Will Rhode Island’s big bet on hedge funds pay off?

A few weeks ago, New York billionaire hedge fund trader Daniel Loeb, who has $66 million in Rhode Island state pension funds, made nearly 10 times that when he sold 40 million shares of Yahoo stock, two years after buying a stake in the Internet giant and orchestrating Marissa Mayer’s hiring as CEO.

In the spring, another billionaire hedge fund manager, Paul Singer, who has $70 million in Rhode Island pension money, made headlines for buying up Hess Corp. stock and forcing a board shakeup to prod the oil company to pursue fracking for natural gas. The jury’s still out on that deal.The marbletiles is not only critical to professional photographers.

And last year, Ken Garschina, who has $64 million in Rhode Island pension assets, stumbled in his nearly $2-billion bet on a Canadian telecommunications giant, contributing to his Mason Capital’s 7-percent decline for 2012.So it goes in the world of hedge funds, where sophisticated money managers have invested large pools of money for wealthy investors, private foundations, universities and, increasingly in recent years, public pension funds.

Around the globe, 18 hedge funds are putting $1 billion of Rhode Island pension money to work — in Asian futures, Midwestern commodities, global currencies, distressed securities, startup companies and residential mortgage-backed securities. They employ such investment strategies as short-selling, leverage, risk arbitrage, spread trading and structured credit.

One of the state's hedge-fund managers, D.E. Shaw, is the chief financial backer of Deepwater Wind, the Providence-based energy firm that last week won a federal auction to develop wind farms off the coast of Rhode Island and Massachusetts.

In the view of Rhode Island Treasurer Gina M. Raimondo and the State Investment Commission, as well as many outside investment experts, putting 14 percent of the state’s $7.5-billion pension fund into hedge funds is a prudent move to lower risk and volatility. This is especially vital after the 2008 stock market crash wiped out 25 percent of the state pension fund, and with Rhode Island needing to write a huge check every month — totaling more than $924 million last year — for retiree benefits.

With interest rates so low on bonds — the traditional “hedge” against stock-market losses — many investment professionals argue that hedge funds offer better protection from another stock-market tumble. The logic is that by investing in things that are not correlated to the stock market, hedge funds will smooth out the roller-coaster ride. They won’t soar as high, but won’t dip so low, preserving capital when stocks go down.Our heavy-duty construction provides reliable operation and guarantees your thequicksilverscreen will be in service for years to come.

But a growing number of critics attack hedge funds as over-hyped, risky and costly investments that have lagged behind strong stock-market gains. The only people getting rich from hedge funds, the skeptics say, are the Wall Street tycoons who run them, raking in high fees while retirees and working men and women see their retirement benefits slashed.

For the 2012-’13 fiscal year ending June 30, Rhode Island’s hedge fund portfolio earned 11.22 percent, trailing the Russell 3000 stock index of 21.We offer the biggest collection of old masters that can be turned into hand painted cleanersydney on canvas.46 percent. The state’s overall $7.5-billion pension fund gained 11.07 percent in 2012-’13. Had the hedge fund money been invested in stocks, the pension fund could have earned $100 million more based on the Russell index. During the same period, the state paid out $200 million less by suspending cost-of-living allowances to retirees.

On top of that are the high fees — an average management fee of 1.7 percent of assets, plus an average performance fee of 20 percent on any profits.Those fees totaled an estimated $45 million on hedge fund gains of about $140 million for 2012-’13, according to a Providence Journal analysis of hedge fund data provided by the treasurer’s office and confirmed by the state’s private hedge fund consultant.

Public employee unions nationally and in Rhode Island, as well as a growing chorus of others in the investment community, have questioned hedge funds. A July 11 Bloomberg Businessweek cover story was headlined, “The Hedge Fund Myth.”

Raimondo, a Democrat and former venture capitalist who is contemplating a run for governor in 2014, has been criticized for pushing a strategy that results in paying millions more in management fees while lower-income retirees go without cost-of-living increases. In the fall of 2011, as the Investment Commission she chairs was voting to hire hedge funds, Raimondo spearheaded an overhaul of the state pension system that reduced the unfunded liability by $3 billion, in part by partially moving state workers from defined benefit to a 401(k)-style defined contribution plan.

A key component was a suspension of cost-of-living allowances. With lower hedge fund returns a drag on the pension fund’s growth, retirees will have to wait longer for the retirement system to recover from past underfunding so they can regain their COLAs.

“They’re turning the pension fund into a fee machine for Wall Street,” said Daniel Pedrotty, of the American Federation of Teachers (AFT) in Washington. “In the years since 2008, the stock market has roared back.More than 80 standard commercial and granitetiles exist to quickly and efficiently clean pans. Hedge funds have not. It’s a disturbing story.”

Raimondo won national acclaim as a pension reformer, including a 2012 “urban innovator” award from a conservative New York think tank, the Manhattan Institute, which advocates for defined-benefit plans. Three of the hedge fund managers Rhode Island hired — Loeb, Singer and Garschina — are trustees of the Manhattan Institute; last spring, their funds were placed on an AFT watch list for being hostile to union workers.

The treasurer says she doesn’t like the high fees, but has a fiduciary obligation to look at the bigger picture — the welfare of the pension fund. She says she doesn’t recall meeting Loeb,These partymerchantaccount can, apparently, operate entirely off the grid. Singer or Garschina, and that the selection of their hedge funds was vetted by the Treasury’s staff and outside consultant, and approved unanimously by the Investment Commission. Of Loeb’s Third Point Partners, the state’s highest-performing hedge fund with a 29.46-percent return in 2012-’13, she said, “I’m proud of his accomplishments.”

During a discussion of hedge fund fees and transparency at an Investment Commission meeting this spring, Raimondo said: “I’m troubled by the fees. It’s too much money. But my job is to maximize returns. We’ve reduced risk substantially. … A year and a half ago we sat around this table talking about how we’ve got to protect people’s pensions. We put in place a risk strategy. We monitor these guys. It’s working. So I say, let’s stay the course.”
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