CalSTRS distressed debt allocation underperforms

The $180.8 billion retirement system made the bulk of its distressed commitments in the years leading up to the financial crisis. 

The California State Teachers’ Retirement System’s allocation to distressed debt has underperformed long term performance benchmarks, according to a private equity report included in materials for its retirement board’s April investment committee meeting.

Distressed debt, which accounts for 11.1 percent of CalSTRS $22.73 billion private equity portfolio, failed to meet performance benchmarks on a three-year, five-year and 10-year basis. The strategy has generated a 10.1 percent return since inception, well below its 12.5 percent benchmark.

CalSTRS Distressed Debt Performance (as of 30 September) 


  One-year  Three-year  Five-year  10-year  Since Inception 
CalSTRS  15.6% 11.6% 11.4% 9.4% 10.1%
SSPE Index: Distressed  14.9% 13.8% 12.8% 11.9% 12.5%

Source: Pension Consulting Alliance


The $180.8 billion retirement system’s sub-optimal performance in distressed debt is likely due to the timing of its investments. CalSTRS made the majority of its commitments to the strategy in the years leading up to the financial crisis, according to a Pension Consulting Alliance report. As a result, most of the fund managers selected by the retirement system were in funding mode before the breadth of the crisis had been fully understood.

The report also notes the current outlook for distressed debt investment remains mixed, as the proliferation of “amend and extend” strategies enabled many potentially distressed companies to refinance, thereby reducing opportunities for distressed fund managers.

The strategy has performed well in the short-term, outpacing its benchmark by 70 basis points on a one-year basis, and CalSTRS' distressed debt outlook — though mixed — remains somewhat optimistic for more recent commitments. 

“Recent commitments to the distressed debt space, representing approximately $960 million (19 percent) of distress debt commitments with a 2012 or 2013 vintage year, may be positioned to benefit from any increased economic uncertainty,” the report adds.

CalSTRS made a pair of commitments to distressed funds in the third quarter last year, committing $50 million to Ares Capital Europe II and €38.9 million to Ares Euro Credit Strat Fund, according to the report. The retirement system did not commit to distressed debt funds in the fourth quarter.