ISSUE NO: 15

THE CORTEX REPORT

Research Papers and Articles

DECEMBER 2011

This report lists selected research papers and articles published over the past three months in academic journals, industry publications, as well as popular magazines and periodicals. We believe they may be of interest to trustees and staff of large institutional funds in North America. Table of Contents TOPICS
Alternative Investments Asset Allocation Defined Contribution & 401(k) Plans Equity Management Finance & Economics Governance Inflation Protection International Investments Investment Management & Portfolio Strategy Pension Finance & Funding Pension Fund Management Private Equity Public Sector Pension Plans Real Estate & Other Real Assets Retirement Planning Risk Management Venture Capital

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AUTHOR(S) Asset Allocation

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PUBLICATION

ISSUE DATE

Investment Strategy and The Power of Expectations: Aligning Asset Solutions Group Allocation with Macro Regime Changes

BNY Mellon Asset Management

November 2011

Summary or Abstract: As institutional investors re-think their asset allocation approaches, BNY Mellon's Investment Strategy and Solutions Group (ISSG) has found that dynamically adjusting asset class exposures as growth and inflation expectations shift has the potential to improve riskadjusted returns. Analyzing more than 40 years of economic and market performance data, the ISSG has created an approach aimed at anticipating changes in macroeconomic regimes in order to adjust allocations accordingly. They believe their approach has the potential to provide not only higher long-term return but also better downside protection during periods of market stress, such as the bursting of the tech bubble in the early 2000s and the global financial crisis of 2007-2009. Web link: http://us.bnymellonam.com/core/library/documents/knowledge/AssetAllocation/sAAMacroRegime.p df James Gannon Modeling Illiquidity in a Multi-Period Stochastic Projection Russell Investments November 2011

Summary or Abstract: When projecting portfolio values for the purposes of an asset allocation study or strategic review, the calculations become more complex if illiquidity is taken into account. How can illiquidity be modeled in this context? This note discusses that in a multi-period projection model (such as that used by Russell) which allows for rebalancing or other changes to allocations at future points can be adapted to include total or partial restrictions on the future buying or selling of specific asset classes i.e., to take illiquidity into account. Web link: http://www.russell.com/institutional/research_commentary/modeling_illiquidity.asp Joseph Davis, Roger Aliaga-Daz and Andrew J. Patterson Asset Allocation in a Low-Yield and Volatile Environment Vanguard November 2011

Summary or Abstract: What's a reasonable outlook for U.S. stocks and bonds over the next decade, and what should an investor do about it? New Vanguard research finds that, despite the turbulence and low yields plaguing markets today, the outlook could be better than you might expectand the potential benefits of a diversified asset allocation including stocks and bonds endure. Web link: https://institutional.vanguard.com/VGApp/iip/site/institutional/researchcommentary/article/InvResA llocationVolatile

Defined Contribution & 401(k) Plans

Laurence Booth and Bin Chang The Global Financial Crisis and the Performance of Target-Date Funds in the United States Rotman International Journal of Pension Management Fall 2011

Summary or Abstract: The authors analyze asset allocations and performance of target-date funds in the United States from 2006 to May 2009. The good news is that the performance of target-date funds is consistent with greater risk and better performance for longer-dated funds. The bad news is that on average, target-date funds invested 75% in common equity, which generated average losses of over 30% in 2008. The most striking result is that the 2010 date funds significantly increased their common equity exposure in 2007, immediately before the stock market crash of 2008, resulting in significant losses for investors planning to retire in 2010. Web link: http://www.rijpm.com/article/the-global-financial-crisis-and-the-performance-of-targetdate-funds-in-the-united-states

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Aon Hewitt and Financial Help in Defined Contribution Plans: 2006 Engines Through 2010

Aon Hewitt and Financial September Engines 2011

Summary or Abstract: This report looks at the impact of professional investment helptargetdate funds, managed accounts, and online advice, collectively referred to as Help throughout this reportin employer-sponsored defined contribution plans. It includes analysis of eight large 401(k) plans representing more than 425,000 individual participants with $25 billion in plan assets. By linking participant Help usage with actual results, the authors were able to observe how participant behavior affected portfolio risk and returns during the five-year period between January 1, 2006 and December 31, 2010, which was one of the most volatile periods in the stock markets history. Web link: http://www.aon.com/human-capital-consulting/thought-leadership/retirement/reportspubs_help_defined_contribution_plans.jsp David Wray A Stress Test for the Private Employer Defined Contribution System Pension Research Council, The Wharton School September 2011

Summary or Abstract: This paper explores how the US private employer-sponsored defined contribution system fared during the financial market implosion followed by a prolonged macroeconomic downturn. While data are still preliminary, it concludes that many plans did well, resulting in little change in employer sponsorship and employee participation. Moreover, account balances and contributions have recovered, boding well for the future. Web link: http://www.pensionresearchcouncil.org/publications/document.php?file=983 Principal Financial Group How to Move from a Popular Plan to a Successful Plan Principal Financial Group September 2011

Summary or Abstract: It is one thing to provide a retirement plan. Its quite another to ensure that employees participate at savings levels that will really help get them ready to retire. While plan sponsors understand the value of a retirement plan for attracting and retaining quality employees, increasingly they are concerned about another important outcome: are participants really on track to retire securely? In an era of increasingly longer life spans and increasing responsibility for saving on the shoulders of participants traditional measures of participation and salary deferral rates no longer tell the full story. Popular doesnt always mean successful when it comes to retirement plans. We need to shift the conversation toward calculating retirement income replacement ratios at the plan level. This paper offers a more comprehensive measure of retirement readiness plus specific ways financial professionals and plan sponsors can move the savings needle through affordable plan design changes. Web link: https://secure02.principal.com/publicvsupply/GetFile?fm=PQ8167T&ty=VOP&EXT=.VOP Lew Minsky, Lori Lucas and Suzanne van Staveren Institutionalizing DC Plans: Reasons Why and Methods How Defined Contribution Institutional Investment Association (DCIIA) October 2011

Summary or Abstract: The expanding role of defined contribution (DC) plans in providing retirement income to working Americans is adding urgency to the question: Are DC plans capable of filling this role effectively? If the answer is less than a resounding yes, the follow-on question might be, how do we strengthen todays DC plans to deliver more robust income adequacy? One answer that many in the retirement field are at least considering is institutionalization. The term implies many things, and the approaches that institutional strategies encompass are also varied. In this paper, DCIIA examines what is meant by institutionalization, how plan sponsors might go about adopting institutional strategies in their DC plans, and possible benefits of doing so as well as potential barriers to overcome. Web link: http://www.pionline.com/apps/pbcs.dll/dcce?date=20111019&module=4&category=whitepapers&class=5&type=editorial&id=2649915

AUTHOR(S)
John A. Haslem

TITLE
Mutual Funds and 401(k) Pension Plan Fees, Services, and Performance

PUBLICATION
Journal of Index Investing

ISSUE DATE
Winter 2011

Summary or Abstract: Mutual funds are the primary providers of investment management services to 401(k) pension plans. This article examines the various fees paid by 401(k) pension plans. The author reviews scenarios under which 401(k) pension plan fees are lower. In addition, he discusses empirical findings concerning how the actions of plan administrators and plan participants affect selection and performance of pension funds and participant mutual fund allocations. Web link: http://www.iijournals.com/doi/abs/10.3905/jii.2011.2.3.044

Equity Management
Jonathan Lewellen Institutional Investors and the Limits of Arbitrage Journal of Financial Economics October 2011

Summary or Abstract: The returns and stock holdings of institutional investors from 1980 to 2007 provide little evidence of stock-picking skill. Institutions as a whole closely mimic the market portfolio, with pre-cost returns that have nearly perfect correlation with the value-weighted index and an insignificant CAPM alpha of 0.08% quarterly. Institutions also show little tendency to bet on any of the main characteristics known to predict stock returns, such as book-to-market, momentum, or accruals. While particular groups of institutions have modest stock-picking skill relative to the CAPM, their performance is almost entirely explained by the book-to-market and momentum effects in returns. Further, no group holds a portfolio that deviates efficiently from the market portfolio. Web link: http://www.sciencedirect.com/science/article/pii/S0304405X11001358 Nick Sykes Alternative Indexation Mercer November 2011

Summary or Abstract: In an earlier paper, the author pointed out a number of disadvantages with the current, conventional approaches to equity portfolio construction. In this paper, he focuses on the index-tracking approaches that will enable investors to avoid the particular issue of asset price bubbles that can occur in market cap-weighted indices. Web link: http://www.mercer.com/articles/alternative-indexation Frank Nielsen, Giacomo Fachinotti and Xiaowei Kang The New Classic Equity Allocation? A Discussion on the Implementation of the Global Equity Allocation and Evolving Mandate Structures Journal of Investing Winter 2011

Summary or Abstract: The recent financial crisis led many institutional investors to review their asset allocation policies and explore alternative approaches to implementation. MSCI recently held discussions around the world with major pension plans, asset managers, and investment consultants to understand different approaches to implementing equity allocation. Following these consultations, the authors provide a framework for the implementation of global equity allocation. Their research suggests that global equity mandates, together with dedicated emerging market mandates and small-cap mandates, may be emerging as the new classic structure for implementing equity allocation. Investors who need to maintain a home bias can manage the domestic portfolio separately. Such a top-down mandate structure not only accrues benefits from the potential merits of an integrated global investment process, but accommodates segmentspecific considerations on manager selection, legacy or mandatory home bias, and different risk and return drivers in various equity market segments. Web link: http://www.iijournals.com/doi/abs/10.3905/joi.2011.20.4.071

AUTHOR(S) Finance & Economics

John Nuge

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PUBLICATION

ISSUE DATE

The Financial, Economic and Political Consequences of the European Debt Crisis

State Street Global Advisors

November 2011

Summary or Abstract: The European debt crisis has become the dominant issue not just in European markets, but in global finance. The world is watching in fascination and with considerable concern as European governments struggle to bring stability back to their national finances and banking systems, and the European Union (EU) works to stave off defaults and banking collapse. Much hangs on their efforts, including possibly the fate of the euro itself. This note explores some of the possible consequencesfinancial, economic and politicalof the situation that faces the governments and people of Europe, and of the actions Europes leaders are likely to take to tackle the crisis. Web link: http://www.ssga.com/webapp/PublicationDetails?cmId=38168411&country=OIG&language=EN Michael Lewis The King of Human Error Vanity Fair December 2011

Summary or Abstract: Billy Beanes sports-management revolution, chronicled by the author in Moneyball, was made possible by Israeli psychologists Daniel Kahneman and Amos Tversky. At 77, with his own new book, Thinking, Fast and Slow, the Nobel Prize-winning Kahneman reveals the built-in kinks in human reasoningand hes Exhibit A. Web link: http://www.vanityfair.com/culture/features/2011/12/michael-lewis-201112

Governance
James Hawley, Keith Johnson and Ed Waitzer Reclaiming Fiduciary Duty Balance Rotman International Journal of Pension Management Fall 2011

Summary or Abstract: Fundamental fiduciary principles have survived intact for centuries, yet their interpretation has been dynamic. Given changes over the past few decades in global economic, capital management, and market structures, we appear to be at another inflection point in the understanding of fiduciary principles. Years of focus on the fiduciary duty of prudence has generated myopic investment herding behaviors, undermined intergenerational pension equity, and disrupted attention to the fiduciary duties of loyalty and impartiality. Reclaiming fiduciary duty balance between prudence, loyalty and impartiality is critical to sustaining pension promises. It would encourage better alignment of pension service providers' supply chain interests, adoption of fit-for-purpose pension fund governance practices, and implementation of precautionary risk management policies. Web link: http://www.rijpm.com/article/reclaiming-fiduciary-duty-balance Brian Frick A Governance Check Up: How Is Your Multi-Employer Plan Doing? Russell Investments October 2011

Summary or Abstract: Governance is key to establishing the framework that drives how decisions are made. It is the process you and your fellow multi-employer plan trustees follow to make decisions. Governance matters because a better process has a better chance at leading to a good outcome than a poorly designed process. The goal of a governance structure is to limit fiduciary and financial risk, which can be vital in helping to ensure positive results for plan participants. This brief article summarizes results from a recent survey about fund governance, outlines some best practices, and highlights practical action steps you can consider applying to your fund. Web link: http://www.russell.com/institutional/research_commentary/governance_check_up.asp

AUTHOR(S) Inflation Protection

Brian Upbin, Anand Venkataraman and Scott Harman

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PUBLICATION

ISSUE DATE

Inflation-Linked Index Products: An Overview

Journal of Indexes

September/ October 2011

Summary or Abstract: Inflation is an important risk factor for investors concerned about the purchasing power of future cash flows to be received or future liabilities to be paid. This is true for traditional debt investors seeking a positive real return on assets; for pension plans; and for other asset owners with future cash flow obligations that must be funded by their investment portfolios. It is also the case for bond issuers who must compensate for inflation risk in the interest rate they are required to pay. To address these risks, bond investors may seek high positive real returns with traditional fixed-income assets or tap into a large and growing component of the fixed-income/OTC derivative universe that is directly linked to inflation. These inflation-linked bond and swap instruments offer returns or payoffs that are linked to inflation, but have also created an opportunity to express directional market views on expected inflation by comparing the valuations of inflation-linked and nominal assets. Web link: http://www.indexuniverse.com/publications/journalofindexes/joi-articles/9741-inflationlinked-index-products-an-overview.html

John Twomey, Jason Assessing Managed Futures as an Inflation Journal of Wealth Foran and Conor Brosnan Hedge within a Multi-Asset Framework Management

Winter 2011

Summary or Abstract: This article examines the extent to which various asset classes, including managed futures, stocks, bonds, commodities, and gold, have hedged against inflation. The study uses data from the U.S. consumer pricing index from 1980 to 2011 as its measure of ex post inflation. The authors note the relative nominal and real performance of each of these asset classes and their relationship to inflation over several different time horizons. Using regression analysis, they find that managed futures provide a robust hedge against inflation, increasingly so over longer time frames. Equities and gold showed little relationship to inflation over any period while commodities display protection at shorter timeframes. Bonds were found to exhibit a significantly negative relationship with inflation over shorter time periods while a positive relationship was found over longer periods. In addition, they examine the relationship between the asset classes and the expected and unexpected components of inflation. Here they show that managed futures provided protection against expected inflation with commodities displaying a strong positive relationship to short-term, unexpected inflationary shocks. Bonds were shown to have a strong negative relationship to these same shocks. Overall, they find that managed futures display a strong protection profile with other asset classes failing to preserve wealth in certain inflationary environments over the entire 30-year sample period. Web link: http://www.iijournals.com/doi/abs/10.3905/jwm.2011.14.3.033

International Investments
AllianceBernstein An All-Encompassing Approach to Emerging Markets AllianceBernstein September 2011

Summary or Abstract: The economic growth and newfound fiscal strength of many emerging countries have created a dilemma for investors. Expectations of future growth are alluring, but their financial markets remain highly volatile. Is it possible to reduce emerging markets volatility without sacrificing return potential? The AllianceBernstein research indicates that a portfolio with emerging stocks, bonds and currencies, managed in an active, unconstrained and integrated strategy, can capture a greater set of opportunities in order to seek the high returns associated with emerging-market growth, with better risk management potential. Web link: https://www.alliancebernstein.com/Research-Publications/WhitePapers/EMMA/Stories/Content_RET_Intl/EMMA.htm

AUTHOR(S)
William Perry

TITLE
The Case For Emerging Market Corporates

PUBLICATION
Journal of Indexes

ISSUE DATE
September/ October 2011

Summary or Abstract: Since early 2000, EM corporate debt has evolved from a marginal market with $20 billion in annual issuance volume (mostly from Latin American issuers) to a global market with average annual issuance in excess of $100 billion with representation from all four major regions (Asia, Latin America, Central and Eastern Europe, and the Middle East/Africa). EM corporate fixed income has effectively become an asset class in its own right, with projections that outstanding corporate debt will exceed $1 trillion in the next several years. Web link: http://www.indexuniverse.com/publications/journalofindexes/joi-articles/9739-the-casefor-emerging-market-corporates.html Individual Country Or Broad-Market Journal of Indexes September/ Christopher Philips, Exposure? October 2011 Roger Aliaga-Daz, Joseph Davis and Francis Summary or Abstract: With recent events in Egypt leading to suspension of that countrys Kinniry investment market activity and the closure of its stock exchange, the question of the risks inherent in emerging market investing is on many investors minds. While the authors do not believe recent events warrant a flight of capital from emerging markets, they do believe that the situation represents an opportunity for investors to consider the best way to access emerging market stocks. They delve into the risks of shifting an emerging market allocation away from broad, diversified coverage to a more concentrated focus. They conclude that diversifying across emerging market countries helps to minimize idiosyncratic or uncompensated risks and is analogous to diversifying across individual companies in developed markets. Web link: http://www.indexuniverse.com/publications/journalofindexes/joi-articles/9740individual-country-or-broad-market-exposure.html Michael Branch The Case For Global Stock Portfolios Journal of Indexes November/ December 2011

Summary or Abstract: When investors choose their asset allocation for international stocks, they have tended to carve up the world between developed markets and emerging markets, based on the assumption that these two are sufficiently distinct asset classes to justify treating them separately. However, trends in globalization and the increasing size and importance of emerging markets have brought into question a number of old assumptions about the best way to categorize and invest in global stocks. Web link: http://www.indexuniverse.com/publications/journalofindexes/joi-articles/10094-thecase-for-global-stock-portfolios.html Michael Keppler and Peter Encinosa The Small-Country Effect Revisited Journal of Investing Winter 2011

Summary or Abstract: In an earlier study, researchers showed that the smaller national equity markets in the MSCI Developed Markets universe returned 19.19% compounded annually during the years from December 31, 1975, through June 30, 1992. These results compare favorably with the 12.67% total compound return of the MSCI World Index during the same period. Moreover, the small markets had lower downside risk characteristics than the MSCI World Index. Now, more than 18 years later, the authors revisit the concept of investing in national equity markets based solely on their size as measured by their respective market capitalization. They cover the 40-year period from December 31, 1969, through December 31, 2009, more than doubling the test period of the 1993 study. Web link: http://www.iijournals.com/doi/abs/10.3905/joi.2011.20.4.099

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Investment Management & Portfolio Strategy

Dimitris Melas, Remy Briand and Roger Urwin Harvesting Risk Premia with Strategy Indices MSCI September 2011

Summary or Abstract: Systematic risk premia such as value, size or momentum can account for a substantial part of long-term institutional portfolio performance. Over the last few years, we have seen the development of many new indices that reflect systematic risk premia, opening up the possibility to capture risk premia through indexation. Yet, the institutional asset allocation process continues to focus more heavily on the selection of active managers rather than the selection and combination of risk premia, despite growing evidence that risk premia contribute more to the longterm performance of the portfolio. We argue that the focus of institutional asset allocation may shift from diversification across managers in multiple alpha mandates towards diversification across strategy betas in multiple index mandates. Allocations to risk premia strategies could be based on the expected risk and performance characteristics of different strategies. Substituting traditional mandates with risk premia strategies has historically reduced volatility and enhanced long-term risk adjusted performance of a sample institutional portfolio. Indexation can play a crucial role in redefining institutional portfolio construction by providing low cost easily accessible building blocks for strategic asset allocation. Web link: http://www.msci.com/resources/research_papers/harvesting_risk_premia_with_strategy_indices.ht ml Tzee-man Chow, Jason Hsu, Vitali Kalesnik and Bryce Little A Survey of Alternative Equity Index Strategies Financial Analysts Journal September/ October 2011

Summary or Abstract: After reviewing the methodologies behind the more popular quantitative investment strategies offered to investors as passive equity indices, the authors devised an integrated evaluation framework. They found that the strategies outperform their cap-weighted counterparts largely owing to exposure to value and size factors. Almost entirely spanned by market, value, and size factors, any one of these strategies can be mimicked by combinations of the others. Thus, implementation cost is a better evaluation criterion than returns. Web link: http://www.cfapubs.org/doi/abs/10.2469/faj.v67.n5.5

Emanuel Derman

How to Understand the Limits of Financial Models

Institutional Investor

October 2011

Summary or Abstract: Few people understand the rise of quantitative financial techniques, and their limits, as well as Emanuel Derman does. The South Africanborn scientist earned a Ph.D. in theoretical particle physics from Columbia University and spent 12 years doing research in academia and at AT&T Bell Laboratories before joining Goldman, Sachs & Co. in 1985. Over the next 18 years, he did pioneering work in derivatives and developed the Black-Derman-Toy interest rate options model with William Toy and Fischer Black. In the process he helped transform Wall Street into a place where rocket scientists rather than street-smart traders were the ultimate power brokers. Derman left Goldman in 2002 to become co-director of the financial engineering program at Columbia and head of risk at Prisma Capital Partners. Derman, 66, has long been aware of the dangers of relying too heavily on mathematical models, having written an early paper on model risk back in 1996. Physicists can determine the laws that govern the motion of atomic particles, he notes, but the human moods that move markets are much more elusive. You cant do finance without models, but you have to realize their limitations, Derman says. Theres no model that will really capture peoples panic. Web link: http://www.institutionalinvestor.com/Article/2923334/Asset-Management-Archive/Howto-Understand-the-Limits-of-Financial-Models.html

AUTHOR(S)

TITLE

PUBLICATION
Financial Analysts Journal

ISSUE DATE
November/ December 2011

Robert C. Jones and Russ Active Management in Mostly Efficient Wermers Markets

Summary or Abstract: This survey of the literature on the value of active management shows that the average active manager does not outperform but that a significant minority of active managers do add value. Further, studies suggest that investors may be able to identify superior active managers (SAMs) in advance by using public information. Investors who can identify SAMs should be able to improve their overall Sharpe ratio by including a meaningful exposure to active strategies. Web link: http://www.cfapubs.org/doi/abs/10.2469/faj.v67.n6.5 Pim van Vliet Ten Things You Should Know About LowVolatility Investing Journal of Investing Winter 2011

Summary or Abstract: Academic evidence shows that low-volatility stock portfolios earn high risk-adjusted returns. Several asset managers have created mutual funds that target this specific segment of the stock market. MSCI launched a minimum volatility index in April 2008, which, in hindsight, was good timing. This new low-volatility investment style is gaining momentum among institutional investors, especially since the experience of the financial crises. Based on experience with low (or minimum) volatility research and running low-volatile equity portfolios for their clients, the author summarizes 10 important things that potential investors should know about minimum volatility investing. Web link: http://www.iijournals.com/doi/abs/10.3905/joi.2011.20.4.141

Pension Finance & Funding

Mark J. Warshawsky Corporate Defined Benefit Pension Plans and the Financial Crisis: Impacts, and Sponsor and Government Reactions Pension Research Council, The Wharton School September 2011

Summary or Abstract: The global financial crisis of 2008-9 hit corporate defined benefit (DB) plans just as the new funding and other provisions of the Pension Protection Act of 2006 were being implemented. Both sponsors and the federal government reacted to the large shortfalls that developed. In this paper, the impacts and reactions are documented and the implications are evaluated. In particular, plans' funding status dropped dramatically, sponsors reduced risk in investments, increased contributions, and changed plan design, while premiums paid to the PBGC nearly doubled, and the federal government, through regulations and legislation, provided some temporary and/or conditional funding relief. Because the relief is temporary, and discount rates are projected to remain low, the shortfalls largely remain, dependent on future developments in financial markets. For the longer-term, the heightened appreciation for risk, as affecting both DB and defined contribution plans, has led to proposals for a new, more flexible, DB-like plan type called the flexible structured plan and other changes in government policies. Web link: http://www.pensionresearchcouncil.org/publications/document.php?file=986

Pension Fund Management

Vanguard Strategic Retirement Consulting Determining Reasonableness of Retirement Plan Fees Vanguard September 2011

Summary or Abstract: Making sure the fees paid for retirement plan investments and services are reasonable is an important fiduciary duty for plan sponsors, but deciding what's reasonable can be confusing. This Vanguard commentary looks at the steps and tools that can help sponsors understand and compare recordkeeping and investment management fees. The authors conclude that a disciplined and diligent approach to reviewing and negotiating fees will help sponsors secure plan services for a reasonable cost. Web link: https://institutional.vanguard.com/VGApp/iip/site/institutional/researchcommentary/article/InvCom Reasonableness

AUTHOR(S)
Steve Kirschner

TITLE
Transition Management: Eight Guidelines for Choosing a Trusted Provider

PUBLICATION
Russell Investments

ISSUE DATE
November 2011

Summary or Abstract: Choosing a trusted transition management provider is a decision that can have significant financial consequences. There is no simple formula to steer this decision. However, in this paper, we have provided eight guidelines to help institutional investors improve governance of the process. Web link: http://www.russell.com/institutional/research_commentary/TM_guidelines_trusted_provider.asp

Private Equity
Stuart Taylor, ed. Preqin Special Report: Asia-Pacific Private Equity Preqin September 2011

Summary or Abstract: Asia-Pacifics emergence as a globally significant region for private equity is no longer a prediction; it is a reality. Fund managers from around the world see the benefit of investing in Asia-Pacific companies, and financial institutions in the region are increasingly aware of how they can put privately raised capital to work. Institutional investors from around the world also see the opportunities available from India to Australasia and are seeking exposure to private equity funds targeting these regions. Nearly a year since opening its Asia office, this Preqin report represents the collective efforts of its dedicated Asia-Pacific team and provides insight into this growing market. Web link: http://www.preqin.com/docs/newsletters/PE/Preqin_Special_Report_Asia_Pacific_Private_Equity.pd f Siguler Guff Investment Team Private Market Opportunities in Distressed Debt BNY Mellon Asset Management October 2011

Summary or Abstract: The market uncertainty and volatility arising from the massive debt overhang in the U.S. and Europe vividly demonstrate the investment risks associated with the developed worlds unprecedented build-up and unwinding of leverage. At the same time, the mountain of debt may create historic investment opportunities as many lenders become forced sellers at depressed valuations during this protracted distressed cycle. Web link: http://us.bnymellonam.com/core/library/documents/knowledge/AssetAllocation/sSigularDistress.pdf Richard Stus, ed. Preqin Special Report: Distressed Private Equity Preqin October 2011

Summary or Abstract: Investor appetite for distressed private equity funds has increased significantly over the past few years, with these funds now accounting for 10% of all private equity fundraising, compared to 3% in 2006. Preqin's latest special report draws on extensive data held by Preqin on the fund managers active in distressed private equity, the funds they manage and current fundraising trends, as well as the results of in-depth interviews conducted with over 50 institutional investors actively investing in distressed private equity. Web link: http://www.preqin.com/docs/reports/Preqin_Special_Report_Distressed_Private_Equity.pdf

Public Sector Pension Plans

Center for State and Local Government Excellence Strengthening State and Local Government Finances: Lessons for Negotiating Public Pension Plan Reforms Center for State and Local Government Excellence September 2011

Summary or Abstract: This report reviews the reforms of five governments: Iowa, Oregon, Vermont, Gwinnett County (GA), and Houston (TX). It also offers lessons other governments considering reform can use on issues such as funding, communication, governance, and financial education. Web link: http://www.slge.org/index.asp?Type=B_BASIC&SEC={6B5D32FD-C99D-41F7-96914F1B1D11452B}&DE={1436E1B9-148A-4B91-8609-55373CFF2D39}

AUTHOR(S)
Mark Olleman and Ilana Boivie

TITLE
Decisions, Decisions: Retirement Plan Choices for Public Employees and Employers

PUBLICATION
National Institute on Retirement Security

ISSUE DATE
September 2011

Summary or Abstract: A new research analysis finds that defined benefit (DB) pension plans are strongly preferred over 401(k)-type defined contribution (DC) individual accounts. The study analyzes seven state retirement systems that offer a choice between DB and DC plans to find that the DB uptake rate ranges from 98 to 75 percent. The percentage of new employees choosing DC plans ranges from 2 to 25 percent for the plans studied. Web link: http://www.nirsonline.org/index.php?option=com_content&task=view&id=641&Itemid=48 Andrew G. Biggs How Have Public Sector Pensions Responded to the Financial Crisis? Pension Research Council, The Wharton School September 2011

Summary or Abstract: State and local government pension funds lost nearly $1 trillion in net assets in 2007-08. Average pension funding levels fell from 85 percent in 2007 to 77 percent in 2009. We analyze these patterns by looking at target asset allocations for 29 large public sector plans covering over half of all public pension assets. On average, the standard deviation of target portfolio returns increased slightly and 14 of the 29 plans surveyed increased risk by more than 0.3 percentage points and 8 increased risk by more than one percentage point. Few plans seem to have retreated from risk-taking, while a small number appears to have embraced more risk than before. Web link: http://www.pensionresearchcouncil.org/publications/document.php?file=990 Alicia H. Munnell, JeanPierre Aubry, Josh Hurwitz and Laura Quinby How Prepared Are State and Local Workers Center for Retirement for Retirement? Research at Boston College (CRR) October 2011

Summary or Abstract: A widespread perception is that state-local government workers receive high pension benefits which, combined with Social Security, provide more than adequate retirement income. The perception is consistent with multiplying the 2-percent benefit factor in most plan formulae by a 35- to 40-year career and adding a Social Security benefit. But this calculation assumes that individuals spend enough of their career in the public sector to produce such a retirement outcome. This brief summarizes the results of a paper that uses the Health and Retirement Study (HRS) and actuarial reports published by state and local pension systems to test the hypothesis that state-local workers have more than enough money for retirement. Web link: http://crr.bc.edu/briefs/how_prepared_are_state_and_local_workers_for_retirement.html

William B. Fornia

A Better Bang for New York City's Buck

National Institute on Retirement Security

October 2011

Summary or Abstract: A new research analysis finds that New York Citys defined benefit pension plans can deliver the same retirement income at nearly 40% lower cost than a defined contribution 401(k)-type individual account. Web link: http://www.nirsonline.org/index.php?option=com_content&task=view&id=652&Itemid=48 Olivia S. Mitchell Public Pension Pressures in the United States Pension Research Council, The Wharton School October 2011

Summary or Abstract: This paper discusses why public pensions have warranted so much interest of late, focusing on their financing status and reform options. Many state pension plans are underfunded, and while they can pay promised benefits for some years, there is also enormous cross-state heterogeneity and several state pension plans will require substantial new revenue and/or benefit cuts to bring them to long-term solvency. What remains to be seen is how the burden of returning the plans to financial health will be borne, and how key stakeholders will implement reforms in these systems if they are to return to viability before time runs out. Web link: http://www.pensionresearchcouncil.org/publications/document.php?file=991

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Real Estate & Other Real Assets

E. Todd Bridell and Alan Supple Public and Private Real Estate: Room for Both in a Diversified Portfolio BNY Mellon Asset Management September 2011

Summary or Abstract: This article discusses the relative merits of public and private real estate in a diversified portfolio. It discusses new research that shows that, while private and public real estate have performed similarly over time, each type potentially offers a different short-term benefit or strategic strength depending on the market cycle. Web link: http://us.bnymellonam.com/core/library/documents/knowledge/AssetAllocation/sUrdang_pubpri_re .pdf Frances Denmark Pension Funds Diving Into Infrastructure Investments Institutional Investor September 2011

Summary or Abstract: Big U.S. public pension funds sat on the sidelines during the financial crisis, but now they are boosting their infrastructure investments. There are plenty of opportunities as cash-strapped governments search for capital to build, repair and run everything from airports and power grids to bridges and waste facilities. Web link: http://www.institutionalinvestor.com/Article/2898313/Asset-ManagementArchive/Pension-Funds-Diving-Into-Infrastructure-Investments.html Dragana Timotijevic Infrastructure - A Defensive Investment in Mercer Volatile Markets September 2011

Summary or Abstract: In an uncertain and volatile environment, investors typically seek investment which offer liquidity but are not as correlated to market movements driven by bonds and stocks. As a result, the author expects that the allocation to illiquid investments may be reduced as investors may become more discerning about the type of illiquid investments they add to their portfolio. One illiquid asset class that could benefit from this environment is unlisted infrastructure. The asset class is well established and has been gaining increased attention by institutional investors. Web link: http://www.mercer.com/articles/infrastructure-defensive-investment Zoltn Nagy, Frank Nielsen and Raghu Suryanarayanan The Role of Real Estate in ObjectivesDriven Asset Allocation MSCI September 2011

Summary or Abstract: A possible reaction to the repeatedly disappointing asset allocation results during recent crises is a shift away from traditional asset classes as building blocks used in the asset allocation process. Under this alternative approach as cautiously implemented by some institutional investors assets are categorized along investment objectives; for example, growth, income generation, inflation protection, and liquidity. In this paper, the authors examine the role of real estate in a multi-asset class institutional portfolio that adopts this objectives-driven framework. They show that real estate may serve a variety of functions in an institutional investors portfolio and should not be treated as a homogeneous asset class. Instead, the appropriate type of investment should be aligned with the total plan goals under this framework, with a focus on evaluating different real estate investments for their ability to add value to specific investment objectives. Web link: http://www.msci.com/resources/research_papers/role_of_real_estate_in_objectives_driven_asset_ allocation.html

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AUTHOR(S)
Sean Ruhmann and Claire Woolston

TITLE
U.S. Private Core Real Estate Investing

PUBLICATION
NEPC

ISSUE DATE
September 2011

Summary or Abstract: Core real estate can play an important role in a long-term investment program. Defined as institutional-quality commercial real estate that generates a return primarily from rental income (current income) with some capital appreciation, this asset class has generated average annual returns of 8%9%with income returns approximately 250300 basis points (bps) higher than comparable Treasury yields. Core real estate can offer diversification benefits, has low historical correlations to other asset classes, provides current income and the potential for capital appreciation, and can be a partial inflation hedge. Web link: http://www.nepc.com/writable/research_articles/file/2011_10_us_private_core_real_estate_investi ng.pdf Dave Brunette and Leola Ross Structuring a Listed Real Estate Securities Portfolio Russell Investments November 2011

Summary or Abstract: Real estate securities are an appropriate proxy for direct (private market) real estate. While they act like equities in the short-term, evidence indicates that real estate securities behave more like private real estate over the long run. REITs are viewed to be real estate because they derive most of their income from owning and operating real estate. Key differences that can impact the returns in the public and private markets include mix of property types, amount of leverage, pricing mechanisms, and management. Of these differences the most pronounced is the pricing mechanism: private real estate is based upon appraisal values, while public real estate is priced daily in the equities market. Web link: http://www.russell.com/institutional/research_commentary/russell_portfolio_series.asp Robert K. Shapiro and Ric Thomas Should Institutional Investors Own Gold? Journal of Index Investing Winter 2011

Summary or Abstract: Institutional investors are not significant owners of gold. If gold effectively hedges inflation, then gold could merit consideration as a strategic allocation in a pension fund. This article evaluates golds ability to hedge inflation and monetary policy and tests whether gold should receive a strategic allocation in a pension fund. The findings show that gold is a better inflation hedging tool than other commodities and that, even at a low level of expected return, gold receives a positive strategic allocation in a diversified plan. Web link: http://www.iijournals.com/doi/abs/10.3905/jii.2011.2.3.019 Journal of Wealth Winter 2011 Michael B. Grelck, Stefan Investing in Times of Inflation Fears: Management Diversification Properties of Investments Prigge, Lars Tegtmeier, in Liquid Real Assets Mihail Topalov and Igor Torpan Summary or Abstract: The financial crisis and the rescue measures taken by governments and central banks increased investors interest in liquidity and in real assets supposed to offer a hedge against inflation. Against this background, the authors investigate empirically four real assets (real estate, commodities, infrastructure, and shipping) for which there are investment instruments available that trade in liquid markets. Their empirical study using data from 1999 to 2009 yields several results: First, in most cases, the addition of real assets improved portfolio performance in comparison with a base portfolio consisting only of standard stocks and bonds. Second, the time frame chosen for the analysis matters very much. This is bad news for investors, because there is no such thing as the single true time frame for this purpose. Third, despite significant conceptual differences, their four different performance measures led to the same conclusions. This result is interesting for investors beyond their specific setting, because the selection of a specific performance measure from the vast supply of such measures does not seem to matter much. Fourth, although they focused on a certain way to invest into the discussed real assets, investors have different alternatives for investing. These alternatives share specific characteristics and reflect certain advantages and disadvantages. Web link: http://www.iijournals.com/doi/abs/10.3905/jwm.2011.14.3.044

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AUTHOR(S) Retirement Planning

TITLE

PUBLICATION

ISSUE DATE

Lifetime Retirement Income: Annuities Arnerich Massena October 2011 Howard Biggs, Scott Dunbar, Vincent Galindo, and Beyond Jacob OShaughnessy Summary or Abstract: According to the Profit Sharing/401(k) Council of America, 32% of plan and Jillian Perkins sponsors offer participant education and communication to increase participation in their plans. More than 15% provide education to increase appreciation in the plan. But only a little more than 11% of plan sponsors provide retirement planning education to participants. According to the same survey, while nearly all plan sponsors offer a lump sum distribution option, only slightly more than half provide installment payments, and only 19% offer annuities. Which means that participants, who have had tremendous support throughout the accumulation phase of retirement saving, receive little help as the actual date of retirement approaches. Web link: http://www.pionline.com/apps/pbcs.dll/dcce?date=20111020&module=4&category=whitepapers&class=5&type=editorial&id=2650553 Alicia H. Munnell, Francesca Golub-Sass and Anthony Webb How Much to Save for a Secure Retirement Center for Retirement Research at Boston College (CRR) November 2011

Summary or Abstract: One of the major challenges facing Americans today is how to prepare for a secure retirement. While market ups and downs are unpredictable, people do have control over work and saving decisions that can significantly improve their retirement prospects. This brief uses a simple model to estimate what percent of earnings an individual must save to ensure a financially secure retirement depending on he starts saving, he retires, and how he invests his retirement savings. Web link: http://crr.bc.edu/briefs/how_much_to_save_for_a_secure_retirement.html

Risk Management
Ralph Goldsticker Burnin' Down the House: Straight Talk on Tail Risk BNY Mellon Asset Management November 2011

Summary or Abstract: With market volatility and uncertainty high, this article discusses the trade-offs involved in hedging tail risk. The author argues that there is no portfolio equivalent of fire insurance that will protect all investors at the same time for a reasonable price. Instead, investors should expect to pay a high premium to incentivize others to take on a disproportionate share of tail risk. Building on that principle, he looks at other options open to investors to manage tail risk, including doing nothing. Web link: http://us.bnymellonam.com/core/library/documents/knowledge/AssetAllocation/sVP_ISSGTailRisk.p df Robert Jaeger Is Hedging the New Diversification? BNY Mellon Asset Management November 2011

Summary or Abstract: This article warns that the current interest in hedging against downside risk often underestimates the explicit and implicit costs while overestimating the protection provided. The global financial crisis of 2008/2009 bred disillusionment with traditional approaches to diversification, but the author argues that investors did not have the appropriate kind of diversification across risk-on and risk-off assets. Genuine diversification, he says, still provides an opportunity to improve risk/return rations, while hedging is best viewed as a toll for reducing risk. Web link: http://us.bnymellonam.com/core/library/documents/knowledge/AssetAllocation/sHedgingNewDiver. pdf

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AUTHOR(S)

TITLE

PUBLICATION

ISSUE DATE

Vineer Bhansali, Tina Is Now the Right Time to Hedge Tail Risk? PIMCO November 2011 Adatia, Jeroen van Bezooijen and Josh Davis Summary or Abstract: Not all hedges have equally increased in value, giving investors the option to reduce the cost of their hedges by considering both direct and indirect hedges. Tail risk hedging may allow certain investors to maintain an allocation to risk assets where they might otherwise deem the position to be too risky and it can also help stabilize portfolios on a mark-to-market basis. Depending on risk tolerances and market views, investors may decide to either start implementing hedges now, phase the tail risk strategy in over a period of time, or put the infrastructure in place now and defer implementation until market conditions change. Web link: http://www.pimco.com/EN/Insights/Pages/Is-Now-the-Right-Time-to-Hedge-TailRisk.aspx

Venture Capital
Michael McKenzie and Bill Janeway Venture Capital Fund Performance Journal of Alternative Investments Fall 2011

Summary or Abstract: In this article, the authors analyze the investment performance of a large database of venture funds sourced from two limited partners. The results suggest that a portfolio of venture capital partnerships can provide an average return that is superior to the public equity market, although the individual fund returns are highly positively skewed. Absent these outliers, the level of fund performance is more in line with public equity market returns. This article also provides some preliminary evidence of venture capital fund performance during and immediately following the dot-com bubble. Web link: http://www.iijournals.com/doi/abs/10.3905/jai.2011.14.2.024 Anson Wong The Evolution of the Venture Capital Market in China Journal of Investing Winter 2011

Summary or Abstract: This article examines the development of the venture capital (VC) industry in China over the past two decades. In recent years, the industries of interest for investment among VCs spread from information technology to other areas such as the financial services and the heavy manufacturing sectors. From 1990 to 2010, VC seed money and start-up funding significantly decreased, but, pre-IPO VC financing increased considerably. There has also been a shift in the sourcing of VC in the China market away from the few traditional market players such as Japan, the United States, and the United Kingdom in the earlier years. Today, Middle Eastern and European countries (e.g., Israel, UAE, Netherlands, and Finland) are important purveyors of VC.This report summarizes the difficulties encountered in the development of the VC industry in China and provides a number of successful IPO examples of Chinese ventures backed by VCs to illustrate the investment opportunities for VCs. Web link: http://www.iijournals.com/doi/abs/10.3905/joi.2011.20.4.016

This report is not intended to be an exhaustive list of all research papers and articles published during the period. Cortex Applied Research Inc. is not responsible for, and does not necessarily endorse, any of their findings and conclusions. It has no financial interest in, or business relationship with, any of the authors, institutions or publications. Cortex Applied Research Inc. is a management consulting firm that specializes in assisting public and corporate pension plans in enhancing their governance and decision-making practices. www.cortex-consulting.com
Cortex Applied Research Inc. 2011

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