Hedge fund?got $38M?from S.C.

Curtis Loftis

NEW YORK — Mariner Investment Group, a hedge fund founded by a former Bear Stearns executive, charged South Carolina’s public pension fund more than any other manager while delivering returns that trailed competitors.

Mariner, started by William Michaelcheck, 65, received $38 million in fees from the S.C. Retirement Systems in fiscal 2011, or 16 percent of all the compensation paid to the systems’ money managers, which totaled $239 million, according to pension officials.

The performance of Mariner’s investments for South Carolina lagged behind those of managers such as Bridgewater Associates, the world’s biggest hedge fund by assets.

Mariner funds returned from ?2 percent to 13 percent last year, while Bridgewater’s delivered 17 percent to 24 percent. Bridgewater collected $25 million in fees, or 34 percent less than Mariner, while managing $1.3 billion in assets compared with Mariner’s $930 million.

“We take the risk and we pay the fees, but we don’t get the reward,” said state Treasurer Curtis Loftis, a Republican who was elected in 2010 and has been pushing to reform the pension system. “I think it’s systemic. I think it’s happening all across the country.”

Public pensions, seeking to boost returns and reduce volatility after the financial crisis decimated global stock markets, have increased assets allocated to alternative investments such as hedge funds and private equity.

Fees for those investments are higher than for traditional stock and bond funds, and returns sometimes trail the 8 percent average yearly gains officials set as their benchmark to keep up with the rising pension costs for public employees.

The $26.2 billion South Carolina pension fund, which raised its holdings of alternative assets to about 40 percent of its portfolio in fiscal 2011 from nothing in 2007, is re-evaluating the costs it incurs and demanding a better accounting of expenses, Loftis said.

Mariner’s contracts with the South Carolina pension “have recently been renegotiated to ensure alignments of interest and a fee structure commensurate with the desired risk and return profile of the investments,” said Adam Jordan, chief of staff for the state’s investment commission, in an e-mailed response to questions.

While total fees have tripled in the past three years, South Carolina’s pension returns have sometimes been lower than those for funds of comparable size.

For the three years ended June 30, 2011, South Carolina’s pension returned 3.1 percent, not including fees, compared with about 3.9 percent for public funds with assets greater than $5 billion, according to the Wilshire Trust Universe Comparison Service.

South Carolina’s pension jumped into hedge funds, private equity and other alternative investment strategies under its former chief investment officer, Robert Borden.

Borden said cutting the fund’s allocation to stocks to about 30 percent from about 60 percent made it less risky. On a risk-adjusted basis, South Carolina’s was the best-returning pension fund, he said in an interview.

It’s not fair to judge the pension’s performance based on one snapshot, he said. For the three years ended Dec. 31, 2011, South Carolina’s pension returned 12.1 percent compared with about 10.4 percent for similar public funds, according to Wilshire TUCS.

“When you have periods where the equity market rallies up sharply, anybody who’s got that long exposure experiences good performance,” Borden said. “The portfolio is positioned to be very defensive against equity-market selloffs.”

Mariner manages $4.7 billion and has a multistrategy approach focused on fixed income and credit arbitrage. The firm has 180 employees. Michaelcheck didn’t return telephone calls seeking comment.

A lack of transparency regarding the underlying assets held by alternative managers, and fee arrangements hidden from the public eye, present a danger to retirees and taxpayers, Loftis said.

The treasurer said the investment commission has denied requests for records, including a detailed accounting of expenses.

Mariner’s $38 million in fees are equivalent to the average annual pension benefit paid to 2,000 of the South Carolina pension’s retirees.

“You can’t explain this to a non-Wall-Street person,” Loftis said. “If I’m going to pay a bill, I want to know what I’m paying.”

Borden, who joined the South Carolina fund in 2006, was charged with diversifying the state’s pension following a November 2006 legal change allowing it to invest in assets other than domestic stocks and bonds.

South Carolina was among the first to set up “strategic partnerships” of $750 million to $1.5 billion with Goldman Sachs, Morgan Stanley, TCW Group and Mariner to deploy capital across asset classes.

The state benefits from the breadth of strategies offered by the firms and the ability to move faster on deals, Borden said. It was also less costly than hiring scores of managers, he said.

Borden resigned in December and now works for Delegate Advisors, a financial adviser.

South Carolina’s pension has strategic partnerships with a total of seven firms that manage about $6 billion.

In October 2008, South Carolina committed $750 million to Mariner, establishing Mariner/Palmetto State Partners. The money was split between strategies such as government bond and mortgage-backed security arbitrage or distressed debt trading.

Each of the underlying hedge funds charges a management fee and a performance fee, according to a form Mariner filed with the Securities and Exchange Commission.

In addition to management and incentive fees, South Carolina pays Mariner’s traders. In a year in which some traders make money and others lose, the pension still has to pay the winning traders a certain percentage, which isn’t offset by the losing traders, said Allen Gillespie, chairman of the S.C. Investment Commission.

“Say one guy loses $5 million, so he doesn’t make any performance fee and the other guy makes $5 million, you haven’t made any money but you just had a bunch of fees paid,” Gillespie said. “That’s different from a lot of other firms.”

South Carolina’s investment commission didn’t disclose the fees paid to each of its more than 60 managers in its annual report. A separate comprehensive annual financial report filed by the pension discloses only $69 million in fees paid to 25 funds.

Bloomberg News obtained a list of fees paid to managers under a public-records request. The pension denied requests for documents showing the terms of the strategic partnership with Mariner or its gross returns.

Seven firms — Apollo, Bridgewater, D.E. Shaw, Goldman Sachs, Mariner, Morgan Stanley and Selene Investment Partners — collected $137.6 million, or 58 percent of total fees paid in fiscal 2011, records show.

Borden, the state’s former investment chief, said benefits of the alternative investments justify the expense. Alternative-asset managers generated $1 billion above benchmarks over three years, he said.

“We paid more, but we got more,” Borden said.