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Splitting alpha/beta doubles returns – SSGA

EUROPE – Separating the management of alpha from beta could lead pension funds to doubling their expected returns, according to State Street Global Advisers’ Alan Brown.

He called it the “future of fund management”.

SSGA investment chief Brown told delegates at the Institute of Economic Affairs fund management conference that once the two activities were separated, beta generation for pension funds would be done by specialists at “a very low cost”.

In addition, pension fund sponsors would be able to commit their alpha generating risk budget, unconstrained by a strategic benchmark.

Brown backed his theory giving the example of a defined benefits scheme that was invested in equities and bonds 60:40 and with an active/passive strategy 50:50.

Implementing a traditional alpha/beta strategy, the fund would post a net value added of 0.33% or 33 basis points, while separating alpha from beta would double expected returns to 0.74% net value added.

Brown confirmed the estimate to IPE on the sidelines, saying: “I believe our assumptions are conservative.”

“It seems to me that the intellectual case for doing this is so compelling that we will see funds moving in this direction. This is the future of fund management.”

He said it was likely that US fund management firm would take the lead in alpha/beta splitting in the future, but added “the leadership in terms of consultancy could well be coming from UK firms”.

He conceded that to bring about the change would require a thorough education programme, but he added trustees should be given time to grasp the new issues.

But he added that the timeframe would not be too long as the new regulatory environment in the Netherlands as well the implementation of the FRS17 accounting standard in the UK would act as catalysts.

Brown explained to IPE that he already knew of one UK and a couple of Dutch pension funds which had already split alpha from beta – although he declined to identify them.

His observations echoed remarks made by Mark Anson, chief investment officer for the $182bn California Public Employees' Retirement System, CalPERS. Anson said earlier this month that pension funds should stop trying to get excess returns from their beta portfolio.

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