The $77 billion US-based public pension Los Angeles County Employees’ Retirement Association was a latecomer to infrastructure, making its first investments in the sector – via listed infrastructure – in 2019. By 2022, the LP had made a series of private infrastructure investments and had plans to increase its infrastructure allocation to 5 percent of its portfolio by 2026.
Those plans were reiterated in January of this year, when they projected growth through 2027. However, the pension plan has now walked back on those plans following a 10 April presentation from its adviser, Meketa Investment Group. The board has since approved a 4 percent target infrastructure allocation.
According to Jim Rice, principal investment officer for LACERA’s real assets division, LACERA has all but reached this 4 percent allocation, as the LP’s current private infrastructure asset value, including unfunded commitments, is about 3.5 to 4 percent of LACERA’s total portfolio. This is a decrease from the 5.5 percent allocation the LP had in September 2023.
LPs reducing infrastructure allocations are in the minority. According to Infrastructure Investor’s Full-Year 2023 Investor Report, only 10 percent of managers are looking to decrease their infrastructure allocations in 2024.
The restructuring of LACERA’s infrastructure allocation is part of a broader portfolio restructuring to mitigate risk and diminish the LP’s exposure to China, according to the agenda from the 10 April board of investments meeting.
“Important to observe is that the most significant allocation shift for the pension trust in all modelled scenarios is the increase to investment-grade bonds. As discussed with the board over the past several months, with interest rates at increased levels compared to the last SAA study three years ago, there has been a corresponding increase in the future expected returns of investment-grade bonds,” the agenda stated.
“For several years, the diminishing returns in more traditional investments pushed investors, like LACERA, towards the private markets in search of higher yields. This shift was largely a response to a prolonged period of declining interest rates and future expected returns. Now, however, the portfolio has the opportunity to reduce risk without sacrificing target returns,” the agenda added. “Compared to LACERA’s current allocations, the proposed options reduce risk assets in growth and real assets and increase categories with moderate return potential and stronger downside protection, like credit and risk mitigation.”
Under the adopted plan, the projected allocation for credit will increase from 11 percent to 13 percent, while the projected allocation for risk mitigation will increase from 19 percent to 24 percent. The projected allocations for real assets and growth will decrease from 17 percent to 15 percent and 53 percent to 48 percent, respectively.
The adopted plan (Scenario B) is one of four presented to LACERA by Meketa. While all four options would have included a decrease in the LP’s projected real assets allocation, there was one option – Scenario A – that would have kept LACERA’s projected infrastructure allocation at 5 percent. Scenarios C and D would have further lowered LACERA’s projected infrastructure allocation to 3 percent.
At just over $12 billion, LACERA’s current allocation to real assets (as of February 2024) is 15.6 percent of its total fund, meaning its real assets portfolio will actually have to diminish in size to reach a 15 percent allocation.
This likely will not come from infrastructure moving forwards. “LACERA is close to approaching a more mature phase of the [infrastructure] portfolio where we will be maintaining a target allocation instead of building up commitments to reach a target for what was a new asset category,” Rice told Infrastructure Investor.
However, when asked about what he’s learned about the asset class since its entrance a few years ago, Rice responded: “The noteworthy elements of the category are that the assets did help to provide diversified inflation hedging exposure during the covid period when a lot of other asset categories suffered. We see that these assets do have interest rate sensitivity that can detract in a rising rate environment that is still playing out. We‘ve observed that not all segments of infrastructure are immune from GDP sensitivity. And we see that, despite a general downturn of private equity activity, private infrastructure continues to be an active space with capital being deployed and exits realised.”
As aforementioned, LACERA has actually already decreased its infrastructure portfolio. According to the LP’s December 2023 real assets agenda, infrastructure made up 5.5 percent of the total fund in September 2023. That number is now anywhere from 3.5 to 4 percent, according to Rice.
LACERA is seeking to phase listed infrastructure out of its portfolio over the next three to five years, as specified in its December 2023 real assets agenda. “We’ve maintained the overall allocation to infrastructure by investing in a public market infrastructure portfolio; that will be brought down as we lower our target allocation and fund capital commitments,” Rice explained.
Nevertheless, LACERA has been active in the secondaries space lately, brokering a deal of nearly $1.4 billion in magnitude earlier this month, though that transaction mainly concerned its stakes in various buyout funds.
“We’ve been trying to build a portfolio with exposures to various segments, geographies and risk segments and vintage years through the 12 funds we’ve committed to thus far,” Rice said of LACERA’s infrastructure GP commitments. “We’ve also emphasised the core/core-plus risk category, often using open-end structures with stated liquidity terms as we’ve built out the portfolio. Over time we expect the portfolio to be more balanced between core and non-core assets.”
While the new strategy is arguably more bearish on infrastructure, Rice still sees ample opportunity in the asset class moving forward.
“[The energy transition] should provide fertile ground to realise returns across the risk spectrum for the pension plan. Also, the exponential growth of data used in the economy provides a lot of opportunity for investment in the backbone of the data networks whether through data centres, fibre or spectrum,” he said.
And the opportunities LACERA will pursue will still be in line with the public pension’s previous plans. For example, the LP will continue the practice of not investing in mega-funds. Rice explained that the manager profile LACERA has focused on ranges from “some of the larger fund managers” to “smaller funds focused on mid-sized or smaller market cap companies”.
LACERA currently has one commitment to one emerging manager fund and is seeking more emerging managers to work with, having launched an RFP process earlier this year to select a manager to run a dedicated emerging manager fund programme for the LP’s future commitments.
