CalPERS to halt global screening

Once touted as a bold initiative, a landmark strategy that barred investments in politically troubled emerging market countries was scrapped Monday by trustees of the California Public Employees' Retirement System.

The move comes as the $245 billion pension fund increasingly looks to boost investments in public and private markets worldwide, especially in fast-growing countries such as China. The changing landscape could include the opening of foreign real estate investment offices.

Trustees said they aren't softening the giant fund's reputation as an activist investor out to lift social, political and corporate governance standards overseas.

"This shouldn't be interpreted as a loosening of the policy," Trustee George Diehr said. "We're not opening the floodgates."

Since August 2002, CalPERS has used a complex scoring system to rank 27 developing countries to ensure that its $5.8 billion emerging market portfolio is not threatened by political instability, poor labor practices and other factors.

The elaborate screening process evolved after former state Treasurer and Trustee Phil Angelides complained in 1999 that CalPERS was using outdated criteria to evaluate investments in emerging countries. A year later, he unveiled a proposal to link investments with social justice and political freedom.

Over the years, countries such as the Philippines enacted legal and legislative changes to remain on the CalPERS investment list.

But this pioneering strategy also has come at a cost. CalPERS consultants report that the fund lost about $200 million in potential profits because it missed out on enormous market run-ups in China and other countries that were off limits to pension money.

"Investors globally have been steadily increasing their exposure to emerging markets. (CalPERS) missed out on a strong five-year bull market," said Brad Durham, co-founder and research director of Emerging Portfolio Fund Research. The change "probably should been done many months ago," he added.

By dropping the ranking system, CalPERS no longer will have to hire a research firm to evaluate each emerging market country, saving about $1 million a year.

Instead, trustees will issue a series of guidelines for its six outside emerging market money managers to follow when evaluating companies. Those principles include a free press, fair labor practices and free market policies.

While they are free to invest in companies headquartered in countries that don't meet every criterion, money managers would have to justify their selections and be prepared to defend their investments to trustees. The change takes effect Sept. 30.

CalPERS officials acknowledge some money managers are likely to interpret the fund's standards differently.

"It's not uncommon for one of the ... managers to grade a company differently. There has been a fair amount of diversity of opinion," said Christy Wood, a CalPERS senior investment officer.

More and more, the nation's largest public pension fund has been looking at global investment returns. This past fiscal year, for example, international stocks achieved an annual return of nearly 30 percent, compared with 20.6 percent for domestic equities.

CalPERS' $20 billion real estate portfolio is poised to take on a more international flavor in the coming years, too. On Monday, officials and consultants unveiled a broad restructuring plan that would nearly double the amount of staff in its real estate office and target 50 percent to 60 percent of the portfolio for international investments.

At the same time, the overall real estate portfolio could grow to $30 billion to $36 billion over five years.

The fund also could concentrate on larger partnerships and pare back its current 156 real estate deals.

"There is an investment universe (that is) very sizable outside our borders, and we don't think you should ignore that," Nori Gerardo Lietz of PCA Real Estate Advisors Inc. told trustees.

The consultant recommended that CalPERS consider opening real estate offices in Europe and Asia to cover local markets.

Trustee Maeley Tom urged her colleagues to be cautious about opening overseas offices, saying, "It could be quite challenging in terms of management."

Others, though, said having CalPERS representatives overseas is important when competing in a global marketplace.

"We're there to make money. Being seen there is invaluable," said Trustee Tony Oliveira.

About the writer:

• The Bee's Gilbert Chan can be reached at (916) 321-1045 or gchan@sacbee.com.