(John Kemp is a Reuters market analyst. The views expressed are
By John Kemp
LONDON, March 28 The California Public
Employees' Retirement System (CalPERS) continued to cut its
exposure to commodity futures at the start of the year, even as
the largest public pension manager in the United States
increased its total inflation hedging sharply.
CalPERS pushed its allocation to inflation-linked assets to
almost $10 billion by the end of January, 3.9 percent of the
total fund, up from $7.6 billion, 3.0 percent, at the end of
December. It was easily the largest allocation to inflation
protection since the fund began reporting monthly numbers in
this format in November 2011.
But CalPERS continued to shun commodities in favour of other
means of protecting its members against rising prices. The
allocation to commodities was cut to just $1.3 billion, down
from closer to $1.6 billion at the end of December, and just a
third of the $3.5 billion allocated at the end of September.
Instead, the fund boosted its hedging through a large $2.4
billion allocation to what it terms "tactical inflation assets,"
which can be allocated to either commodities or inflation-linked
bonds depending on fund managers' short term views. Allocations
to inflation-linked bonds also rose marginally (link.reuters.com/sug96t).
CalPERS's portfolio manager for fixed income and
commodities, Andrew Karsh, has denied the fund is giving up on
commodities. "The fund's shift (last year) from commodities to
inflation-linked bonds may be short-lived and did not reflect a
change of strategy," Karsh said in an interview with the
Financial Times ("CalPERS turns back to commodities" March 19).
"Historically, commodities are like an insurance policy for
your portfolio," Karsh said. "If we do see CPI go up, normally
it would be led by energy prices and food prices. From that
perspective, commodities would be a much stronger hedge." Karsh
denied that commodities have less potential to rise than in the
END OF INDEXING
The tactical allocation could give the fund an opportunity
to significantly increase its exposure to commodity futures
prices if it sees a good short-term opportunity.
It completes the fund's transformation from a passive index
investor into something far more active akin to a hedge fund.
CalPERS had already adopted an enhanced index strategy,
which aimed to track total returns on the S&P Goldman Sachs
Commodity Index, but allowed managers to vary the
portfolio up to 25 percent to generate extra returns. In
practice, the enhanced strategy has not made much difference.
Returns have closely resembled the plain GSCI.
The tactical allocation will allow CalPERS to take a much
more active approach - putting funds into commodity markets when
it anticipates prices will rise, or roll returns from holding a
long position in backwardated markets will be high, and scaling
back when markets look like peaking or are mired in contango.
Overall, this is a sensible evolution of an indexing
strategy that has so far produced disappointing returns since
October 2007. Provided CalPERS can time the markets correctly,
it should produce superior returns.
It marks a big retreat from the buy-and-hold long term
strategies pension funds cited as a justification when they
first began investing in commodities in the middle of the last
The focus is now on short-term tactical returns and
immediate inflation protection rather than reaping long-term
risk premiums from shouldering unwanted price risks for
But the more active approach is not without risks. CalPERS
will need to get its timing right, which is notoriously
difficult. Many commodity hedge funds, which employ experienced
traders to pursue active strategies, have struggled in the last
couple of years, as commodity prices have flattened out.
Moreover, if the pension manager starts shifting $2.5
billion into and out from futures markets in response to
short-term views about the direction of prices, it could add to
volatility. CalPERS risks losing its status as a "passive" index
investor and being treated more like an active hedge fund.
CalPERS's decision to slash the amount it invests
semi-passively in a commodity index, and partially replace it
with a tactical allocation system, marks the beginning of the
end for indexing. In future, pension funds seem likely to get
exposure to commodities through active approaches, or via hedge
funds, rather than passive systems.
(Editing by James Jukwey)