is no longer a long-term piece of our investment strategy because of the poor performance," he explained after the trustees' meeting.

The decision comes at a time when many pension funds are reevaluating how they invest and some trustees are losing their taste for riskier investment strategies after their funds lost billions during the financial crisis.

For Massachusetts, the three-year old portable alpha strategy backfired badly during the financial crisis, costing the fund 46 percent during the year that ended on June 30.

Overall the fund, called the Pension Reserves Investment Trust (PRIT) Fund, lost nearly 24 percent or $13 billion in its last fiscal year. This plunged the fund, which normally ranks among Americas best, into bottom quarter of all major funds.

This year the fund has benefited from the stock market rally, returning 6.5 percent in the first seven months.

Massachusetts used portable alpha in its domestic equity portfolio, using swaps and futures on components of the Russell 3000 index to mirror the market and then investing in hedge funds to generate excess market return, or alpha.

In addition to its 6 percent portable alpha investment, the Massachusetts fund, one of the first public pension funds to bet big on hedge funds, allocates 5 percent to hedge funds. In total, the fund has an 11 percent allocation to absolute return strategies.

On Wednesday the trustees voted to reduce the overall exposure to alternative strategies to 8 percent.

"We still believe in hedge funds but not in this technique or the leverage it employs," Stanley Mavromates, the pension fund's chief investment officer said, referring to the portable alpha move.

By voting to reduce its exposure, the fund will now have to pull back money from one or more of the nine hedge fund of funds it employs.

Massachusetts uses Arden Asset Management, K2 Advisors, PAAMCO and Rock Creek Group, Blackstone and EIM. Managers in its portable alpha portfolio include Crestline, Grosvenor and Strategic Investment Group.

"We will have to determine what an 8 percent hedge fund portfolio looks like," Travaglini said, adding that details will be worked out in the next months. (Reporting by Svea Herbst-Bayliss, editing by Leslie Gevirtz)