US - The investment committee of the California Public Employees' Retirement System will discuss the merits of using a leveraged allocation to fixed income as part of its portfolio strategy.
At a February 16 meeting, the board will review how leveraged bonds could improve the scheme's risk/return profile.
In a memo to the board, staff said equity allocations typically introduce more risk to the overall portfolio than their portfolio weightings. For example, a portfolio with a 40% allocation to equities and 60% allocation to bonds will contribute an equity risk of 76% to the total portfolio, staff wrote.
However, when that same portfolio includes a 60% allocation to bonds levered two times, the equity risk in the portfolio falls to 49%, while the Sharpe ratio increases from 0.7 to 0.8.
The memo said: "The risk diversification advantages of employing levered bonds in a portfolio with equities has prompted some pension funds to consider employing leveraged allocations to fixed income as part of their diversified portfolio strategy."
But staff warned the strategy could introduce interest rate risk that wasn't there before. The use of leverage could also enhance losses if fixed income posts negative returns.
Separately, CalPERS staff plans to issue a request for proposals for a new custodian once the current contract with State Street Bank and Trust expires. State Street was hired in July 2006 for a three year period with the potential for two, one-year expansions. Their contract was extended through June 30,2010, and staff plans to renew it for an additional year. CalPERS will issue an RFP in July.
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