No, pensions didn’t “miss the rally” because of hedge funds

There are many good reasons not to invest in hedge funds. But there are also bad reasons, one of which was highlighted today in the Wall Street Journal:

Large corporate pension funds have quadrupled the share of their portfolios invested in hedge funds over the past five years, according to an analysis of about 300 firms in the S&P 500 by Wilshire Consulting. During that period, those pensions have lagged behind the performance of the broader stock market in every year but one, according to Wilshire. Their return of 9.7% in 2014 was below 13.7% for the S&P 500, including dividends.

“There’s certainly regret,” said Jim McKee, head of hedge-fund research at Callan Associates Inc., which advises pension funds. “The last five years have been disappointing for pensions invested in hedge funds.”

To see why this reasoning is silly, it helps to take a step back, and remember that defined-benefit pensions are just another kind of financial intermediary. Like insurers and banks, they make a bunch of promises to some people that they expect to fulfill by extracting a bunch of promises from other people.