2015 alternative investments survey

2015 Alternative Investments SurveyObservations from U.S. Institutional Investors

CALLAN INVESTMENTS INSTITUTE

Survey

2015 Alternative Investments Survey 1Knowledge. Experience. Integrity.

Table of Contents

Executive Summary 2

Prevalence of Asset Allocations 4

Respondent Group Profile 6

Support and Resources 7

Participation Rates and Target Allocations 8

Average Asset Allocations 9

Secondary Market Investments 11

Top Concerns and Issues 12

Real Estate: Detailed Analysis 13

Private Equity: Detailed Analysis 19

Hedge Funds: Detailed Analysis 25


Percent of respondents with real estate allocations

Percent of respondents with private equity allocations

52%43%

80%73%

Percent of respondents with hedge fund allocations

89%

59%

28%

69%58%

2005 2010 2015

58 43 2880 69 5289 73 59

See page 7.

Callan’s 2015 Alternative Investments Survey captures insights from 51 U.S. institutional investors regarding their interest, approach to, and use of investments in hedge funds, private equity, real estate, and other alternatives.* We last conducted this survey in 2010 and provide comparisons to 2015 results where relevant. The economic climate has significantly changed over the last five years and the data reflects changing attitudes and approaches. While agreement may never be reached as to what makes an investment an alternative, they are nevertheless recognized today as a key component of a global multi-asset portfolio strategy.

Readers should note that there is a self-selecting bias in the responses included herein; few investors with very little or no assets invested in alternatives responded to the survey. To illustrate, 88% of survey respondents invest in alternative assets, compared to just 49% of the investors represented in Callan’s total fund sponsor database.

Key Findings

U.S. institutional investors continued to make new allocations to alternatives, although average allocations among investors have remained steady at around 18% of the total portfolio during the past five years after witnessing sub-stantial growth from 2005 to 2010.

• Real estate, hedge funds, and private equity have all seen increases in the percentage of plans investing in the last five years. Sixty percent of survey respondents made an initial investment to other alternative asset classes since 2010.

• While more investors are investing in alternatives, the average percentage of total assets allocated has seen less change. Hedge fund allocations grew the most, from 10% of total assets in 2005 to 11.5% in 2015. Private equity and real estate allocations increased marginally over the same time period.

• Commodities have also seen an increase; 75% of survey respondents have made an initial commodities investment during 2010–2015.

• Both public and corporate funds project slight dips in overall allocations to alternatives in the coming year.

Executive Summary

* Callan identified the following asset/strategy types as alternative for this survey: private equity, real assets (including real estate, REITs, MLPs, timberland, infra-structure, agriculture, commodities), and diversifying strategies (including hedge funds, absolute return, GTAA, risk parity, options).


See page 24.

Broadly diversified

Distressed or event-driven

Macro Other

Market neutral equity

58%

8%50% 46%

58%

Relative value or

non-directional

Long-short equity

63%71%

7%Decrease number of managers

7%Decrease allocation to existing strategy

7%Change strategy

10%Exit the asset class

34% No changes

31% Increase allocation to existing strategy

21%Increase number of managers

Futu

re in

tent

ions



6%Change strategy


55% No changes



2015 2010See page 13.

See page 28.

All Public

6.7%

Endowment/Foundation

7.1%6.7%

2005 2010 2015

7.3%

6.0%5.6%

2012

6.9% 7.1%7.3% 6.9% 6.8%

5.7%6.0% 5.9%

Corporate

Insufficient data

Executive Summary (continued)

Real estate remains a staple in the majority of institutional portfolios: 68% of respondents invest in private real estate and 39% invest in public real estate.

• Overall, allocations to real estate have changed little during recent years. Similarly, the main objectives for investing in real estate did not change over the past five years; portfolio diversification remains by far the most important.

• Reminiscent of 2010, around half of the real estate investor respondents indicate they do not plan to make changes to their allocations. For those that are planning changes, more will increase allocations to an existing strategy than will increase the number of managers.

• Usage of real estate commingled funds fell relative to 2010 while all other vehicle types saw an uptick.

• While 59% of funds surveyed in 2010 limited real estate exposure to the U.S., that figure fell to 46% in 2015.

From 2010 to 2015, corporate fund respondents’ allocations to private equity shrank to by half (from 10% to 5%) while endowments and foundations increased allocations, from 9% to 13%. Public funds held steady at 7%.

• Most private equity investors (61%) targeted a mixture of U.S. and non-U.S. investments in 2015 with a heavy U.S. tilt. This represents a decline (79%) from 2010.

• Investors appear to be diversifying their private equity portfolios further by using multiple types of implementation vehicles. Fewer than half (42%) of private equity investors employ just one, down from 62% in 2010.

• The funds that will make changes tend to be ramping up private equity programs: 31% plan to increase allocations to the existing strategy and 21% will add managers.

Hedge funds have witnessed the most growth in the past five years: the percentage of respondents with allocations to hedge funds doubled relative to 2005, while the average allocation as a percentage of total portfolio increased modestly, from 10% to 11.5%.

• Corporate funds witnessed the largest growth in hedge fund allocations, doubling from 6.5% in 2010 to 14% in 2015. Endowments/foundations’ allocations dropped from 15.5% to 13.5%, while public allocations remained steady at 6%.

• The majority of respondents use multiple strategies. Broadly diversified strategies are the most popular (71%), followed by market neutral equity (63%).

• The most common investment implementation vehicles used are commingled direct investments (67%) and commin-gled fund-of-funds (42%).


Prevalence of Asset Allocations

This chart reveals the percentage of survey respondents that invest in various alternative asset classes in 2015.

Private equity is the most prevalent at 73%, followed by private real estate (68%) and hedge funds (59%). The prevalence of allocations to these asset classes skews higher for survey respondents than the U.S. institutional investor community overall, as few investors with very little or no assets invested in alternatives responded to the survey.

Percent of respondents invested in 2015

Private Equity

Private Real Estate

Hedge Funds

Commodities

Public Real Estate (incl. REITs)

Other Alternatives

Risk Parity

Timberland

Infrastructure

GTAA

2%

2%

7%

7%

32%

59%

68%

73%

Options (hedging)

2%

MLPs

Agriculture

39%

9%

9%

14%


Private real estate has been a staple in many funds’ port-folios for some time, while interest in public real estate has grown more recently; 81% of the funds surveyed that have invested in public real estate did so within the last 10 years.

Less than 15% of plans surveyed invest in other alterna-tive asset classes. Of these plans, 60% made an initial investment in other real assets since 2010, highlighting the growing interest in these asset classes. Commodities specifically have seen an increase in activity as 75% of the plans invested have made an initial investment during 2010–2015.

Despite poor returns relative to initial expectations, inaugu-ral hedge fund investments have not appeared to slow. An equal number of plans surveyed invested in hedge funds during 2005–2009 as have since 2010.

Prevalence of Asset Allocations (continued)

73% invest in private equity

68% invest in private real estate

59% invest in hedge funds

39% invest in public real estate (including REITs)

32% invest in commodities

Less than 15%

invest in each of all other alternatives including: timberland, infrastructure, GTAA, risk parity, MLPs, agriculture, and options (hedging)

Private real estate

Private equity

Hedge funds

Public real estate (incl. REITs)

Com-modities

Infra-structure

GTAAOther real assets*

Timber-land

Options (hedging)

Risk parity

38%

14%

19%

29%

21%

38%

17%

25%

38%

38%

10%

14%

45%

36%

9%

9%

50%

50%

25%

50%

25%

60%

20%

20%

25%

75%

75%

25%

75%

25%

100%

Before 2000 2000–2004 2005–2009 2010–2015

Year of initial investment by percent of survey respondents

* Includes agriculture, commodities, infrastructure, MLPs, and timberland.


Fifty-one fund sponsor organizations responded to Callan’s Alternative Investments Survey during the first two quarters of 2015. The vast majority (88%) of those organizations have allocations to alternative investments. For this survey, Callan’s definition of “alternatives” includes the following asset/strategy types: private equity, real assets (including real estate, REITs, MLPs, timberland, infrastructure, agri-culture, commodities), and diversifying strategies (including hedge funds, absolute return, GTAA, risk parity, options).

The majority of respondents are public funds (37%), followed by corporate (29%) and endowment/foundations (22%)—quite similar to the respondent profile in 2010. Other respon-dents, 12% collectively, include Taft-Hartley and insurance plans.

Most respondents (39%) have less than $1 billion in assets, and 37% have between $1 and $10 billion. Twenty-four per-cent have greater than $10 billion in assets. The smallest funds (less than $1 billion in assets) have the highest rate of investment in alternatives at 90%. This figure was 83% for the largest funds surveyed (>$10 billion), mostly public funds. While endowment/foundations are the fund type most often associated with alternative investment, these respon-dents have the lowest percentage of funds with alternatives in their portfolio (82%). Public and corporate funds surveyed had similar investment rates (94% and 93%, respectively).

Most respondents (approximately 85%) provided asset val-ues and other specific data as of December 31, 2014, and the remainder provided asset values as of June 30, 2015.

Respondent Group Profile

82% invest

94% invest

93% invest

6

0%

Public37%

Endowment/Foundation22%

Corporate29%

Other12%

invest

Fund type Fund size

89% invest

90% invest

83%

inve

st

Less than $1 bn39%

$1 to $10 bn37%

More than $10 bn

24%

of all respondents invest in alternatives88%

Does your fund invest in alternatives?


Support and Resources

When this survey was last conducted in 2010, over 60% of respondents employed an external consultant to help them manage their alternative investments. According to the cur-rent survey, more funds are moving the alternatives over-sight process in-house. In 2015, only 43% of respondents report using external consultants, with an increase in the use of internal staff from 25% to 36%.

Of the plans surveyed, 68% have a consultant that provides general consulting services to the entire plan. The balance of respondents employ a specialist consultant to handle the alternatives program or specific asset classes that fall in the alternatives category, such as private equity or private real estate.

In general, external consultants provide the same services for the alternative assets as they do for traditional asset classes. Almost 90% made recommendations for hiring and/or terminating managers and assisted in performing due diligence on alternatives managers. Eighty-four percent monitor manager performance and offer asset and/or strat-egy allocation recommendations.

Plan to hire additional staff specifically to manage/monitor their fund’s alternative assets in the next two years

* May not sum to 100% due to rounding.** Multiple responses allowed.

Have dedicated staff to manage/monitor their fund’s allocation to alternatives

Use non-discretionary, external consultants for allocations to alternatives

36%

7%

43%

Does the consultant provide services solely to alternatives or for the entire plan?*

What services do the non-discretionary, external consultant(s)/advisor(s) offer for the alternatives program?**

5% Provides services to whole alternatives program

26% Provides services solely to a certain alternative asset class

68% Provides services to the plan generally

Manager hiring and/or termination recommendations

Manager due diligence

Performance measurement

Asset and/or strategy allocation recommendations

89% 89% 84%

12%

Other

84%

5%


On this page, we examine historical participation rates and average allocations to hedge funds, private equity, and real estate. Most notable is the trend of increased participation rates across asset classes. We reiterate that the prevalence of allocations to these asset classes skews higher for survey respondents than the U.S. institutional investor community overall, as few investors with very little or no assets invested in alternatives responded to the survey.

All three alternative asset classes have seen increases in the percentage of plans investing. While real estate has garnered the highest participation rate among the alterna-tive asset classes, hedge funds have seen the percentage of plans with allocations more than double since 2005.

Although the asset classes are becoming more widely adopted within plans, the average percentage of total assets allocated has seen less change. Hedge fund allocations grew the most, from 9.9% of total assets in 2005 to 11.5% in 2015. Private equity and real estate allocations increased marginally over the same time period.

Participation Rates and Target Allocations

* Averages are calculated using data from respondents invested in the relevant asset class. Those not invested in the asset class were not included in the calculation.

Average target allocations*

Real Estate Private Equity

10.1%

Hedge Funds

11.5%

9.9%

2005 2010 2015

10.6%

8.1% 7.8%7.7% 7.3%6.7% 7.1%6.7%

7.3%

2012

Participation rates



52%43%

80%73%


89%

59%

28%

69%58%

2005 2010 2015

58 43 2880 69 5289 73 59


Average Asset Allocations

These charts display average allocations to alternatives for investors in the respective asset classes over time. The top chart shows average weightings to four predominant alterna-tive asset classes, while the bottom chart breaks out alloca-tion levels by plan type and includes the average allocations expected in 2016.

Hedge funds continue to have the largest percentage of assets allocated, growing from 9.9% in 2005 to 11.5% in 2015. Hedge funds were the only alternative asset class that has consistently increased since 2005. Private equity has the second-largest allocation at 7.8% of the total portfolio in 2015, on par with 2005 (7.7%).

Allocations to real estate grew marginally over the past 10 years, from 6.7% to 7.1% in 2015. With strong returns and an increased need for diversification by public plan spon-sors, real estate allocations have become a staple in many portfolios. Allocations to other real assets (including agricul-ture, commodities, infrastructure, MLPs, and timber) were the same in 2015 (3.5%) as they were in 2005 (3.6%).

Endowments/foundations continue to have the highest aver-age allocation to alternatives, growing from 16% in 2005 to 25% in 2015, and projected to be 27% in 2016. Public funds’ allocations appear to have leveled off at around 17% of the total portfolio after growing substantially between 2005 (10%) and 2010 (16%). Corporate funds experienced similar upticks in alternatives through 2012, but have also leveled off at around 16%. Both public and corporate funds project slight dips in overall allocations to alternatives in the coming year.

Average target allocation to alternatives* (as a % of the total portfolio)

Average actual allocations to alternatives by fund type* (as a % of the total portfolio)

20102005 201520120%

5%

10%

15%

% o

f tot

al p

ortfo

lio

Real Estate Private Equity Hedge Funds Other Real Assets


20102005 2016E201520120%

10%

20%

30%

40%

% o

f tot

al p

ortfo

lio

Public CorporateAll



Average Asset Allocations (continued)

Public funds, corporate funds, and endowments/foundations have each had distinct allocation trends with regard to the three largest alternative asset classes: real estate, private equity, and hedge funds.

Public funds have maintained fairly steady allocations to pri-vate equity and real estate at around 7% each. Hedge fund allocations reported by survey respondents were less consis-tent, jumping from 3% in 2005 to 6% in 2010, down to 4% in 2012 and back up to 6% in 2015.

In contrast, endowment/foundations have maintained an average hedge fund allocation between 12% and 15% over the time period, at levels similar to recent weightings for cor-porate funds. Since 2005, endowment/foundations increased their average allocations significantly, from 9% to 13% for pri-vate equity and 6% to 11% for real estate.

On average, corporate plans have cut their allocation to pri-vate equity in half since 2005 and have reduced the allocation to real estate only slightly (0.3%). This is consistent with the trend among corporate pension funds to “de-risk” by increas-ing allocations to long-duration fixed income assets and reducing allocations to illiquid assets. Hedge funds buck this trend, as corporate funds’ average allocation grew from 9% in 2005 to 14% in 2015.

Public*

Endowment/Foundation*

20102005 201520120%

2%

4%

6%

8%

Aver

age

allo

catio

ns

Private Equity

Hedge Funds

Real Estate

20102005 201520120%

5%

10%

15%

20%

Aver

age

allo

catio

nsPrivate Equity

Hedge Funds

Real Estate

Corporate*

20102005 201520120%

5%

10%

15%

Aver

age

allo

catio

ns

Private Equity

Hedge Funds

Real Estate



This survey also examines the secondary market utilization for the three largest alternative asset classes: real estate, private equity, and hedge funds. Private equity has contin-ued the trend beginning in 2010 of being the most active secondary market. Up from 40% in 2010, 45% of private equity investors participated in the secondary market as buyers in 2015, while the percentage that had participated as sellers doubled to 14% over the same time period.

The real estate secondary market has also seen increased activity. In Callan’s 2010 survey, 5% of real estate investors had participated in the secondary market as buyers, while 30% of this year’s respondents indicated they had.

Hedge fund activity in the secondary market has historically been muted, but the survey results show the tides slowly shifting. Most respondents (54%) indicate no interest in the secondary hedge fund market, and a mere 4% have previ-ously participated as either a seller or a buyer. However, 17% of respondents expressed interest in participating as a seller and the same percentage as a buyer.

Callan experts note that respondents utilizing hedge fund-of-funds (as well as the other asset classes) may have unknowingly participated in secondary market offerings as a buyer.

Secondary Market Investments

Has your fund ever participated in the secondary market?*

Yes, as a seller No, but would consider doing so as a seller

Yes, as a buyer No, but would consider doing so as a buyer

13%

30% 30%30%

No, and would not consider it

21%

54%

3% 10%17%

14%

0%

45%

4%

17% 17%

Real Estate Private Equity Hedge Funds

* Multiple responses allowed.


Top Concerns and Issues

Rank your top concerns around alternative assets

Rank the most important issues for alternative managers to address

Liquidity

Fees

Transparency

Volatility reduction

Leve

l of i

mpo

rtanc

e

Fraud

Counterparty risks

Leverage

Liquidity

Returns

Cost/Fees

Transparency

Leve

l of c

once

rn

Investors in alternative asset classes ranked their concerns around investments and the issues they would most like to see managers address. Returns topped the list of inves-tor concerns, followed by cost/fees. Returns have been at the forefront of many investors’ minds. With low expected returns in traditional asset classes, some plans have looked to alternatives for return enhancement. As legal/regulatory pressures continue to mount, costs and fees have also become increasingly important.

In turn, investors would like to see alternative managers make fees a top priority, followed closely by transparency.

While liquidity remains a consideration when investing in alternatives, it has fallen from the top spot in 2010 to fourth in 2015.

Other issues cited by survey respondents as top concerns around investing in alternatives include:• Current valuation levels• Limited supply in relation to demand• Income volatility• Regulatory disapproval• Headline risk• Board education/expertise• Conservative nature of the board members


In this section, Callan takes a closer look at public and pri-vate real estate. Real estate is the most prevalent alternative asset class in portfolios, with 89% of respondents invested. The percentage invested increased by 9% since 2010, but grew the most over the period 2005–2010.

The bottom chart reveals average real estate targeted allo-cations since 2005. Overall, allocations to real estate have changed little during the past years. The total population saw an uptick from 6.7% in 2005 to 7.1% in 2015. Public funds’ average allocations were static while corporate funds’ decreased marginally (from 6.0% in 2005 to 5.7% in 2015). Endowment/foundation respondents did not provide suffi-cient data in the most recent survey to report on trends.

Despite diverging strategic allocations among plan types, in aggregate, survey participants indicate future intentions to increase allocations to real estate.

Real Estate: Participation Rates and Allocations

Average real estate target allocations*

All Public

6.7%


7.1%6.7%

2005 2010 2015

7.3%

6.0%5.6%

2012

6.9% 7.1%7.3% 6.9% 6.8%

5.7%6.0% 5.9%

Corporate

Insufficient data


2005 2010 2015

80% 89%58%



Historically, most real estate assets have been targeted in

the U.S., but this trend is shifting. In 2010, 86.8% of assets

were in the U.S., a figure that dropped to 73.5% for 2015.

When looking at how many plans include non-U.S. real es-

tate exposure in their strategic allocation, a clear trend de-

veloped from 2010 to 2015. While 59% of funds surveyed in

2010 limited real estate exposure to the U.S., that figure fell

to 46% in 2015. Interestingly, the mix of U.S. and non-U.S.

targets remained the same, while a few respondents (four

funds) did not know what their regional allocation was.

Real Estate: Investments by Region

2010 2015

U.S. 86.8% 73.5%

Europe 4.6% 3.1%

Asia 2.8% 1.5%

Emerging Markets 0.4% 0.6%

Other Non-U.S. 2.6% 0.5%

Global – 4.2%

Unknown 2.9% 16.7%

Target regional mixtures: averages

46%

37%

17%

37% 59%

5%

100% U.S. Mixture of U.S. and Non-U.S. 100% Unknown

2010 2015

Target allocations by region


Core Opportunistic Value-added REITs

57% 53%47%

37%

Investors use multiple vehicle types to gain exposure to real estate. Open-end commingled funds are the most prevalent; more than half of survey respondents utilize them. Closed-end commingled funds are the second most common at 43%, fol-lowed by separate accounts (37%) and fund-of-funds (27%). Less than a quarter of respondents that invest in real estate do so via co-investment or other vehicles. Usage of commin-gled funds fell relative to 2010 while all other vehicle types saw an uptick.

By strategy type, core is the most prevalent (57%) followed by opportunistic (53%) and value-added (47%). Although REITs came in last, they remain popular with more than one-third of real estate investor respondents utilizing this strategy.

Looking at sub-strategy implementations, we note a rela-tively even distribution of investments. In direct ownership of privately traded equity, Office sub-strategies (40%) are a bit more popular than Apartments (37%), Industrial (33%), Retail (30%), or Other (29%). Looking at privately and publicly traded debt, Mezzanine emerges as the most prevalent (37%).

Real Estate: Implementation Vehicles and Strategies

30% 23%37%

Mortgage loans

Mezzanine debt

Distressed debt

CMBS

33%

33% 30%23%

Office Apartments Industrial Retail

37%

Other**

33% 30%40% 37% 29%

Sub-strategy implementations*

Real estate investment strategies*Real estate implementation vehicles*

Commingled Funds

Fund-of-Funds

SeparateAccount

Co-Invest

53%43%

37%

27%

OpenEnd

ClosedEnd

Other

23%

13%

Direct Ownership Privately Traded Equity

Private/Public Traded Debt

* Multiple responses allowed.**Other includes: MOB, student housing, senior housing, hotel, and storage units.


After a strong run for real estate that exceeded many inves-tor forecasts, expectations have tapered for both returns and volatility. On average, investors expect 1.5% less in annual-ized five-year returns than they did in 2010. Corresponding standard deviation expectations have jumped up by more than 2%. Ten-year expectations similarly declined for returns and increased for standard deviation, though to a lesser degree.

The majority of respondents use an index plus a fixed per-centage as their policy benchmark, but use a different index as the performance benchmark. The NCREIF Property Index is the most widely used, with 24% of respondents that are real estate investors applying it as their policy benchmark and 28% using it to benchmark performance.

Real Estate: Return Expectations and Performance Measurement

Average expected returns and volatility

5 Years 10 Years

7.1%8.6% 8.0% 8.8%

2015 Average expected return2010 Average expected return

2015 Average expected standard deviation2010 Average expected standard deviation

14.4%12.3%

13.3%12.3%

15%

10%

5%

0%

2015 policy and performance benchmarks

Index + x% NCREIF Property Index

Other Index

28%

18%12%

24%

53%50%

6%

17%

6%

Policy Benchmark Performance Benchmark

28%

NCREIF ODCE Index

Custom Benchmark


Real Estate: Objectives and Concerns of Asset Class Investment

Main objectives for investing in real estateWe asked investors to rank their main objectives and concerns around investing in real estate, and compare responses from 2015 to those captured in 2010.

Strategic allocations and their objectives are rightfully slow to change. According to Callan’s surveys, the main objec-tives for investing in real estate did not change over the past five years, with portfolio diversification remaining by far the most important. Reduction in volatility, return enhancement, and inflation hedging were approximately equal in level of importance.

As the real estate market correction of 2008 becomes fur-ther removed from investors’ minds and as participants have become accustomed to relatively strong returns, areas of concern have shifted. While still highly ranked, loss of liquidity has lost its top spot to fees as the most important concern when investing in real estate. Required use of leverage, lack of transparency, and regulatory uncertainty all ranked similarly.

Inflation hedge

Diversify portfolio

Reduce volatility

Enhance returns(add alpha)

Inflation hedge

Diversify portfolio

Reduce volatility

Enhance returns(add alpha)

Mai

n ob

ject

ives

2015 2010

Main concerns around investing in real estate

Regulatory uncertainty

Lack of transparency

Fees

Loss of Liquidity

Required use of leverage



Loss of liquidity

Fees


Leve

l of c

once

rn

2015 2010


Real Estate: Future Intentions

Future intentions for real estate in the next one to three years*

* Multiple responses were allowed.

3%Change strategy




45% No changes



10%Change strategy


51% No changes

31% Increase number of managers


Futu

re in

tent

ions

2015 2010

Callan asked participants to indicate their future intentions for allocations to real estate in the next few years. Reminiscent of 2010, around half of the respondents indicated they planned on making no changes to the allocation.

Most funds making changes to their allocations plan to increase their existing investments. However, more respon-dents are planning to increase allocations to an existing strategy rather than increase the number of managers, as in 2010.

Only a combined 20% of survey participants indicated intentions to decrease their allocation, exit the asset class, or reduce the number of managers employed. Of Callan’s respondent group, two funds (7%), an endowment and cor-porate plan, expressed plans to exit the asset class.


In this section we examine private equity in greater depth. Private equity is the second most prevalent alternative asset class held by survey respondents (73%). Close to half (42%) have been invested in the asset class since before 2000.

The percentage of total survey respondents with alloca-tions to private equity rose to 73% in 2015, up a notch from 2010 (69%). While many investors recently entered this asset class, growth in new entrants is slowing, with only 2% of survey respondents that are not currently invested in private equity indicating intentions to enter the asset class.

The bottom chart shows private equity investors’ average allocations as a percentage of the total portfolio, which range from 1% to 17%. The average allocation to private equity fluctuated modestly during the past 10 years, but ended 2015 on par with 2005 at around 8%.

Private equity allocations vary much more by fund type. Endowment/foundations’ average allocations jumped from 9% in 2005 to 13% in 2015, while corporate funds reported the opposite trend. Corporate funds had the high-est (10%) allocations in 2005 but the lowest (5%) in 2015. The change is likely due to some corporate funds decreas-ing allocations as they move to a liability-driven investment (LDI) model and others entering the asset class with very small allocations (1% to 3%). Public funds have maintained consistent allocations over time at around 7%.

Private Equity: Participation Rates and Allocations


2005 2010 2015

69% 73%43%

* Averages are calculated using data from respondents invested in the relevant asset class. Those not invested in the asset class were not included in the calculation

Average private equity target allocations*

All Public

8.1%


7.8%7.7%

2005 2010 2015

7.3%

9.4%9.0%

2012

6.9% 7.3%6.6% 6.5%

10.3%

5.4%

10.5%

5.4%

Corporate

12.8%13.1%


Looking at private equity allocations by region, we note few investors target exclusively U.S.-based investments, but that the majority of investments are in the U.S. Most private equity investors (61%) targeted a mixture of U.S. and non-U.S. investments in 2015 with a heavy U.S. tilt. This represents a decline from 2010 (79%). While the percentage of investors with exclusively U.S.-based private equity investments has held steady over the past five years, the percentage of those who do not know the regional distribution of investments jumped from 7% to 26%.

For non-U.S. allocations, private equity investors are focused primarily in Europe (14% average allocation). Fewer respon-dents reported data for Asia, with an average allocation of 11%, and emerging markets (10% average allocation).

Private Equity: Investments by Region

Target regional mixtures: ranges


79%

7%14% 26%

61%

13%

2010 2015


U.S. Europe Asia Em Markets

10th percentile 100% 20% 20% 13%25th percentile 90% 18% 10% 10%

Median 80% 10% 10% 10%75th percentile 65% 10% 6% 8%90th percentile 56% 10% 5% 6%

Average 79% 14% 11% 10%# of observations 17 11 6* 5*

0%

20%

40%

60%

80%

100%

* Note the small number of respondents.


Private Equity: Investment Strategies and Implementation Vehicles

What investment strategy(ies) do you employ?*

Acquisitions/Buyouts

79%74%

86%

2010 2015

76%65%

53%

72%

59%

3%7% 7%10%

Venture capital

Growth equitySecondariesSubordinated (mezzanine) debt

Distressed debt

Other

n/a n/a

Here we profile private equity implementation vehicles and strategies by frequency of use. The top chart looks at strat-egies and the bottom chart at vehicles.

The majority (90%) of private equity investors use multi-ple strategies, up from 82% in 2010. Acquisitions/Buyouts continues to be the most popular strategy (86%) followed by Venture capital (76%), Distressed debt (72%) and Subordinated (or mezzanine) debt (59%). Secondaries and Growth equity have seen new interest in the last five years. The Other category represents an evergreen fund.

Investors appear to be diversifying their private equity portfolios further by using multiple types of investment implementation vehicles. Fewer than half of private equity investors employ just one (42%), down from 62% in 2010. The most common vehicles used are fund-of-funds (59%) followed by separate accounts (31%) and direct invest-ments (28%). Fund-of-funds usage has dropped rela-tive to 2010 while other vehicle types remained steady or increased. Other includes closed-end funds, limited part-nerships, and a gatekeeper model.


What investment implementation vehicle(s) do you use?*

Fund-of-Funds

76%

26%

59%

2010 2015

31%

21% 21%28%

21% 10%

Separate accounts

OtherFund-of-oneDirect investments (internal management)

0%


In this survey, we collected information on investors’ per-formance measurement practices and return expectations around private equity. Private equity investors’ return expec-tations are similar for 5 and 10 years at around 10%, but both figures have fallen by around 1.5% relative to when we posed this question in 2010. However, expectations for vola-tility diverged, notching up by about 1% for five-year expec-tations, but falling 2% for 10-year outlooks.

Both policy and performance benchmarks for private equity tend to be based around a broad index. Nearly half of pri-vate equity investor respondents (47%) utilize a broad public equity index plus a fixed percentage (e.g., S&P 500 Index +3%) as a policy benchmark and another 41% use just the broad index.

Slightly more than 10% of respondents indicated they used custom benchmarks for policy and performance, such as internal rate of return hurdles or vintage-year fund peer groups.

Average expected returns and volatility

5 Years 10 Years

9.7%11.1% 9.8%

11.6%

2015 Average expected return2010 Average expected return

2015 Average expected standard deviation2010 Average expected standard deviation

21.9% 21.2% 20.2%22.4%

25%

10%

5%

0%

15%

20%

2015 Policy and performance benchmarks

Broad Index plus 2%–4% Other Index (e.g., Russell 2000, Cambridge, etc.)

47%41% 39%

50%53%

50%

11%12%

Policy Benchmark Performance Benchmark

28%

Other/Custom

Private Equity: Return Expectations and Performance Measurement


Private Equity: Objectives and Concerns of Asset Class Investment

Main objectives for investing in private equity

Inflation hedge

Enhance returns (add alpha)

Diversify portfolio

Reduce portfoliovolatility

Inflation hedge


Diversify portfolio

Reduce portfoliovolatility

Mai

n ob

ject

ives

2015 2010

We asked investors to rank their main objectives and primary concerns around private equity investment, and compared responses to those collected in 2010.

The main objectives for investing in private equity have not changed in the past five years based on survey results. Respondents ranked return enhancement first, followed very closely by portfolio diversification. Volatility reduction and inflation hedging ranked third and fourth, respectively.

Concerns around private equity investment shifted very little relative to 2010. Fees replaced loss of liquidity as the great-est concern. The remaining issues of lack of transparency, regulatory uncertainty, and the required use of leverage were lower on the list of concerns and unchanged relative to each other.

Greatest concerns around investing in private equity



Fees

Loss of Liquidity




Loss of liquidity

Fees


Leve

l of c

once

rn

2015 2010


Private Equity: Future Intentions

Future intentions for private equity in the next one to three yearsLooking ahead, more changes appear to be in the works for private equity investors in the next few years than in the past several years. In 2015, one-third of private equity investors surveyed indicate they do not intend to make changes to these investments in the coming few years, down from 55% in 2010.

The funds that intend to make changes tend to be ramping up private equity programs: 31% plan to increase alloca-tions to the existing strategy and 21% plan to add manag-ers. Ten percent (primarily corporate respondents) expect to exit the asset class, up from 3% in 2010.



7%Change strategy


34% No changes



Futu

re in

tent

ions



6%Change strategy


55% No changes



2015 2010



Hedge Funds: Participation Rates and Allocations

2005 2010 2015

52% 59%28%

In this section we examine hedge funds in greater depth. Hedge funds are the third most common alternative asset class held by survey respondents (59%) after real estate (89%) and private equity (73%).

The top chart reveals the percentage of total survey respon-dents with allocations to hedge funds in 2005, 2010, and 2015. The percentage with allocations to hedge funds has doubled since 2005, though this figure is inflated relative to the population of U.S. investors in general. As has been reiterated, the funds that responded to this survey tend to be more invested in alternatives than those that did not respond.

The bottom chart shows average hedge fund allocations as a percentage of the total portfolio, broken out by investor type. While hedge fund allocations have shown a gradual increase over time when averaged for all investor types, it is more of a mixed picture when each investor type’s allocation is considered. Interestingly, allocations appear to have lev-eled off among endowment/foundations included in this sur-vey. However, definitions of what constitutes a “hedge fund” may shift over time, which could affect survey responses.

Average hedge fund target allocations*

All Public

10.1%


11.5%9.9%

2005 2010 2015

10.6%

15.6%

11.7%

2012

6.5%

14.0%

9.3%

13.2%

6.3% 5.9%

3.3%4.1%

Corporate

12.7%12.1%



These charts look at hedge fund allocations by region. When

they target specific regions, hedge fund investors most of-

ten target a mixture of U.S. and non-U.S. investments with

a heavy tilt toward the U.S. (39.3%)—although that tilt has

dropped since 2010 (59.6%).

A significant percentage (34.7%) indicated an “unknown”

regional bias. This could be because the relatively uncon-

strained hedge fund strategies do not require investors to

target specific regions. Or, it reflects the fact that hedge fund

managers do not always disclose regional allocations in or-

der to protect a fund’s unique strategy.

The growing internationalization of hedge fund exposure has

been very slow, and the marginal increase in Europe, Asia,

and emerging markets is consistent with Callan’s observa-

tions.

Hedge Funds: Investments by Region

2010 2015

U.S. 59.6% 39.3%

Europe 3.4% 6.1%

Asia 1.8% 2.7%

Emerging Markets 1.2% 1.5%

Other Non-U.S. 4.0% 0.1%

Global – 15.5%

Unknown 30.0% 34.7%

Average targets by region


47%

7%

33%

27%

36%

27%

2010 2015

100% Global

13%




The fund governance section is a new addition to this sur-

vey. For both manager selection and strategy allocation de-

cisions, board-directed governance was the most popular.

Second-most-popular was “staff advised by consultant or

advisor,” followed by “staff,” “consultant or advisor with full

discretion,” and “other.” Interestingly, the ordinal ranking of

each governance type was the same in both of the queried

areas of decision making.

Consultants or advisors are used considerably more in the

manager selection decision than in the strategy allocation

decision.

Hedge Funds: Fund Governance

What type of fund governance do you utilize in terms of manager selection decisions?*

Board directed

Staff advised by consultant

or advisor

Staff Consultant or advisor with

full discretion

Other

21% 8%33% 29% 8%

What type of fund governance do you utilize in terms of strategy allocation decisions?*

Board directed

Staff advised by consultant

or advisor

Staff Consultant or advisor with

full discretion

Other

21% 17%29% 25% 8%


Hedge Funds: Investment Strategies and Implementation Vehicles

What investment strategy(ies) is your portfolio primarily focused on?*

Broadly diversified

Distressed or event-driven

Macro Other

Market neutral equity

58%

8%50% 46%

58%

Relative value or

non-directional

Long-short equity

63%71%

This page highlights investment strategies and implemen-tation vehicles used by hedge fund investors.

The majority of hedge fund investors use multiple strate-gies. Broadly diversified strategies are the most popular (71%), followed by market neutral equity (63%).

The most common investment implementation vehicles used are commingled direct investments (67%) and com-mingled fund-of-funds (42%), a reversal from 2010.


What investment implementation vehicle(s) do you use?*

47%

57%

67%

2010 2015

42%

23% 20%25%

21%

Direct investment(managed account or fund-of-one)

Direct investment (commingled)

Fund-of-funds (commingled)

Fund-of-funds(separate account or fund-of-one)


The return data, which comes from a limited subset of sur-vey respondents, shows fairly significant fluctuation over the 2010–2015 time period, with average returns reaching a high of 11.7% in 2013 and a low of 0.3% in 2011.

The array of policy and performance benchmarks is quite varied; they are frequently based on market indicators such as risk-free rates, inflation, and short-term interest rates (e.g., T-bills + 3% to 5%, CPI + 4%). Other policy bench-marks include, for example, the Credit Suisse Hedge Fund Index; other performance-driven benchmarks include peer group comparisons, Sharpe ratio target, or a custom mix.

Managers are given varying timeframes to correct underper-formance before termination. Investors with strict guidelines (22%) might terminate managers in less than a year due to underperformance (or otherwise not meeting fund expecta-tions), while a few (13%) allow for a much longer timeframe of two to three years.

Calendar year return data*

2015 Policy and performance benchmarks

Other/Custom14%

Other index36%

HFRI Index(FOF or other)29%

T-Bills, CPI +X%21%

Other/Custom6%

HFRI Index (FOF or other)44%

T-Bills, CPI +X%28%

Other index22%

Policy Performance

Hedge Funds: Return Expectations and Performance Measurement

2014 2013 2012 2011 2010

Highest 10.3% 18.2% 15.2% 10.9% 15.2%Median 3.2% 11.0% 7.7% -1.0% 7.8%Lowest -2.4% 4.9% -2.6% -5.4% 3.9%

Average 3.8% 11.7% 6.7% 0.3% 8.8%Callan Hedge

Fund-of-Funds Database 3.0% 10.8% 6.6% -3.5% 6.0%

-10%

0%

10%

20%

* Gross of oversight fees/expenses but net of underlying manager fees.

Time it typically takes for the manager to be terminated if an investment underperforms or does not meet fund expectations

32% < 1 year

25% 1 year

31% 1 to 2 years

13% 2 to 3 years


Hedge Funds: Objectives and Disadvantages of Asset Class Investment

Main objectives for investing in hedge funds

Complement fixed income allocation

Inflation hedge

Complement equity allocation

Diversify portfolio

Reduce portfolio volatility


Mai

n ob

ject

ives

2015 2010

Inflation hedge

Reduce portfolio volatility

Diversify portfolio


We asked investors to rank their main objectives for invest-ing in hedge funds. In a reversal from 2010, the number one objective this year is to diversify the portfolio followed by a desire to reduce portfolio volatility. Hedge funds are also seen as providing downside protection in bear markets.

We also asked respondents to note their greatest concerns when it comes to hedge funds. The number one concern is the same as it was in 2010, illiquidity. For 2015, “fees” nudged “lack of transparency” down to third place, a flip-flop from 2010.

Greatest concerns about investing in hedge funds

Fraud

Counterparty risks


Lack of regulation

Loss of liquidity

Fees



Regulation uncertainty

Loss of liquidity


Fees

Leve

l of c

once

rn

2015 2010


Hedge Funds: Future Intentions

What are your plans for your hedge fund allocation over the next one to three years?We asked respondents to indicate their plans for their hedge fund allocations over the next one to three years. Approximately half of the respondents do not intend to make changes to their hedge fund allocation over the near term, similar to 2010.

For those indicating that they intend to make changes, increasing allocations to an existing strategy (21%) and decreasing the number of managers (13%) were most fre-quently cited. Interestingly, in 2010 the second-most-popu-lar choice was to increase the number of managers (30%), a trend that has apparently reversed as only 8% planned to increase manager count in 2015. Also, in 2015, 8% indi-cated an intention to exit the asset class, a marked contrast to 2010 when no respondents indicated plans to do so.

8%Exit asset class



54% No changes



3%Change strategy


50% No changes

30% Increase number of managers


Futu

re in

tent

ions

2015 2010


About Callan Callan was founded as an employee-owned investment consulting firm in 1973. Ever since, we have empowered institutional clients with creative, customized investment solutions that are uniquely backed by proprietary research, exclusive data, ongoing education and decision support. Today, Callan advises on $2 trillion in total assets, which makes us among the larg-est independently owned investment consulting firms in the U.S. We use a client-focused consulting model to serve public and private pension plan sponsors, endowments, foundations, operating funds, smaller investment consulting firms, invest-ment managers, and financial intermediaries. For more information, please visit www.callan.com.

About the Callan Investments InstituteThe Callan Investments Institute, established in 1980, is a source of continuing education for those in the institutional investment community. The Institute conducts conferences and workshops and provides published research, surveys, and newsletters. The Institute strives to present the most timely and relevant research and education available so our clients and our associates stay abreast of important trends in the investments industry.

For more information about this report, please contact: Your Callan consultant or Anna West at [email protected]

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2015 alternative investments survey

Economy & Finance