Underfunded and Under Pressure, U.S. Pensions to Keep Investing in China

U.S. state pension funds that invested in Ant Group Co. were stung when the financial technology firm’s initial public offering was suddenly pulled on orders of China’s president. But few of these investors are swearing off Chinese private markets, where they still hope to reap big returns.

Shock waves rippled through the investment world when China halted the initial public offering of Ant, which would have been the world’s biggest. The decision was made by President Xi Jinping after controlling shareholder Jack Ma infuriated government leaders by criticizing government financial regulation in an October speech, The Wall Street Journal reported.

For the past several years, the retirement savings of America’s police, firefighters and teachers have increasingly found their way to private companies in China such as Ant. Anxious to meet ambitious return targets in a low-yield world, large North American pension funds have committed growing sums to both global private-equity managers active in China and managers local to China, according to pension officials and their advisers and investment reports.

This has contributed to a larger boom in Chinese deal making for U.S. institutional investors. Private-equity-backed deals of $300 million or more in China involving exclusively U.S.-based investment managers totaled nearly $13 billion between 2010 and 2019, according to Preqin data. Deal activity peaked in 2018 at $3.78 billion. For investors and investment managers world-wide in 2020, private-equity investment in internet and technology in China was $52 billion, according to consulting firm Bain & Co.

In the wake of the Ant decision, some of the appointed bureaucrats and local union leaders who make up state pension boards across the U.S. have found themselves increasingly fretting over the sensitivities of Chinese government officials. But so far, they have decided not to make any major changes.

“We expect a much higher return out of private markets and particularly venture capital,” said Andrew Junkin, chief investment officer of the Employees’ Retirement System of Rhode Island.

Mr. Junkin said the pension fund took the collapse of Ant’s IPO in stride. He said the fund’s exposure to Ant is “somewhere between negligible and extremely small” and that the fund assumes private-market investments in China carry a higher level of political and regulatory risk.

Still, international investors including pension funds are now in limbo as Ant and Mr. Ma attempt to win back favor with Chinese authorities. Private-equity managers favored by U.S. pension plans such as Silver Lake and Carlyle Group Inc. are among the global investment firms that provided more than $10 billion for Ant’s 2018 fundraising, agreeing to terms that limited their ability to cash out if the company didn’t end up going public, the Journal has reported.

That may have upset the projections of some pension funds planning to reinvest cash or shares they might receive in the aftermath of the IPO, said Ashby Monk, executive and research director of the Stanford Global Projects Center.

“There’d be a soft-Brexit scenario or a fast-Covid-recovery scenario,” Mr. Monk said. “But no investor I know of had a ’Ant-IPO-withdrawn-because-of-[Mr. Ma’s]-comments’ scenario.”

Pension plans and their advisers say any disruption will be minimal since the amount involved is such a small share of their portfolios.

For large U.S. pension plans relying on ambitious returns to fill massive shortfalls, it may be hard to avoid putting themselves somewhat at the mercy of Chinese regulators. State- and local-government retirement plans are roughly $4.3 trillion short of the $9.1 trillion they need to pay promised future retirement benefits, according to the Federal Reserve.

“From a broad level portfolio perspective, you almost have no choice but to think very seriously about going to parts of the world where there is a lot more growth,” Carlyle Group Chief Executive Kewsong Lee said at last month’s California State Teachers’ Retirement System board meeting when asked by Calstrs board Chairman Harry Keiley what role China should play in helping the fund meet its long-term return target of 7% a year.

Calstrs has a very small exposure to Ant, according to people familiar with the matter.

“China represents much larger economic potential and growth, relatively speaking, to the rest of the world,” Mr. Lee said.

That reality is pushing U.S. state and local pension officials to learn to live with the risks and uncertainties of Chinese private markets. At one major U.S. public pension fund with a small exposure to Ant through Silver Lake, two top officials told the Journal they found the cancellation of the Ant IPO worrisome because it seemed arbitrary and like a punishment, making such developments hard to plan for.

During the Calstrs meeting last month, Board Vice Chairwoman Sharon Hendricks said the Ant IPO collapse had left her wrestling with the conflicting regulatory and economic forces impacting Chinese companies.

“I’m still struggling with reconciling the tension of absolute control versus this entrepreneurial dynamic innovative spirit,” she said. “And yet it seems like we’re bullish on innovation in China.”

Photo: For the past several years, U.S. pension funds have more frequently invested in private companies in China such as Ant Group, based in Hangzhou. - ALY SONG/REUTERS

Link: Underfunded and Under Pressure, U.S. Pensions to Keep Investing in China - WSJ