Fiscal 2014 Report

Report on Investment Performance for the fiscal year ending June 30, 2014

The market value of the LTIP as of June 30, 2014 was $2.1 billion. Performance for the year was 18.7%, net of all fees and expenses, compared with the benchmark return of 19.1%. Net performance of the LTIP exceeded the benchmark for three and ten year periods. The annualized net return of 12.6% over the past five years slightly lagged the 12.8% return of the benchmark. Ten year LTIP performance of 8.3% net annualized is 1.6% annualized above the 6.7% return on the benchmark and above the targeted net average annual return of 8%.

Asset Allocation and Performance

The chart below shows asset allocation targets and ranges (“policy portfolio”) compared to actual allocations on June 30, 2014. The Investment Committee will review asset allocation and risk at its September 2014 meeting and decide on changes to asset allocation at that time.

The LTIP’s 54% alternative investment allocation consists of hedge funds and partnerships investing in real assets and equities of private companies. This allocation is near the mean allocation to alternatives of the largest educational endowments. The net average annualized ten year return of 9.6% per annum from the LTIP’s alternative program exceeded the return on the LTIP, with significantly lower volatility (4.5% for the ten years ending June 30, 2014, compared to 7.2% for the LTIP). Importantly, the LTIP’s alternative investments generate attractive returns in periods of weak or negative performance by public equities and bonds.

Public Equities

The publicly-traded equity portfolio represented 37% of the total portfolio, slightly below the target allocation of 38%. The allocation was reduced 2% (from 39% to 37%) during the first quarter of 2014 due to increasing equity market valuations. The publicly-traded equity portfolio returned 22.2% net for the fiscal year, slightly below the 23.0% return for the MSCI All Country World Index (“ACWI”). The publicly-traded equity portfolio has outperformed the benchmark by wide margins for three, five, and ten year periods. One year performance through June 30, 2014 was 0.8% below the benchmark. Opportunistic funds represented 20% of the LTIP at the end of the fiscal year.

The group returned 24.3% for the year, exceeding the 22.9% return for the ACWI. The group also outperformed the ACWI for all longer time periods. International equity represented 17% of the LTIP at the end of the fiscal year. Performance was 19.5% net, underperforming the 21.8% return of the benchmark, MSCI ACWI ex-US. The group outperformed the benchmark for three, five and ten year time periods. Emerging markets, which represented more than half of the international public equity allocation, returned 17.3% net for the fiscal year, outperforming the 14.3% return of the benchmark, MSCI Emerging Markets.

Hedge Funds

The hedge fund allocation was 22% at the end of the fiscal year, matching the target allocation of 22%. The hedge fund portfolio returned 13.7% for the fiscal year, above the 11.8% return by the Hedge Fund Blend Index, comprised of 50% Credit Suisse Multi-Strategy Index and 50% Credit Suisse Long-Short Equity Index. For the fiscal year, equity-oriented managers achieved a return of 12.9%, while multi-strategy managers returned 14.3%. The ten year net annualized return was 8.1%, outperforming the 6.7% return of the LTIP benchmark, with lower volatility. The ability of hedge funds to deliver returns comparable to those of the overall LTIP with lower volatility has been a key component of the LTIP’s attractive long-term risk-adjusted return profile.

Real Assets

Partnerships investing in real assets represented 13% of the LTIP at the end of June, below the target allocation of 17%, and slightly below the lower limit in the allocation range of 14%. The allocation fell below the range as a result of distributions in excess of forecasts, modest commitments to new funds and the faster growth rate of the LTIP corpus. The real assets portfolio returned 8.3% net for the fiscal year. The net return of 4.2% for the most recent five year period is disappointing. The ten year net return of 9.7%, annualized, is more representative of the expected return from this investment category. Real assets also serve an important role in the LTIP by stabilizing performance during periods of volatility in public markets.

The real assets portfolio consists of partnerships investing in both real estate and natural resources. Real estate, an 8% allocation within the LTIP, returned 9.9% net for the year; the ten year net annualized return was a disappointing 5.4%. Natural resources, a 5% allocation within the LTIP, returned 5.3% net for fiscal year; the ten year net annualized return was 14.4%. Within natural resources, energy-focused managers returned 7.9% net for the fiscal year; mining and commodities managers (less than 1% of the LTIP) returned -5.3% net; and the timber manager (also less than 1% of the LTIP) returned 0.7% net.

Private Equity

The LTIP’s private equity portfolio consists of partnerships investing in buyout, growth, venture and distressed companies, and represented 19% of the LTIP at the end of the fiscal year. The LTIP’s private equity partnerships returned 36.1% net for the fiscal year. The ten year net annualized return was 13.7%. The LTIP’s private equity managers continued to distribute cash and marketable securities at a high rate, generated by a robust environment for sales of portfolio companies and initial public offerings. New commitments to private equity have been reduced in recent years due to concerns about the significant capital overhang and a corresponding increase in prices being paid by private equity firms – a potential indicator of lower future returns.

Venture capital was the best performing sub-segment within private equity, returning 53.6% net for the fiscal year, driven by outstanding performance from the firm with the largest allocation among private equity managers (amounting to 5% of the LTIP which is the majority of the LTIP’s 7% allocation to venture capital). Buyouts, the largest strategy allocation within private equity at 11%, returned 28.6% for the fiscal year. Distressed, a 1% allocation within the LTIP, returned 25.2% for the fiscal year.

Fixed Income

The allocation to fixed income and cash equivalents represented 9% of the LTIP, above the target allocation of 8%. For the fiscal year, the LTIP’s fixed income and cash investments returned 1.3%, compared to 4.4% for the Barclays U.S. Aggregate. The five year net annualized return exceeded the benchmark, while all other periods lagged. The performance short fall was caused by the LTIP’s duration, which was approximately one-half of the benchmark. This will protect the fixed income portfolio from the eventuality of rising interest rates.

Liquidity

The LTIP has very good (and increasing) liquidity, with 68% of assets convertible into cash within one year. The comparable figure at fiscal year-end 2013 was 65%.

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