Inside Pacific Investment Management Co., the bond behemoth that lost two chief investment officers last year and saw almost $500 billion of client money leave, a hidden profit engine is easing some of the pain.
For more than a decade, Pimco has quietly built an alternatives business focused on real estate and distressed debt that is a bright spot in the firm's quest for profitability and growth. It has more than $24 billion in hedge funds and private-equity funds that are sold only to institutional investors, according to a person with direct knowledge of the matter who asked not to be identified because the information is private.
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While assets in the alternative funds are dwarfed by the $1.5 trillion the firm manages, higher fees and increasing investor interest have made them attractive as a 30-year bond rally comes to an end. Group Chief Investment Officer Daniel Ivascyn has overseen the private-equity strategy since the financial crisis with Jennifer Bridwell, global head of alternative product development. Mr. Ivascyn's success with the investments, along with his outperforming mutual fund, helped propel him to the top, replacing co-founder Bill Gross last year.
“It's a strategic area of focus for us, both in terms of meeting client needs and in targeted hires we've made,” Mr. Ivascyn said in an interview. “There'll be continued opportunity with financial-sector deleveraging.”
FUND FEES
The hedge funds have added $3.3 billion since 2013, according to the firm's website. The hedge funds and private-equity funds generated about $12 billion for investors over the past 10 years, net of fees, according to the person.
Although its first hedge funds date back to 2004, Pimco didn't start any private-equity funds until the financial crisis rolled through markets, according to Ms. Bridwell.
“This all emanated from us getting the housing call right,” she said. “We went to investors and told them, 'Start putting aside capital.'”
The funds, whose investors include pensions, insurance companies and foundations, typically charge less than the industry average of 2% for management and 20% of performance-generated returns. That's still higher than the 0.86% average Pimco charges for its flagship Total Return Fund, and higher than the 1% average expense ratio across its mutual funds, according to Morningstar Inc.
The vehicles “usually have a higher fee and a performance-based fee that allow them to be far more profitable,'' said David Fann, chief executive officer of TorreyCove Capital Partners, which advises investors in private equity.
Michael Reid, a spokesman for Pimco, declined to comment on performance, fees or specific funds.
PRIVATE EQUITY
Relying on alternative funds as a cushion may not be the safest bet. While raising money remains relatively easy for established names, returns have moderated, and there's a lot of competition from asset managers such as
BlackRock Inc. and Oaktree
Capital Group. Private-equity funds and hedge funds also are looking for new ways to generate returns after years of low interest rates.
Last year, as Pimco was pummeled by management turnover and outflows, the firm hired some big names to pursue these strategies: Harley Bassman, a managing director at Credit Suisse Group AG's securities arm; Mohsen Fahmi from
Moore Capital Management to focus on global fixed-income assets; Geraldine Sundstrom, formerly of Brevan Howard Capital Management, in its multi-asset group; Rick Chan and Jason Goldberg as portfolio managers specializing in derivatives; and Ethan Schwartz in distressed credit.
“When we go and search for resources, we can find a lot of talent,” Mr. Ivascyn said, explaining that the firm has benefited from regulations curbing Wall Street's risk-taking.
Pimco has offered six open-ended hedge funds and eight private-equity funds, which have lock-up periods of typically five to eight years, meaning investors hand over their money and trust, and wait until the investments are fully harvested to get it back along with annualized returns.
(More: Pimco stops offering equity in firm to top managers)
The Global Credit Opportunity Fund returned 7% this year through the end of August, according to an investor. The performance of that $2.8 billion hedge fund, run by Mr. Ivascyn and Jon Horne, compares with 1.6% for a Bloomberg index of global credit arbitrage hedge funds in the same period. Qi Wang's $1.9 billion Pimco Absolute Return Strategy Offshore Fund has returned 3.4%, compared with 2.1% for funds with similar strategies. And Josh Thimons's Multi-Asset Volatility Fund with about $800 million has returned 5.9%, compared with 3.9% for its peers.
Pimco has $8.5 billion in private-equity funds. The mandate is flexible: They buy nonperforming loans, buildings and mortgages that don't fall within traditional lending parameters, office buildings, private debt and stakes in shopping-malls developers.
Pimco's second distressed-mortgages fund, which started in 2009, has returned more than 40% annually for five years, according to a person with direct knowledge of its performance.
'JURY'S OUT'
Not all the funds are hits. The first distressed-mortgages fund, started in October 2007, before the worst of the crisis, lost a third of its value by April 2009. It bounced back to return 54% in the year ended Sept. 30, 2010, an investor said at the time. The fund has been wound down, with returns over five years of about 12%, according to a person with knowledge of its performance.
The Maryland State Retirement and Pension Systems invested $200 million in October 2008 in Pimco's first Distressed Senior Credit Opportunities Fund and, as of the end of last year, had gotten $270.3 million back after all investor money was returned, according to public documents.
“With a lot of the traditional managers that have lately gone into private capital, they just don't have as long a track record,” said Adam Taback, head of alternative investments at Wells Fargo & Co. For funds that started their private business in the crisis era, the “jury's out,” on performance, he said.
While returns are slowing after a run-up in asset prices in the past five years, Pimco still sees opportunity and growth. It's looking in commercial real estate, in renovating existing buildings and in U.S. cities that aren't over-bought, including in Orange County, Calif., where Pimco is located.
“Compared to the mother ship, it's still small,” said Ms. Wang, who runs the firm's Absolute Return Strategy Offshore Fund. But “growth in alts can be a fair bit higher than long-only.”
