NEW YORK (Reuters) - Investment strategists at Calstrs are recommending the No. 2 U.S. pension fund invest up to $2.5 billion in commodities in the next three years, one of the largest institutional allocations planned for the sector.
They also suggest the $132 billion California State Teachers Retirement System not just invest passively in commodity indexes -- as institutional investors have typically done in the past -- but also in actively-managed hedge funds and physical production of raw materials, according to a paper used earlier this month to brief its pensions board.
"Rather than passively investing in commodities, staff advocates a range of active strategies to potentially hedge inflation, profit from commodity price moves up or down and reduce volatility," Calstrs' investment committee staff said in the paper, a copy of which was obtained by Reuters on Thursday.
In a more detailed recommendation to the Calstrs board three months after it voted in favor of a commodities investment, the committee recommended allocating up to 1.5 percent of its assets to commodities over three to five years, rising from below $150 million in the first year to nearly $2.5 billion by the third year.
An investment staff at Calstrs said the board was to be briefed again on the commodities investment plan in October.
"At this point, no decision has been made as yet," the staff said, stressing the plan was still in discussion stage.
The paper presented to Calstrs' board is among the best evidence yet that major institutional investors are still interested in expanding the estimated $300 billion that has been invested in commodity markets over the past decade.
But the approach toward the sector may be changing, as new strategies are sought to maximize returns at a time of highly correlated performance and negative roll returns on futures.
While the first wave of investment years ago had bet commodity markets would offer diversification from equities and bonds, that argument broke down as many markets moved in sync.
The staff recommended that Calstrs adopt a three-pronged strategy comprised of investments in commodity index futures and swaps; hedge funds and trend-following funds; and physical commodity-producing partnerships.
"For example, in the first year of implementation, it is expected that commodities investments would only amount to less than $150 million, but grow to nearly $2.5 billion by the end of Year 3," the said the paper, presented by Calstrs investment staff Carrie Lo and Steven Tong and endorsed by Chief Investment Officer Christopher Ailman.
Calstrs's investment team recommended using the Dow Jones UBS index .DJUBS for the pensions' index futures portfolio, saying it had a more balanced exposure to the different commodity sectors than the energy-dominant SPGSCI .SPGSCI.
Calstrs' foray into commodities is expected to come under its Absolute Return asset class, which targets about 5 percent of the fund's assets, or just under $7 billion.
The investment staff at Calstrs also gave their board the option of having a smaller trial investment of $300 million to $500 million for commodities in a different asset class, although they said they preferred a bigger allocation.
(Reporting by Barani Krishnan; Editing by Alden Bentley)
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