Friday, September 12, 2014

Going Backwards: New York Strikes a Strategic Relationship with Goldman Sachs

Going Backwards: New York Strikes a Strategic Relationship with Goldman Sachs

The New York Common Retirement Fund has hired Goldman Sachs to manage a $2 billion fund-of-funds program for long-only equities and hedge funds.  Under the agreement Goldman Sachs will also advise New York CRF on the overall equity portfolio.[1] The pension fund has $181 billion in assets and about $100 billion in equity exposure.  As best as I can tell, this mandate breaks ground in two ways.  It is the largest mandate ever awarded by the pension, and it marks New York’s entry into the fund-of-funds arena.  Historically, New York has shunned fund-of-fund managers and made investment directly.  According to someone on the investment staff, the capital to fund the $2 billion will come from reducing the pension’s exposure to index funds as well as spare cash.

This engagement is being described as a “strategic partnership.”  The rhetoric about this deal is predictable. Comptroller Thomas DiNapoli said, “it will give the pension full access to world-class global investment opportunities with the nimbleness to take advantage of them on a timely basis.”  GSAM manages nearly $1 trillion and its alternative investment group oversees $156 billion.  I’m not sure how an organization as large as GSAM can be nimble.  Moreover, when you are managing $2 billion or providing advice on $100 billion of equity exposure, the key to success isn’t nimbleness or tactical decisions but long-term strategic decisions.  At New York’s scale, it is wishful thinking to believe the plan will benefit from management selection, which is what Goldman is promising.  In my view, the only potential way a large pension might, from time-to-time, generate a little bit of extra return is through beta management (adjusting market exposure).  However, I doubt that even that can be done on a consistent basis.

The co-heads of Goldman Sachs Asset Management said, “We are excited to provide customized access to our broad open-architecture, due diligence, and portfolio construction expertise.”  I’m sure that Goldman Sachs has all those capabilities, but it also has strategic relationships with a number of large clients including the Alaska Permanent Fund and South Carolina Retirement System.  Who is getting GSAM’s best ideas? Will it be New York, South Carolina, Alaska, some other fund, or Goldman Sachs itself?  As a fiduciary for a pension plan, I don’t know how you’d give Goldman Sachs that kind of power.

The Comptroller’s office says it is paying Goldman a very modest but undisclosed fee.  I’m pretty confident they’ve negotiated a reasonable discount for this $2 billion mandate.  However, the fund-of-fund structure will impose a substantial level of additional fees.  In ten years time, New York’s index exposure will, in all likelihood, have outperformed the Goldman mandate.  Over the decade, New York will have paid out $400 million to $500 million in fees and incentives to GSAM and the underlying managers. In exchange they’ll have average performance.  Long before New York has meaningful returns on GSAM’s results, Mr. DiNapoli won’t be Comptroller.  However, he will eventually leave office with a ringing endorsement from Goldman Sachs.


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