Fro~angeeta Bhatia, Retirement Plan Manager

Transcription

1 CITY OF LOS ANGELES DEPARTMENT OF WATER AND POWER INTRADEPARTMENTAL CORRESPONDENCE Date: March 19,2013 To: Retirement Board Members Fro~angeeta Bhatia, Retirement Plan Manager Subject: Board Agenda Item No. 10: Discussion of Performance by Fred Alger Management, Inc.; and Possible Action (March 27, 2013, Regular Retirement Board Meeting) Recommendation That the Retirement Board extend the watch status for Fred Alger Management, Inc. (Fred Alger) for a period of up to six months in accordance with Investment Policy provisions. Summary The Retirement Board hired Fred Alger to manage a domestic large-cap growth (LCG) equity mandate for the Retirement Fund (RF) in 2004 and the Retiree Health Benefits Fund (RHBF) in As of February 28, 2013, the market value of the RF account was $442.8 million, and the market value of the RHBF was $73.8 million. The allocation with Fred Alger represent approximately 5.48% of the Plan, which is slightly above the target allocation of 5.25%. The Retirement Board placed Fred Alger on performance watch at the regular Board meeting held on May 9, 2012, for not meeting the short-term watch criteria (Resolution No ) as stated in the Plan's Investment Policy. For the one-year period ending September 30, 2012, Fred Alger underperformed its benchmark, the Russell 1000 Growth (R1000G), by 3.14% and outperformed the R1000G by 0.05% for the one-year period ending December 31, However, for the three-year period ending February 28, 2013, Fred Alger underperformed its benchmark by 1.57%, which is above the threshold of 1.50% to qualify for medium term watch as noted in the Investment Policy. The following chart shows Fred Alger has slightly added value to the Plan's portfolio for the one-year period ending December 31,

2 Fred Alger LeG vs Russell 1000 Growth Index 1 year ending December 31, 2012 Growthof$ j u L r r ~-, ~-----' Dec - RP Fred Alger Lg Growth --_. Russell 1000 Growth Index Perf Only Source: BNY Mellon As shown in the table below, Fred Alger underperformed its benchmark for the threeyear and five-year periods ending December 31, 2012, by -1.58% and -2.38%, respectively. Fred Alger outperformed its benchmark for the one-year and sinceinception period by 0.05% and 1.04%, respectively. Fred Alger Management, Inc. Performance Period Ending December 31, Year 3-Year 5-Year Inception Fred Alger (Gross) 15.31% 9.77% 0.74% 6.12% Fred Alger (Net) (est.) 14.98% 9.44% 0.41% 5.79% Russell 1000 Growth Index 15.26% 11.35% 3.12% 5.09% Difference (From Gross) 0.05% -1.58% -2.38% 1.04% Source: BNY Mellon 10.2

3 As shown in the table below, Fred Alger underperformed its benchmark for the watch period (from June 2012), one-year, and three-year periods ending February 28, 2013, by -0.39%, -2.88%, and -1.57%, respectively. Fred Alger outperformed its benchmark for the since-inception period by 0.96%. On a risk-adjusted basis, as of December 31, 2012, Fred Alger generated a three-year return of 9.77%, which was below the benchmark return of 11.35%. The lower return included higher risk with a standard deviation of 18.55% versus 15.66% for the benchmark (see the following chart). Fred Alger LeG Risk/Return us Large Cap Growth Equity Portfolios (USD) - Monthly 3 years ending December 31, 2012 Scatter r , , ~ ~ Q: ". " ~ ~ f '----'---- ~ :~- '1 :-~~----= f 9.00." L...--~-.--~-, -~--r -J.,.--.--r---, -~--r -~-----' Ann SId De\' Source: The Bank olney/york Mellon Corpore!ion Universe Source: RU5sellinvestment GrouP Russell 1000 Growth Index Perf Only RP Fred Alger Lg Growth Source: BNY Mellon 10.3

4 As noted in the next chart, Fred Alger's performance was in the second quartile for the one-year and since-inception periods ending December 31,2012. They were in the third quartile for the three-year period ending December 31, The benchmark returns were in the second quartile for the one-year and three-year periods, and in the third quartile for the since-inception period ending December 31,2012. Fred Alger LCG Peer Group Comparison us large Cap Growth Equity Portfolios (U SOl Monthly As of Oecember 31, 2012 Quartile 25.00, ~I , I I J I ~ r I j ~ ri 0.00 '--, , --"T ---""'''''''''=,ax ly.",r Univlrn Source: RuullllnvKtmlnl Group: UnJIIltl1 Slatul: Cala.rtmcl 3 year RPFtedAlgerLgGrowth RusselllODOGrowth Index Perf Only The following chart illustrates Fred Alger's excess return over its benchmark on a monthly basis for a one-year period. Fred Alger has generated negative relative returns over its benchmark in 8 out of the 12 months for the period ending December 31,2012, or 67% of the time.. Fred Alger LeG 1 year ending Oecember31, 2012 Value Added '.00, , ' II '.00 '---., ,----, , ' Jln"12 Fib Ma, MartelPl'ow:y: RUJu1l1000GrOMl'1lndD: PerrOnly SOurce: The Sank 0 New York Millon Cor onuon - CumulatlvlValulAddld Value Added 10.4

5 Fred Alger underperformed its benchmark for the three-year and five-year periods, by -1.58% and and outperformed its benchmark for the one-year and since-inception periods by 0.05% and 1.04% ending December 31, 2012, respectively. For the threeyear period ending February 28, 2013, Fred Alger generated a return of 12.23% versus the benchmark return of 13.80%, for a difference of -1.57%. Based on Fred Alger's mixed performance over the referenced time periods and the possibility that Fred Alger's three-year performance may qualify them for medium-term watch in the near future, Pension Consulting Alliance (PCA) recommends, and Staff concurs, that the watch status for Fred Alger be extended for a period of up to six months. Staff and PCA will continue to closely monitor Fred Alger's performance. The following documents are attached: Resolution No Correspondence from PCA Resolution No (approved ) ywolfson Investment Officer SB:JW:SV:CM 10.5

6 RESOLUTION NO RESOLUTION TO EXTEND THE WATCH STATUS FOR FRED ALGER MANAGEMENT, INC., LARGE CAP GROWTH WHEREAS, the Retirement Board hired Fred Alger to manage a domestic large-cap growth (LCG) equity mandate for the Retirement Fund (RF) in 2004 and the Retiree Health Benefits Fund (RHBF) in 2009; and WHEREAS, as of February 28, 2013, the market value of the RF account was $442.8 million, and the market value of the RHBF was $73.8 million; and WHEREAS, the accounts with Fred Alger represent an allocation of approximately 5.48% of the Plan which is slightly above the target allocation of 5.25%; and WHEREAS, at the Regular Retirement Board meeting held on May 9,2012, the Board placed Fred Alger on watch status for failing to meet the Plan's short-term performance criteria (Resolution No ), as stated in the Plan's Investment Policy; and WHEREAS, for the one-year period ending September 30, 2012, Fred Alger underperformed its benchmark, the Russell 1000 Growth (R1 OOOG) by 3.14%; and WHEREAS, Fred Alger outperformed its benchmark for the one-year period ending December 31, 2012, by 0.05%; and WHEREAS, for the watch period beginning June 1,2012, Fred Alger underperformed its benchmark one-year and three-year periods ending February 28, 2013, by 0.39%, -2.88%, and -1.57%, respectively; and WHEREAS, Fred Alger has generated negative relative returns over its benchmark in eight out of the twelve months for the period ending December 31,2012, or 67% of the time; and WHEREAS, based on Fred Alger's mixed performance and the possibility that Fred Alger's three-year performance may qualify them for medium-term watch in the near future, Pension Consulting Alliance (PCA) recommends, and Staff concurs, that the Board extend Fred Alger's watch status for a period of up to six months; and WHEREAS, Staff and PCA will continue to closely monitor the performance of the Fred Alger portfolios. NOW, THEREFORE, BE IT RESOLVED, the Retirement Plan Manager is hereby authorized to extend Fred Alger's watch status for a period of up to six months as a result of its underperformance during the watch period, and to inform the investment manager accordingly. I HEREBY CERTIFY, the foregoing is a full, true, and correct copy of a Resolution adopted by the Retirement Board of Administration, [created by Section 1102 (b) of the Los Angeles City Charter], at its regular meeting held on March 27, 2013.,10.6 S~<d:~ Sangeeta Bhatia Retirement Plan Manager

7 Date: March 15, 2013 To: Water & Power Employees' Retirement Plan (WPERP) From: Pension Consulting Alliance, Inc. (PCA) ~ cc: Neil Rue, CFA - PCA David Sancewich - PCA Kay Ceserani - PCA Colin Bebee - PCA Desiree Jablonski - PCA RE: Fred Alger - Large Cap Growth - Watch Update Recommendation Due to the mixed performance results of the Fred Alger Large Cap Growth portfolio over the Watch period, PCA recommends this account remain on Watch status to be closely monitored over the next 6 months. Given the duration the Fred Alger portfolio will have been on Watch by the next review period, PCA may recommend WPERP begin a formal RFP process if performance results do not show signs of improvement. This process would compare Fred Alger to other similar style managers (large cap growth) and mayor may not result in Fred Alger being replaced. Summary WPERP currently employs Fred Alger for a US Large Cap Growth Equity ($516.6 million)1 mandate. WPERP initially retained Fred Alger in the first quarter of 2004 for the Retirement Plan, and in the third quarter of 2009 for the Health Plan. The Fred Alger portfolio was placed on Watch status beginning May 31, 2012, as a result of falling through WPERP's short-term 2 Manager Watch Criteria. Since Inception, the Fred Alger portfolio has outperformed its benchmark by 1.0% annually, gross of fees. Although Fred Alger's portfolio showed signs of improvement at the end of 2012 by outperforming by 50 basis points during the fourth quarter, the portfolio again lagged during the first two months of 2013 resulting in underperformance over the Watch period and the trailing 1-, 3-, 5-year periods. Recent underperformance is a result of stock selection primarily in the Health Care and Consumer Discretionary sectors, as well as the portfolio's 3.2% allocation to Cash. 1 Market values as of February 28, 2013 ($442.8 Retirement Plan & $73.8 Health Plan) 2 Short-tenn criteria: Trailing 1-year underperfonnance greater than (3.0%) for two consecutive calendar quarter end dates, gross of fees 10.7

8 Fred Alger Large Cap Growth Watch Status Update Product and Or anization Review Summa Areas of Potential Impact Level of Concern A Teaml Investment Perfonnance Finn Team Track Record Culture PCA recommends continued Watch status Pending PCA presented findings from on-site visit Receive and File PCA recommended WPERP renew its contract with Fred Alger Approved PCA recommended Watch status due to short-term performance Approved Next review in 6 to 9 months PCA recommended WPERP renew its contract with Fred Alger Approved Fred AI er LeG Russell 7000 Growth Index Difference Source: BNY Mellon, MPI, LDZ *Annualized for periods greater than one year -First full month ofperformance 10.8

9 Background WPERP's total exposure to the Fred Alger Large Cap Growth strategy was approximately $516.6 million ($442.8 million Retirement Plan and $73.8 million Health Plan) as of February 28, WPERP initially retained Fred Alger in the first quarter of 2004 for the Retirement Plan and in the third quarter of 2009 for the Health Plan. The Fred Alger portfolio was placed on Watch status beginning May 31, 2012, as a result of falling through WPERP's short-term 3 Manager Watch Criteria. Since Inception, Fred Alger has outperformed its benchmark by 1.0% annually, gross of fees. Discussion Performance Review PCA's analysis finds that the Fred Alger Large Cap Growth portfolio has produced improved performance over the Watch period ending December 31, The previous table on Page 2 details Fred Alger's calendar year performance results, as well as trailing period performance results as of December 31,2012. In regard to the trailing periods, Fred Alger has matched or outperformed the Russell 1000 Growth Index over the Watch period as well as the latest quarter, trailing 1-year, and since inception periods, but underperformed the benchmark over the trailing 3- and 5-year periods. Stock selection was the main cause for underperformance over these periods; stock selection in the Consumer Discretionary, Financials, and Energy sectors were the primary detractors over the 3-year period, while stock selection in Technology, Consumer Staples, and Financials hurt relative performance over the 5-year period. The following chart shows Fred Alger's rolling 1-year relative performance versus the Russell 1000 Growth Index for each quarter since Fred Alger was retained for the Retirement Plan. The portfolio has been above WPERP's short-term Manager Watch Criteria for active domestic equity managers for the last calendar quarter end. 1-Year Rolling Performance, Gross of Fees Since Inception: 2/28/ / , , Violated Watch Criteria here Fred...g... Bass -1G'--r------,-----r---..,.-----r ,- ----,----r---..,.----r , ,----r--~ Ma"-ai Da:>-ai JLn-03 Da>lB Jln-CJ7 Da>07 JIn-lB Da>CB Jln-03 Da>03 Jln-10 Da>10 Jln-11 Da>11 Jt.n.12 Da>12 3 Short-tenn criteria: Trailing 1-year underperfonnance greater than (3.0%) for two consecutive calendar quarter end dates, gross of fees 10.9

10 Over the 7 month Watch period ending December 31, 2012, the Fred Alger Large Cap Growth portfolio has exceeded its Russell 1000 Growth index by 10 basis points. The following chart illustrates the growth of $100 for both the Fred Alger Large Cap Growth portfolio and the Russell 1000 Growth Index since WPERP placed Fred Alger on Watch status. Cumulative Performance, Gross of Fees Watch Period: 5/31/12-12/31/12 11~~ ~ ~ ~~ walch Period Annualized performance : =lgl~q"a.tlhlrdalc Fred Alger LeG 7.7% Russell 1000 Growth Index 7.8% l(djo1!!"' r----, r , r----~--~ May.12 Jtn.12 JLl-12!'<.g-12 Sep-12 (k$.12 N~12 De<>-12 Other Considerations Ownership Alger Associates, Inc. is 100% owned by members of the Alger family and is a female-owned as current owners are the three daughters of the founder, Fred Alger. It is the owner of 100% of the shares of Fred Alger Management, Inc., which was formed in Fred Alger has programs that allow key employees to participate in the long-term financial success of the Firm. The Alger Partners' Plan, approved by the Board on December 31, 2009, represents 5% of the value of the Firm. The current members of the Alger Partners' Plan include Dan Chung, CFA, EVP, CEO, CIO; Jill Greenwald, CFA, EVP, Portfolio Manager; Patrick Kelly, CFA, EVP, Portfolio Manager; Hal Liebes, EVP, COO, Chief Legal Officer; and James Tambone, EVP, Chief Distribution Officer. Additionally, the Firm has made a fully vested grant of phantom equity to its CEO equal to 5% of the value of the Firm. This grant is intended to provide the CEO with all equivalent rights of equity ownership, including a pro-rata right to growth in the Firm's book value, dividend payments and participation in any significant corporate transactions (e.g. partial sale, initial public offering, merger, etc.). Investment Team Fred Alger's Large Cap Growth investment team is headed by Dan Chung and supported by 31 career analysts. The analysts, organized by sector, work up and down the market cap spectrum and are the foundation of Fred Alger's culture and process. Collectively, Fred Alger utilizes one team throughout all of their portfolios. Overall, Fred Alger's analyst team has been consistent; 10.10

11 however, there has been turnover in coverage of the Health Care sector. Due to underperformance in the Health Care sector beginning in 2009, Fred Alger sought and hired a new sector head, Maria Liotta, in November 2010 ultimately resulting in the departure and replacement of three analysts (Rosanne Ott, Dr. David Farhadi, and Peter Pirsch) in Since that time three analysts have joined the Health Care team: Soon Hyouk Lee (May 2011), Joel Emery (April 2012), and Karen Jay, Ph.D. (February of 2013). Investment Philosophy and Process Fred Alger employs an active fundamental, bottom-up, analyst-driven process to create a portfolio of best ideas that consists of companies demonstrating positive dynamic change. The analysts interview company managements and independent industry contacts, conduct surveys, study public documents, and build proprietary financial models. Each company is examined under multiple scenarios (bull, bear, and base) to better understand risk and reward characteristics and to test the conviction of their assumptions. Each scenario includes five-year models for revenue, earnings, free cash flow, and sector and company specific inputs. After in-depth dialogue between analysts and portfolio management, in which conviction is tested and sectors are prioritized, a portfolio is constructed and optimized based on the analysts' best ideas across all sectors. The portfolio is typically comprised of stocks diversified across various sectors. Assets Under Management As of December 31, 2012, Fred Alger managed approximately $16.7 billion in assets, including $1.1 billion in the Large Cap Growth strategy that WPERP is invested in. Although both firm-wide assets and product assets have remained somewhat stable, primarily fluctuating with the market, they have both lost clients over the last year. PCA will continue to monitor this trend. Firm-wide I Fred Alger LeG Strategy Assets Assets (millions) Accounts (millions) Accounts $16, $1, $14, $1, $15, $1, $12, $1, $8, $1, Source: evestment Alliance _1 5

12 Performance Update - As of February 2013 (Preliminary) As of February 2013, the Fred Alger portfolio, gross of fees, outperformed its benchmark over the since inception period; however, the portfolio lagged its benchmark by (0.5%) year-to-date, (2.9%) over the trailing 1-year, (1.4%) over the 3-year, (1.3%) over the 5-year, and (0.4%) over the Watch period. Recent underperformance is a result of stock selection in the Health Care and Consumer Discretionary sectors as well as the portfolio's allocation to Cash. Fred AI er LeG Russell 7000 Growth Index Difference Source: BNY Mellon, MPI, LDZ *Annuelized for periods greeter then one yeer -First full month ofperformance, 0.'2

13 RESOLUTION NO RESOLUTION TO PLACE FRED ALGER MANAGEMENT, INC., LARGE CAP GROWTH MANAGER ON WATCH STATUS WHEREAS, the Retirement Board hired Fred Alger Management, Inc., (Fred Alger) to manage an active Large Cap Growth (LCG) mandate for the Retirement Fund (RF) in February 2004 and for the Retiree Health Benefits Fund (RHBF) in September 2009 with initial funding of $243.6 million in the RF and $44.5 million in the RHBF; and WHEREAS, as of March 31, 2012, the market value of the RF account was $424.8 million, and the market value of the RHBF was $70.8 million; and WHEREAS, the Plan's Investment Policy provides that LCG managers may be placed on short-term performance watch status if they underperform their benchmark by more than 3.0% over a 12-month rolling period for two consecutive quarter ending periods; and WHEREAS, Fred Alger has underperformed its benchmark, the Russell 1000 Growth Index, by 8.46% for tile one-year period ending March 31,2012; and WHEREAS, Fred Alger underperformed its benchmark in nine out of the twelve months for the one-year period, ending March 31,2012; and WHEREAS, representatives from Pension Consulting Alliance (PCA) recommend, and staff concurs, that Fred Alger be placed on watch status for a period of up to nine months for not meeting the Plan's short-term performance criteria; and WHEREAS, PCA and staff will continue to closely monitor the performance of the Fred Alger portfolio in the RF and RHBF over the next nine months. NOW, THEREFORE, BE IT RESOLVED, the Retirement Plan Manager is hereby authorized to place Fred Alger on watch status for a period of up to nine months for failing to meet the Plan's short-term investment performance criteria for the Plan's active LCG equity markets mandate, and to inform the investment manager accordingly. I HEREBY CERTIFY, the foregoing is a full, true, and correct copy of a Resolution adopted by the Retirement Board of Administration, [created by Section 1102 (b) of the Los Angeles City Charter], at its regular meeting held on May 9, FILE COpy ~44L ~Bhatia Retirement Plan Manager 10.13