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PAAMCO’s Yield On KKR Deal: Scale

Pacific Alternative Asset Management Co. had a firm grip on a perch in the top ranks of a key financial industry segment with a portfolio of $24 billion as this year started.

Not bad for the Irvine-based fund of hedge funds founded in 2000 by Jane Buchan, Judy Posnikoff, Bill Knight and James Berens. Not enough to attract the attention of the biggest foreign investors, though.

Which helps explain PAAMCO’s recent combination with New York-based KKR Prisma. PAAMCO brings $10 billion in assets under management and advisory work on another $14 billion to the newly formed PAAMCO Prisma Holdings.

KKR Prisma chips in with another $10 billion.

“Scale really helps you with foreign investors who want to deal with larger firms,” Buchan said last week.

“There are more opportunities overseas. Large investors want to deal with larger entities.”

PAAMCO got more than a boost in assets under management from KKR Prisma—it also received a stamp of approval from an iconic Wall Street firm, KKR Inc., which was founded by the legendary Henry Kravis and George Roberts.

“We are bringing together two leading names to create an even stronger liquid alternatives firm,” KKR co-chairmen Kravis and Roberts said in a statement announcing the deal.

The new firm, PAAMCO Prisma Holdings, will include 70 employees from Prisma and 150 from PAAMCO. It will retain separate headquarters in New York and Irvine, and there won’t be job cuts, Buchan said.

“This is a growth story, not a head-cutting exercise.”

The merger comes at a time when hedge funds have underperformed in the market. The benchmark HFRI Fund of Funds Composite Index declined 0.27% in 2015 and rose 0.53% last year, according to Hedge Fund Research Inc. By contrast, the S&P 500 Index climbed 1.38% in 2015 and 11.93% last year, including dividends.

Buchan declined to reveal PAAMCO’s return, saying regulatory rules permit only accredited investors to know. She said the company has “definitely” over the long term beaten its benchmark, the HFRI Fund of Funds Composite Index.

There isn’t a single number that can calculate Prisma’s annual return, because it manages assets across a range of strategies and sometimes provides programs tailored for specific customers, co-founder Girish Reddy said.

Prisma has seen some outflow recently—its assets under management slipped by nearly 10% over the past year or so.

Reddy and two other colleagues, all former partners of Goldman Sachs, began Prisma in 2004. It rapidly grew assets under management until 2012, when it was bought by KKR as part of its strategy to enter the hedge fund industry.

The deal with PAAMCO seems to echo KKR’s annual report of a year ago, which laid out a goal to grow its hedge fund business “with the acquisition of majority and minority interests or stakes in third-party hedge fund management companies or by seeding strategies with strategic hedge fund partners.” KKR is “focused” on growing its total assets under management, which have more than doubled from $52 billion to $131 billion in 2010, according to a presentation to investors in November. Hedge funds are a part of that growth strategy, having climbed to $21 billion in the third quarter from nothing in 2010, the presentation said.

KKR’s 39.9% share of PAAMCO Prisma Holdings will add to its total holdings related to hedge funds.

Buchan said KKR is reshaping the structure of its hedge fund holdings because compliance regulations have made it more difficult to manage liquid hedge funds. KKR, formerly known as Kohlberg Kravis Roberts & Co., became famous on Wall Street for its leveraged buyouts. It has nine business units, including credit, infrastructure and energy, in addition to hedge funds. Interest remains high in the hedge fund industry, which now has $3 trillion in assets, almost double the amount of a decade ago.

The total number of hedge funds also nearly tripled from 3,335 to 8,326 over the same period, Hedge Fund Research said. There were a reported 1,567 fund of hedge funds last year, triple the number in 2000, the year PAAMCO was founded.

PAAMCO Prisma Holdings brings together complementary businesses, Buchan said. PAAMCO will retain its 1% fee on assets under management, with the Prisma side of the operation charging slightly less.

The transaction combines two of the strongest players in the industry and creates the third largest manager in an industry where scale is critical, Reddy said.

“Prisma has more of a macro view, whereas we are more quantitative,” she said. “They are more Wall Street savvy. We have way more systems technology. A bunch of our partners have been professors.”

PAAMCO’s website says 100% of its investment professionals have master’s or doctorate degrees. About 64% hold degrees such as certified financial analysts or certificates in quantitative finance.

Buchan, who says she reads textbooks for fun, was an assistant professor of finance at the Amos Tuck School of Business at Dartmouth College and is a member of the advisory board for the master of financial engineering at the University of California-Los Angeles Anderson School of Management. She holds a doctorate and a master’s in business economics from Harvard University and a bachelor’s in economics from Yale University. She is currently serving as chairperson of the board for the Chartered Alternative Investment Analyst Association.

Buchan began her career at J.P. Morgan Investment Management in the Capital Markets group.

She said she sees growth potential overseas and has placed employees on four continents. About 22% of PAAMCO’s funds are from sovereign wealth funds, while the bulk come from private pensions, 36%, and public pensions, 33%, according to its website.

PAAMCO is relatively small in the world of sovereign wealth funds, where the biggest are the Norwegian Government Pension Fund, managing $885 billion, and the Abu Dhabi Investment Authority, overseeing $792 billion. The funds, also known as SWFs, contain $7.3 trillion in assets, mostly in emerging markets, according to The Sovereign Wealth Fund Institute. In 2015, PAAMCO established a new division, PAAMCO Direct Trading, to invest in select emerging markets. The division now has offices in Bogotá, Istanbul and Mexico City and a representative office for PAAMCO in Seoul. The new firm will focus on liquidity rather than illiquid investments like real estate or private equity.

PAAMCO will nevertheless “very much” retain its Irvine office and civic ties in OC.

“We’re not moving anybody to New York,” she said. “We enjoy being in Orange County. It’s great when an Orange County business merges with a New York business and doesn’t want to move to New York.”

Peter J. Brennan
Peter J. Brennan
Peter J. Brennan has been a journalist for 40 years. He spent a decade in Latin America covering wars, narcotic traffickers, earthquakes, and business. His resume includes 15 years at Bloomberg News where his headlines and articles sometimes moved the market caps of companies he covered by hundreds of millions of dollars. His articles have been published worldwide, including the New York Times and the Washington Post; he's appeared on CNN, CBC, BBC, and Bloomberg TV. He was awarded a Kiplinger Fellowship at The Ohio State University.
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