Chief Investment Officer, Pensions
Pension plan officials believe they can build a new private markets allocation without sacrificing investment targets.
The California State Teachers’ Retirement System (CalSTRS) plans to build a private markets sustainable investment portfolio to go greener while aiming to maintain its investment returns.
The investment committee of the $282.5 billion pension system, the largest teachers’ retirement fund in the world, is expected to approve the new portfolio at its meetings next week.
The pension system’s plan calls for investments of $1 billion to $2 billion in the next couple of years—much of it in real estate affordable housing investments, as well as in private equity and infrastructure—according to CalSTRS investment committee material.
“We’re focused on the intersection of excellent positive investments and the sustainability-related shifts that are occurring in the global economy,” Kirsty Jenkinson, CalSTRS head of sustainable investments and stewardship strategies, told the investment committee on Jan. 27.
CalSTRS already has one of the largest sustainable investment portfolios among pension systems in the US. It invests $8.7 billion in various equity strategies: a low-carbon index, activist managers, and sustainability-focused managers.
The new plan would put $250 million to $500 million a year in affordable housing investments. The pension plan’s private equity team would also deploy $150 million a year in low-carbon investments through co-investments.
A third effort would focus on renewable energy investments through CalSTRS’ infrastructure portfolio. CalSTRS officials have not said exactly how much they aim to invest yearly in sustainable infrastructure opportunities.
Infrastructure investments make up about $7 billion of CalSTRS’ overall portfolio. They are dwarfed by its $36 billion real estate portfolio and $29.5 billion private equity portfolio.
The pension system has been studying adding private market sustainable investments for several years, but officials said the election of President Joe Biden is helping fuel the decision.
CalSTRS CEO Jack Ehnes told The Financial Times in December that the results of the presidential election will impact transition strategies to a low carbon environment.
“The policies of the Biden administration will likely produce a number of opportunities for investors with sustainable investment strategies,” he said. “We will probably be accelerating our path to low carbon.”
Affordable housing is an attractive investment because of stable cash flows, high occupancy rates, low turnover, and the benefit of favorable debt being provided by governmental entities, Julie Donegan, a CalSTRS real estate manager, told the investment committee at its January meeting.
“The demand for affordable housing is large and growing,” she said. “The supply of new products is limited due to the high cost of land as well as production. Existing supply is also being reduced or at risk of being reduced by traditional value add investors who acquire these properties, upgrade and increase rents, and then turn them into market rent properties.”
Investment committee members expressed enthusiasm for the affordable housing component of the plan, and particularly in making California investments that would help residents in the state’s high-cost housing rental market.
“Speaking for myself, I would like more visibility into the activity in this endeavor as it unfolds,” said CalSTRS Investment Committee Vice Chair Harry Keiley, a Southern California high school teacher. “It secures and preserves affordable housing in California. Many people are just a paycheck away from being in the streets.”
CalSTRS’ plan for sustainable private equity investments calls on the pension system’s investment staff to source co-investments as it makes annual commitments of approximately $2 billion to limited partnerships in private equity funds.
“Our inherent belief is that the transition to a low carbon economy is creating opportunities to invest in solutions that are going to help the world,” Margot Wirth, CalSTRS’ director of private equity, told the investment committee at the January meeting.
Wirth said sustainable private equity deals include investing in water and waste management and food security.
She said infrastructure investments could include wind and solar power and other renewables. CalSTRS has about $500 million currently invested in renewable energy strategies.
Ultimately, the success of the new CalSTRS portfolio will be judged on investment returns, something pension system officials say they won’t sacrifice in making allocations to the new approach.
The pension system’s public market sustainable returns have been mixed. They achieved a 6.85% return over a three-year period ending June 30 and a 1.94% return over a one-year period.
CalSTRS returned 3.9% in the 2019-2020 fiscal year. It shoots for an expected return of 7% a year and is only about 66% funded.
As it continues to build sustainable investments, CalSTRS remains under pressure from education groups to divest its $6 billion fossil fuel portfolio. Groups including the United Teachers of Los Angeles and the California Federation of Teachers have joined environmental organizations in calling for divestment of stock in fossil fuel companies.
Pension plan officials have insisted that holding stock positions in fossil fuel companies allows them a vote at the table in transforming energy companies to a low-carbon future.