In search of the unusual
It was over two years ago that State Street’s asset manager SSgA first approached Dutch pension fund ABP with an unusual proposal of taking a one-third equity share in its Global Alliance, a subsidiary focused on investing seed and operating capital in innovative, niche asset management firms. Two years of due diligence and negotiation culminated in February with the creation of State Street Global Alliance LLC with SSgA holding two thirds of the equity and ABP the rest.
According to Jelle Mensonides, a board member at ABP Investments and the Alliance, the rationale behind the partnership is to invest in innovative asset managers. The Alliance makes the investments which are therefore funded proportionately by ABP and State Street through the balance sheet of the company.
The decision to sign up with State Street was by no means preordained. “When State Street approached us we saw it as a unique opportunity,” says Mensonides. State Street’s timing was perfect since ABP had decided to review its investment strategy and the offer was seen as a good opportunity to execute this change.
State Street launched its Global Alliance in 1997 to invest in nascent and unusual asset managers. When ABP became a shareholder, the alliance had eight members, four of which ABP has since invested in. The four they excluded were private equity managers and ABP has decided this is to be managed by NIB Capital Private Equity, a subsidiary of NIB Capital, a joint venture of ABP and PGGM.
In March the Alliance went a step further and announced it had taken a stake in the US-based Residential Capital Management. ABP demonstrated it is true to its credo of investing in unusual niche asset managers – Residential claims it will be the first US asset management firm to offer institutional investors an actively managed approach to high-yield mortgages.
In practice, this means taking stakes in defaulted mortgages, packaging them and selling them to insurance companies. Essentially they are asset- backed securities that carry a premium of 2–4%. As the project is a start-up, it will take a year or two to get the relevant paperwork and approval.
The other four managers are equally esoteric. Advanced Investment Technology (AIT) is a Florida-based outfit with a quant-based approach to large caps and S&P funds. The group was founded in 1996 and now boasts $900m in asset under management. Pallada Asset Management, a Moscow-based operation with $21m in assets, specialises in Russian securities while Rexita Capital Management is an emerging markets specialist concentrating on Korean equities. The Tuckerman Group manages real estate investment portfolios. ABP has already made an independent decision to give at least one mandate to AIT.
And this is an important point. It would seem fair to assume that ABP, having invested in the managers, would make over some of the pension fund’s assets. Not necessarily so, says Mensonides: “ABP has fund managers and they will decide whether to give assets to these managers.” Decision making at the Alliance and at ABP investment management are discrete and membership of the former does not automatically mean handouts from the latter.
“We live in a highly competitive world and the managers in the Global Alliance are exposed to the same competition as other asset managers. It’s their challenge to convince my fund managers to allocate funds to them,” he says. ABP has in fact already given the managers what it terms “limited mandates” while the recently published annual report pledges to extend these significantly in the event of proven success. ABP and State Street are not obliged to hand investment mandates to the managers it gives capital to. But John Snow, chairman of the Alliance, says they shouldn’t and wouldn’t commit to a manager unless they were prepared, hypothetically, to commit assets to it.
Residential was the first newcomer since ABP joined but both Mensonides and Snow suggest the number of investments may rise to 15, from the five that ABP has already invested in. “Selecting and investing in a new asset manager takes about nine months from start to finish so according to this it’s reasonable to think about us doing a couple if investments a year for the next several years,” says Snow.
There is absolutely no schedule or deadline to increase the number, perhaps reflecting the opportunistic (a word used repeatedly by Mensonides) nature of the venture. ABP has no geographical or stylistic preferences and is not targeting any particular manager. “When we see other openings, we will not hesitate in making alliances. It’s a rather opportunistic approach though, and one that is often up to market conditions. We are fairly picky about the kind of managers but we like to see innovative ones,” says Mensonides.
The alliance is indicative of a change in strategy at ABP including greater emphasis on active investment. As Mensonides says, they are interested in managers at what he calls the fringes of investment management. ABP’s ‘strategic alpha programme’ outlines the fund’s decision to branch out into alternative asset classes. The fund now takes a longer term outlook on many of its more unusual real estate, fixed income and equity products.
ABP’s private equity strategy is outside the alliance but the fund has announced it will increase its private equity investments from 1.5% at the moment up to as much as 4% in the next three years. ABP decided to invest in private equity in the mid-nineties and two years ago it bought NIB Capital with the Dutch pension fund PGGM.
Volkert Doeksen, CEO of NIB Capital Private Equity, now runs ABP’s private equity fund of funds. More specifically, the group also makes on behalf of ABP direct investments from the European office and co-investments from both Amsterdam and New York.
On the other side of the Alliance, State Street says that when it embarked on the project, it felt it would be a good idea to get a large institutional investor to help back the project. “Our ultimate aim is to find innovative investment strategies and teams who can build investment strategies for tomorrow that would be relevant and important to an institutional investor so it seemed a good idea to get an institutional investor into the mix,” says Snow.
State Street approached two other institutions – one North American and one Asian. “ABP understood the global alliance strategy right from the beginning and felt it was a good fit for what they were trying to achieve,” says Snow. There is potential for other shareholders to join the alliance although there are no imminent members. “We have a structure that gives us flexibility to build partnerships as and when it makes sense.”
Although there are no exact figures published, Snow says that fund managers selected for the Alliance will receive investment typically ranging between $5m–10m over a period of up to five years (residential falls into this category). The next investment category that appears will be the next beneficiary is hedge funds, something that the Alliance voiced an interest when it launched in February.
“We’ve done a substantial amount of work looking at how we should move into the hedge fund business and we plan to do so this year,” says Snow. Their approach is to create a platform in the hedge fund industry. that can run proprietary strategies as well as incubate strategies. The Alliance will in addition develop a fund of fund product and will invest in a couple of hedge fund managers. “We’re hopeful that we can establish one enterprise within which we can do several of these things,” he says.
And although there is no targeting at the moment, the Alliance is interested in the pre/post IPO business, managing the process of taking companies from private to public ownership. “This is an area where investment expertise needs to be specialised because you’re dealing with limited public information. Many institutional investors have substantial private equity programmes and as soon as there’s an IPO, the investment manager hands them over the shares,” says Snow.
Look at the venture from either perspective and the philosophies of SSgA and ABP make good bedfellows. Says Snow: “We believe that everything we do in the Alliance ought to have relevance to institutional investors. In the end, though, we are opportunistic. We invest in companies where we believe there’s a particular investment team that is superior.”
And when the deal was announced in February, ABP Investment’s CEO Jean Frijns said he hoped it would fuel innovation. “Successful asset management requires constant innovation and we are not so sure that the large institutional asset managers are the best breeding ground for this. We were keen to join this alliance to get successful active asset management.” Unusual, yes. Time will judge how successful.