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Home My WebLink AboutAgenda Police Pension 083007' Agenda City of Palm Beach Gardens Police Officers' Pension Fund. MEETING OF AUGUST 30TH, 2007 LOCATION: City Council Chambers' City Hall 10500 North Military Trail Palm Beach Gardens, FL 33410 TIME: 9:00AM 1. Call Meeting To Order 2. Roll Call: • Lt. Jay Spencer, Chairman • David Pierson, Secretary • Jules Barone, Trustee • Brad Seidensticker, Trustee • Wayne Sidey, Trustee 3. Approval of Minutes: May 14th, 2007 Regular Meeting 4. Investment Manager Reports -ICC Capital, Rumbline (Denise D'Entremont) • Discuss total exposure to mortgage-backed securities • Review organizations that guarantee mortgage-backed securities • Change Investment Policy Guidelines and the investment benchmarks to prohibit mortgage-backed securities 5 . Investment Consultant Report: Thistle Asset Consulting (John McCann) • Change Investment Policy Guidelines and the investment benchmarks to prohibit mortgage-backed securities 6. Attorney Report: Hanson, Perry, & Jensen, P.A. (Bonni Jensen) 7. Disbursements Approval 8. Administrative Report (Scott Baur) 9. Other Business 10. Reschedule FY 2008 Meetings (Budget oversight meets in the Chambers on the second month of the quarter on the fourth Thursday) ll.Adjourn PLEASE NOTE. Shoufo any tnteres~e..:J party seek to appe.;; any decision of this Soard wH:h respect to any matt'-'r t:onsidered at su::h meeting 01 hearing, S/he wili need a re<:ord cf the proceedings snd for such purpcn.c-rnav need tc en!'urr; that a verbatim record of t11e proceedings •s made, •Nhich n~cord Includes the tesUn1ony a~>cl evidence upon. which t!1e appeal Is tc be based . In <lt:eorda'lce with th!.' Ainerici!ns With~ scoi!itllo'' Act 'of 1990, i)<:rson:; n~edrng i:l spetlal ;;ccommod<'-• , to participate 1 , ' n · _should contact the Th'e Pension Resource Center , LLC no later tha;1 four days pnor· t o :he meetmg . • • • • • • • • • • • • • • • • • • •• • • • • • • • • • • • • • • • • • • • • • I. ~·· 'e PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME Investment Review Quarter Ending June 30,2007 ICC Capital Management, Inc. • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOMI Investment Performance Report Quarter Ending June 30,2007 luvestmeut Results Total Return Summary Page ...... 1 Portfolio Allocation Page ...... 2 Investment Performance by Asset Category Page ...... 3 Fixed-Income Analysis Page ...... 4 Purchases & Sales Page ...... 6 Realized Gains/Losses Page ...... 10 Portfolio Summary Page ...... 13 Portfolio A raisal Pa e ...... 14 ICC Capital Management, Inc . • • • • • • • • • • • • • • • • • • • • • • •• •• • • • • • • • •• •• :• • • •• • • • • • • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME Total Return Summary Quarter Ending June 30, 2007 Curr Quarter FYTD Five Years (9/30) Starting Value $10,097,161 $9,923,090 $4,672,764 Ending Value $11,447,976 $11,447,976 $11,447,976 Difference $1,350,815 $1,524,886 $6,775,212 Net Contributions/ (Withdrawals) $1,380,400 $1,296,546 $5,463,169 Gain/(Loss) from Investments ($29,585) $228,340 $1,312,043 TOTAL RETURN I -0.26% 2.12% 20.73% ANNUALIZED TOTAL RETURN 3.84% ICC Capital Management, Inc . 1 • • • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME • Portfolio Allocation at Market • Quarter Ending • June 30,2007 • • Asset Allocation: • 0/100 (Mkt) • Market Value • CASH/EQUIVS as of 03/31/07 4.1% • • FIXED INCOME 95.9% • • • • • • 86.6% • Market Value CASH/EQUIVS • as of 06/30/0 7 13.4% • • • • • • • • • MktValue MktValue% MktValue MktValue% • as of 03/31/07 as of 03/31/07 as of 06/30/07 as of 06/30/07 • Cash/E uivs $411,682 4.1% $1,535,252 13.4% • Fixed $9,685,479 95.9% $9,912,724 86.6% • • Total $10,097,161 100.0% $11,447,976 100.0% • • • • I • • ICC Capital Management, Inc . • 2 • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • I • • • • • • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME Investment Performance by Asset Category Quarter Ending June 30, 2007 Quarter .ACCOUNT .LBGC 3.00 2.00 1.00 0.00 -1.00 -0.38 -0.49 -0.26 -0.49 -2.00 -3.00 BONDS TOTAL FYTD (9/30) .ACCOUNT .LBGC 4.00 3.00 2.01 2.12 2.01 2.00 1.00 0.00 BONDS TOTAL 5 Year Annualized .ACCOUNT .LBGC 7 .50 4.70 4.70 5.00 2.50 0.00 BONDS TOTAL The red total bar represents the Lehman Brothers Government/Credit Index. ICC Capital Management, Inc . 3 • • • • • • • • • • • • • • • • • • • • • • • • I. 1e i • • • • • • • • • • l e • • • • • • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME Fixed Income Analysis (Page 1 of 2) Quarter Ending June 30,2007 Average Quality -AA Average Duration -4.97 Current Yield-5.46 Mortgage Pools Federal Agencies 35.3 % 14.5% Corporate Bonds US Treasuries 30.6% 19.5% Mortage Backed Securities S&P Rating Moody Rating 11-glmc 1f9ULLo8 AAA Aaa IFncl # 256394 AAA Aaa Fgci N #b13978 AAA Aaa Fgci N #g 12208 AAA Aaa Fgci N #g11690 AAA Aaa Gnsf M #552509 AAA Aaa Fgci #g12205 4.5% AAA Aaa Fnci N #725445 AAA Aaa Fnci M #254371 AAA Aaa Fnci N #255888 AAA Aaa Gnjo M #781313 AAA Aaa Fnci N #825335 AAA Aaa Fnci N #829053 AAA Aaa Gnsf M #582153 AAA Aaa Fgci N #g12323 AAA Aaa Fgci N #b13455 AAA Aaa Government/Agency Bonds S&PRating Moody Rating Federal National Mortgage Assn AAA AAA Fhlmc AAA AAA Fannie Mae AAA AAA Fannie Mae 6.01% AAA Aaa United States Treasury AAA AAA United States Treasury Bond AAA AAA U.S. Treasury Strips AAA AAA Corporate Bonds S&P RatinK Moody RatinK Conoco Inc A-A1 Jpmorgan Chase & Co A+ AA3 Citigroup Inc AA Aa1 Fleetboston Finl Corp AA-AA2 Inti Lease Fin Aig 5 7/8 AA-A1 Merrill Lynch A+ A1 Morgan Stanley A+ AA3 Merrill Lynch & Co A+ A1 ICC Capi tal M anagemen t, Inc . 4 • • • • • • • • • • • • • • • • • • • • • • • • • • I. , . • • I. l e I. l e • • • • • , . • • • PALM BEACH GARDENS P O LICE PENSIO N FUND FIXED INCOME Fixed Income Analysis (Page 2 of 2) Quarter Ending June 30,2007 Corporate Bonds S&PRatinK McDonald's Corp Alcoa Inc General Elec Cap Corp Jp Morgan Chase National Rural Util Coop General Elect ric Cap Crop Goldman Sachs IBM Corp Morgan Stanley Goldman Sachs Jp Morgan Chase Archer Dan ie ls Bear Stearns Lehman Brothers Holdings Kohls Corp Portfolio Duration vs. Index Duration (Ratio) 1.s% T 1.4% t r'--=-==-c-~ 1.0% I NEUTRAL --- 1 D EFENSIVE r ---0.6% A A- AAA A+ A+ AAA AA- A+ A AA- A+ A A+ A+ A- Mood11 RatinK A2 A2 AAA AA3 A1 AAA AA3 A1 A1 AA3 AA3 A2 A1 A1 A3 I ~INDEX -ACCT I AGGRESSIVE I ~ ... --------- 0.2% +----+---+-----+---+-----+---+-----+----1 6/30/2005 9/30/2005 12/31/2005 3/31/2006 6/30/2006 9/30/2006 12/31/2006 3/31/2007 6/30/2007 ICC Capital Management, Inc . 5 • • • • ICC Capital Management • PURCHASE AND SALE • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME • From 03-31-07 To 06-30-07 • Trade Settle Unit Date Date Quantity Security Price Amount • • PURCHASES • 04-13-07 04-30-07 300,000.000 FANNIE MAE 100.00 300,000.00 • 5.300% Due 04-30-10 05-10-07 05-11-07 150,000.000 FANNIE MAE 6.01% 100.00 150,000.00 • 6.010% Due 04-10-17 • 05-30-07 06-04-07 100,000.000 GENERAL ELEC CAP CORP 99.86 99,856.00 5.500% Due 06-04-14 • 05-10-07 05-15-07 150,000.000 MCDONALD'S CORP 98.90 148,348.50 • 5.300% Due 03-15-17 04-25-07 05-02-07 200,000.000 MERRILL LYNCH 99.83 199,668.00 • 5.700% Due 05-02-17 • 04-25-07 04-27-07 200,000.000 MORGAN STANLEY 99 .70 199,394.00 5.550% Due 04-27-17 • 04-02-07 04-10-07 100,000.000 NATIONAL RURAL UTIL COOP 99.68 99,680.00 5.450% Due 04-10-17 • 05-10-07 05-11-07 235,000.000 U.S. TREASURY STRIPS 40.23 94,540.50 • 0.000% Due 11-15-25 05-17-07 05-21-07 460,000.000 UNITED STATES TREASURY 105.84 486,881.25 • BOND • 5.375% Due 02-15-31 1,778,368.25 • • SALES 05-09-07 05-14-07 225,000.000 AVON PRODUCTS INC 99.81 224,574.75 • 5.125% Due 01-15-11 • 04-03-07 04-09-07 310,000.000 CATERPILLARFINANICAL 97.69 302,835 .90 SERVICES CORP • 4.300% Due 06-01-10 • 06-29-07 07-05-07 35,000.000 DELL COMPUTER 105.12 36,791.30 7.100% Due 04-15-28 • 04-24-07 04-27-07 115,000.000 LOWE'S COMPANIES 96.41 110,873.80 • 5.800% Due 10-15-36 05-17-07 05-21-07 540,000.000 UNITED STATES TREASURY 96.84 522 ,956 .25 • 3.500% Due 02-15-10 • 1,198 ,032.00 • PRINCIPAL PAYDOWNS . • 04-15-07 04-15-07 2,043.670 FGCI #G12205 4.5%. 100.00 2,043.67 4.500% Due 06-01-21 • 05-15-07 05-15-07 1,930.850 FGCI #G12205 4.5% 100.00 1,930.85 • 4.500% Due 06-01-21 06-15-07 06-15-07 1,805.980 FGCI #G12205 4.5% 100.00 1,805 .98 • 4.500% Due 06-01-21 • • 6 • • • • • • • ICC Capital Management • PURCHASE AND SALE • PALM BEA CH GARDENS POLICE PEN SION F UND FIXED I N COME From 03-31-07 To 06-30-07 • • Trade Settle Unit D ate Date Quantity Secu rity Price Amo u nt • • 04-15-07 04-15-07 69.320 FGCI N #B13455 100 .00 69 .32 4.500% Due 04-0 1-19 • 05-15-07 05-15-07 129.140 FGCI N #B13455 100.00 129 .14 • 4.500% Due 04-01-19 06-15-07 06-15-07 74.230 FGCI N #B13455 100.00 74 .23 • 4.500% Due 04-01-19 • 04-15-07 04-15-07 4,700.820 FGCI N #Bl3978 100.00 4,700.82 4 .000% Due 05-01-19 • 05-15-07 05-15-07 2,220.710 FGCI N #B13978 100.00 2,220 .71 • 4.000% Due 05-01-19 06-15-07 06-15-07 14,240.880 FGCI N #Bl3978 100 .00 14,240.88 • 4.000% Due 05-01-19 04-15-07 04-15-07 1,135.834 FGCIN#G11690 100.00 1,135 .83 • 4.000% Due 02-01-20 • 04-15-07 04-15-07 327.576 FGCI N #G11690 100.00 327 .58 4.000% Due 02-01-20 • 05-15-07 05-15-07 1,898.399 FGCI N #G11690 100 .00 1,898.40 • 4.000% Due 02-01-20 05-15-07 05-15-07 54 7.501 FGCI N #G 11690 100 .00 547 .50 • 4 .000% Due 02-01-20 • 06-15-07 06-15-07 1,925.300 FGCI N #G 11690 100.00 1,925 .30 4.000% Due 02-01-20 • 06-15-07 06-15-07 555.260 FGCI N #G 11690 100.00 555 .26 • 4.000% Due 02-01-20 04-15-07 04-15-07 1,494.850 FGCI N #G12208 100.00 1,494.85 • 4.000% Due 02-01-21 05-15-07 05-15-07 1,446.780 FGCI N #G12208 100.00 1,446.78 • 4.000% Due 02-01-21 • 06-15-07 06-15-07 3,345 .230 FGCI N #G12208 100 .00 3,345.23 4.000% Due 02-01-21 • 04-15-07 04-15-07 87 .800 FGCI N #G12323 100 .00 87.80 • 4.500% Due 08-01-21 05-15-07 05-15 -07 114.400 FGCI N #G12323 100 .00 114.40 • 4.500% Due 08-0 1-21 • 06-15-07 06-15-07 82.530 FGCI N #G12323 100 .00 82 .53 4.500% Due 08-0 1-21 • 04-15-07 04-15-07 3,985.638 FGLMC #G02268 100.00 3 ,985 .64 • 6.500% Due 08-01-36 04-15-07 04-15-07 13,600.262 FGLMC #G02268 100.00 13 ,600.26 • 6.500% Due 08-0 1-36 • 05-15-07 05-15-07 4,355.004 FGLMC #G02268 100.00 4,355.00 6.500% Due 08-01-36 • 05-15-07 05-15-07 14,860.656 FGLMC #G02268 100.00 14 ,86 0.66 • 6.500% Due 08-0 1-36 • 7 • • • • • • • • ICC Capital Management • PURCHASE AND SALE • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME • From 03-31-07 To 06-30-07 • Trade Settle Unit Date Date Quantity Security Price Amount • • 06-15-07 06-15-07 4,713.484 FGLMC #G02268 100 .00 4,713.48 6.500% Due 08-01-36 • 06-15-07 06-15-07 16,083.906 FGLMC #G02268 100.00 16 ,08 3 .91 • 6.500% Due 08-01-36 04-25-07 04-25-07 1,687.720 FNCI M #254371 100.00 1,687.72 • 5.500% Due 07-01-17 • 05-25-07 05-25-07 2,625.700 FNCI M #254371 100.00 2,625 .70 5.500% Due 07-01-17 • 06-25-07 06-25-07 981.060 FNCI M #25 4371 100.00 981.06 • 5.500% Due 07-01-17 04-25-07 04-25-07 329.210 FNCI N #2 55 888 100.00 329.21 • 4.000% Due 08-01-20 • 05-25-07 05-25-07 324.530 FNCI N #255888 100.00 324.53 4.000% Due 08-01-20 • 06-25-07 06-25-07 326.350 FNCI N #255888 100.00 326.35 • 4.000% Due 08-01 -20 04-25-07 04-25-07 57.507 FNCI N #725445 100.00 57.51 • 4.500% Due 05-01-19 04-25-07 04-25-07 1,852.603 FNCI N #725445 100.00 1,852.60 • 4.500% Due 05-01-19 • 05-25-07 05-25-07 46.441 FNCI N #725 445 100.00 46.44 4.500% Due 05-01-19 • 05-25-07 05-25-07 1,496.109 FNCI N #725445 100.00 1,496.11 • 4.500% Due 05-01-19 06-25-07 06-25-07 54.133 FNCI N #725445 99.99 54.13 • 4.500% Due 05-01-19 • 06-25-07 06-25-07 1,743.907 FNCI N #725445 100.00 1,743.91 4.500% Due 05-01-19 • 04-25-07 04-25-07 313.270 FNCI N #82 5335 100.00 313.27 • 4.000% Due 05-01-20 05-25-07 05-25 -07 309.190 FNCI N #825335 100.00 309.19 • 4.000% Due 05-01-20 06-25-07 06-25-07 320.890 FNCI N #825335 100.00 320.89 • 4.000% Due 05-01-20 • 04-25-07 04-25-07 310.990 FNCI N #829053 100 .00 31 0.99 4.000% Due 08-01-20 • 05-25-07 05-25-07 460.980 FNCI N #8290 53 100.00 460.98 • 4.000% Due 08-01-20 06-25-07 06-25-07 301.660 FNCI N #8290 53 100 .00 301.66 • 4.000% Due 08-01-20 • 04-25-07 04-25 -07 21,265.700 FNCL # 256394 100.00 21,265.70 6.500% Due 09-01-36 • 05-25-07 05-25-07 10,984.520 FNCL # 256394 100.00 10,984.52 • 6.500% Due 09-01-36 • 8 • • • • I • • • • • • • • • • • • • • • • • • • • • • • , . • • • • • • l e 1: , . • I. l e • • • • • • Trade Date 06-25-07 04-15-07 05-15-07 06-15-07 04-15-07 05-15-07 06-15-07 04-15-07 05-15-07 06-15-07 ICC Capital Management PURCHASE AND SALE PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME From 03-31-07 To 06-30-07 Settle Unit Date Quantity Security Price Amount 06-25-07 12,763.700 FNCL # 256394 100.00 12,763.70 6.500% Due 09-01-36 04-15-07 950.250 GNJO M #781313 100.00 950.25 6.000% Due 07-15-16 05-15-07 846.090 GNJO M #781313 100.00 846.09 6.000% Due 07-15-16 06-15-07 1,070.180 GNJO M #781313 100.00 1,070.18 6.000% Due 07-15-16 04-15-07 359.230 GNSF M #552509 100.00 359.23 6.000% Due 04-15-32 05-15-07 6,448.930 GNSF M #552509 100.00 6,448.93 6.000% Due 04-15-32 06-15-07 6,218.860 GNSF M #5 52509 100.00 6,218.86 6.000% Due 04-15-32 04-15-07 68.480 GNSF M #582153 100.00 68.48 6.000% Due 06-15-32 05-15-07 67.920 GNSF M #582153 100.00 67.92 6.000% Due 06-15-32 06-15-07 1,541.750 GNSF M #582153 100.00 1,541.75 6.000% Due 06-15-32 173,903.87 9 • • • • ICC Capital Management • REALIZED GAINS AND LOSSES • PALM BEACH GA RDENS POLICE PENSION FUND FIXED I N COME • From 03-31-07 Through 06-30-07 • Gain Or L oss Open Close Cost • Date Date Qua ntity Sec urity Basis Proceeds Short Term Long T er m • 01 -17-07 04-03-07 310 ,000.000 CATERPILLAR 301 ,673 .40 302 ,835 .90 1,162 .5 0 FINAN ICAL SERVICES • CORP 4 .300% Due 06-01 -10 • 02-21-07 04-15-07 2 ,043 .670 FGCI #G12205 4 .5% 1,971.82 2,043 .67 71.85 • 4.500% Due 06-01-21 09-08-04 04-15-07 69.320 FGCI N #B13455 69.12 69 .32 0 .20 • 4 .500% Due 04-01-19 05-11-05 04-15-07 1,135.834 FGCI N #Gll690 1,102.11 1,135.83 33.72 • 4 .000% Due 02-01-20 01-30-06 04-15-07 327.576 FGCIN #G11690 312 .22 327 .58 15:36 • 4 .000% Due 02-01-20 09-23-04 04-15-07 4,700.820 FGCI N #B 13978 4,628 .10 4,700.82 72 .72 • 4.000% Due 05-01-19 07-21-06 04-15-07 1,494.850 FGCI N #G12208 1,386.71 1,494.85 108 .14 • 4 .000% Due 02-01-21 08-24-06 04-15-07 87.800 FGCI N #GI2323 84 .18 87 .80 3.62 • 4 .500% Due 08-01-21 12-15-06 04-15-07 3,985.638 FGLMC #G02268 4,068.47 3,985 .64 -82.83 • 6.500% Due 08-01-36 01-08-07 04-15-07 13,600.262 FGLMC #G02268 13,882.90 13,600 .26 -282.64 • 6.500% Due 08-01-36 04-15-02 04-15-07 359.230 GNSF M #552509 354.80 359 .23 4.43 • 6.000% Due 04-15-32 06-13-02 04-15-07 68 .480 GNSF M #582153 68 .36 68 .48 0.12 • 6.000% Due06-15-32 07-02-02 04-15-07 950 .250 GNJO M #781313 979 .95 950 .25 -29 .70 • 6.000% Due 07-15-16 11-27-06 04-24-07 115 ,000.000 LOWE'S COMPANIES 117,783 .00 110 ,873 .80 -6 ,909 .20 • 5.800% Due 10-15-36 • 09-08-05 04-25-07 329.210 FNCIN #255888 320.36 329.21 8 .85 4 .000% Due 08-01-20 • 05-23-02 04-25-07 1,687.720 FNC1M #254371 1,680.34 1,687.72 7.38 5.500% Due 07-01-17 • 09-15-04 04-25-07 57.507 FNCI N #725445 57.55 57 .51 -0 .04 4 .500% Due 05-01-19 • 01-29-07 04-25-07 1,852.603 FNCIN #725445 1,777.92 1,852 .60 74 .68 4.500% Due 05-01-19 • 08-23-05 04-25-07 310.990 FNCIN #829053 301.66 310 .99 9.33 4 .000% Due 08-01 -20 • 09-08-05 04-25 -07 313 .270 FNCI N #825335 304 .85 313 .27 8.42 4 .000% Due 05-01 -20 • 01-08-07 04-25-07 21 ,265 .700 FNCL # 256394 21 ,691.02 21 ,265 .70 -425 .32 6 .500% Due 09-01-36 • 11 -20-06 05-09-07 225,000 .000 AVON PRODUCTS INC 223,9 15.50 224,574 .75 659 .25 5.125% Due 01-15-11 • 02-21-07 05-15-07 1,930.850 FGCI #G12205 4.5% 1,862.97 1,930 .85 67 .88 4 .500% Due 06-01-21 • 04-15-02 05-15-07 6,448 .930 GNSF M #552509 6,369.33 6,448.93 79 .60 6.000% Due 04-15-32 • 06-13-02 05-15-07 67 .920 GNSF M #582153 67 .80 67 .92 0 .12 • 6.000% Due 06-15-32 07-02-02 05-15-07 846.090 GNJO M #781313 872.53 846 .09 -26.44 • 6.000% Due 07-15-16 • 10 • • • • • • • • ICC Capital Management • REALIZED GAINS AND LOSSES • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME • From 03-31-07 Through 06-30-07 • Gain Or Loss Open Close Cost • Date Date Quantity Security Basis Proceeds Short Term L ong Term • 09-08-04 05-15-07 129.140 FGCIN#Bl3455 128.76 129.14 0.38 4.500% Due 04-01-19 • 09-23-04 05-15-07 2,220.710 FGCI N #B13978 2,186.36 2,220.71 34.35 4.000% Due 05-01-19 • 05-11-05 05-15-07 1,898.399 FGCI N #Gll690 1,842.04 1,898.40 56.36 4.000% Due 02-01-20 • 01-30-06 05-15-07 547.501 FGCI N #Gll690 521.84 547.50 25.66 4.000% Due 02-01-20 • 07-21-06 05-15-07 1,446.780 FGCI N #Gl2208 1,342.11 1,446.78 104.67 • 4.000% Due 02-01-21 08-24-06 05-15-07 114.400 FGCIN#Gl2323 109.68 114.40 4.72 • 4.500% Due 08-01-21 12-15-06 05-15-07 4,355.004 FGI.MC #G02268 4,445.51 4,355.00 -90.51 • 6.500% Due 08-01-3 6 01-08-07 05-15-07 14,860.656 FGI.MC #G02268 15,169.49 14,860.66 -308.83 • 6.500% Due 08-01-36 08-29-06 05-17-07 540,000.000 UNITED STATES 517,303.13 522,956.25 5,653.12 • lREASURY 3.500% Due 02-15-10 • 09-08-05 05-25-07 324.530 FNCIN #255888 315.81 324.53 8.72 4.000% Due 08-01-20 • 05-23-02 05-25-07 2,625.700 FNCI M #254371 2,614.21 2,625.70 11.49 5.500% Due 07-01-17 • 09-15-04 05-25-07 46.441 FNCI N #725445 46.48 46.44 -0.04 4.500% Due 05-01-19 • 01-29-07 05-25-07 1,496.109 FNCIN #725445 1,435.80 1,496.11 60.31 4.500% Due 05-01-19 • 08-23-05 05-25-07 460.980 FNCI N #829053 447.15 460.98 13.83 4.000% Due 08-01-20 • 09-08-05 05-25-07 309.190 FNCI N #825335 300.88 309.19 8.31 4.000% Due 05-01-20 • 01-08-07 05-25-07 10,98 4 .520 FNCL # 256394 11,204.21 10,984.52 -219.69 • 6.500% Due 09-01-36 02-21-07 06-15-07 1,805.980 FGCI #G 12205 4.5% 1,742.49 1,805.98 63.49 • 4.500% Due 06-01-21 04-15-02 06-15-07 6,218.860 GNSF M #552509 6,142.10 6,218.86 76.76 • 6.000% Due 04-15-32 06-13-02 06-15-07 1,541.750 GNSF M #582153 1,539.10 1,541.75 2.65 • 6.000% Due 06-15-32 07-02-02 06-15-07 1,070.180 GNJO M #781313 1,103.62 1,070.18 -33.44 • 6.000% Due 07-15-16 09-23-04 06-15-07 14 ,240.880 FGCI N #Bl3978 14,020.59 14,240.88 220.29 • 4.000% Due 05-01-19 09-08-04 06-15-07 74.230 FGCI N #BI3455 74.01 74.23 0.22 • 4.500% Due 04-01-19 05-11-05 06-15-07 1,925.300 FGCI N #Gl1690 1,868.14 1,925.30 57.16 • 4.000% Due 02-01-20 01-30-06 06-15-07 555.260 FGCI N #Gl1690 529.23 555.26 26.03 • 4.000% Due 02-01-20 07-21-06 06-15-07 3,345.230 FGCI N #GI2208 3,103.22 3,345.23 242.01 • 4.000% Due 02-01-21 • 12-15-06 06-15-07 4 ,7 13 .484 FGLMC #G02268 4,811.44 4,713.48 -97.96 6.500% Due 08-01-36 • 01-08-07 06-15-07 16,08 3.906 FGLMC #G02268 16,418.16 16,083.91 -334.25 6.500% Due 08-01-36 • II • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • ICC Capital Management REALIZED GAINS · AND LOSSES PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME From 03-31-07 Through 06-30-07 Gain Or Loss Open Close Cost Date Date Quantity Security Basis Proceeds Short Term Long Term 08-24-06 06-15-07 82.530 FGCI N #GI2323 79.13 82.53 3.40 4.500% Due 08-01-21 09-08-05 06-25-07 326.350 FNCI N #255888 317.58 326.35 8.77 4.000% Due 08-01-20 05-23-02 06-25-07 981.060 FNCI M #254371 976.77 981.06 4.29 5.500% Due 07-01-17 09-15-04 06-25-07 54.133 FNCI N #725445 54.17 54.13 -0.04 4.500% Due 05-01-19 01-29-07 06-25-07 I ,743.907 FNCI N #725445 1,673 .61 1,743 .91 70.30 4.500% Due 05-01-19 08-23-05 06-25-07 301.660 FNCI N #829053 292 .61 301.66 9.05 4 .000% Due 08-01-20 09-08-05 06-25-07 320.890 FNCI N #825335 312.27 320.89 8.62 4 .000% Due 05-01-20 01-08-07 06-25-07 12,763.700 FNCL # 256394 13,018.98 12,763 .70 -255.28 6 .500% Due 09-01-36 01-12-05 06-29-07 35,000.000 DELL COMPtJfER 42,751.45 36,791.30 -5,960.15 7 .I 00% Due 04-15-28 TOTAL GAINS 8,349.95 813.19 TOTAL LOSSES -9,006.51 -6,049.85 ·•.·.• .·••• l;3-'t7;8i9;1i9 1,371,935.87 ~6$§;56 -$-,Z36.~6 TOTAL REALIZED GAIN/LOSS -5,893.22 12 • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • ICC Capital Management PORTFOLIO SUMMARY PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME June 30, 2007 Pet. Cur. Est.Annual Security Type Total Cost Market Value Assets Yield Income Cash & Equivalents CASH AND 1,535,251.78 1,535,251.78 13.4 5 .0 76,762 .59 EQUIVALENTS 1 ,535,251. 78 1,535 ,251.78 13.4 5 .0 76,762.59 Fixed Income CORPORATE BONDS 3,110,764.20 3,008,043.55 26.3 6.2 187,431.25 GOVERNMENT 1,935,226.15 1,916,650.45 16.7 3.6 68,825.00 BONDS MORTGAGE POOLS 3,528,621.60 3,469,320.20 30.3 5.7 197,492.03 GOVERNMENT 1,449,886.10 1,427,715.62 12.5 5.8 82,815 .00 SPONSORED BOND Accrued Interest 90,994.36 0 .8 10,024,498 .06 9,912,724.18 86.6 5.5 536,563 .28 TOTAL PORTFOLIO ·. ··· U,559;749Al4 11,447,975.96 .. ·too.o 5.4 . 613,325.86 13 • • • • ICC Capital Management • PORTFOLIO APPRAISAL • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME June 30, 2007 • Unit Total Market Pet . Cur. • Quantity Security Cost Cost Price Value Assets Yield • CASH AND EQUIVALENTS • CASH & CASH EQUN ALENTS I ,535,251. 78 1,535,251.78 13.4 5.0 1,535,251.78 1,535,251.78 13.4 5 .0 • CORPORATE BONDS • 80,000.000 GENERAL ELECTRIC 110.79 88,629.60 106.13 84,907.20 0 .7 7.8 CAP CROP • 8.300% Due 09-20-09 235,000 .000 FLEETBOSTON FINL 106.28 249,762.70 104.42 245,389.35 2.1 7.1 • CORP • 7.375% Due 12-01-09 280,000.000 JPMORGAN CHASE & 108.76 304,525.20 106.43 298,004.00 2.6 7.4 • co 7.875% Due 06-15-10 • 115,000.000 ALCOA INC 107.37 123,473.20 104.74 120,453.30 1.1 7.0 7.375% Due 08-01-10 • 255,000.000 CITIGROUP INC 104.86 267,383.25 103.13 262,976.40 2.3 6.3 6 .500% Due 01-18-11 • 195,000.000 INTL LEASE FIN AIG 105 .64 205,999 .95 100.67 196,308.45 1.7 5.8 5 7/8 • 5 .875% Due 05-01 -13 25,000 .000 LEHMAN BROTHERS 102.ot 25,502.30 99.95 24,986.50 0 .2 5.8 • HOLDINGS 5.750% Due 05-17-13 • 85,000 .000 GOLDMAN SACHS 98.44 83,674.00 96.94 82,401.55 0.7 5.4 5.250% Due 10-15-13 • 100,000.000 JP MORGAN CHASE 99.68 99,682.00 95.07 95,066.00 0.8 5 .1 4.875% Due 03-15-14 ,. 80,000 .000 MORGAN STANLEY 98.28 78,620.80 93 .38 74,707.20 0 .7 5.1 4.750% Due 04-01-14 • 100,000.000 GENERAL ELEC CAP 99.86 99,856.00 98.84 98,843 .00 0.9 5.6 • CORP 5.500% Due 06-04-14 • 45,000 .000 BEAR STEARNS 97.40 43,829.55 98.06 44,127.45 0.4 5.8 5.700% Due 11-15-14 • 65,000.000 GOLDMAN SACHS 99.74 64,829.10 95.02 61,765.60 0.5 5 .4 5.125% Due 01-15-15 • 50,000.000 JP MORGAN CHASE 101.59 50,797.00 96.35 48,173.00 0.4 5 .4 5.250% Due05-01-15 • 170,000.000 MERRILL LYNCH & 103.52 175,989.10 98.91 168,152.10 1.5 6.1 co • 6.050% Due 05-16-16 150,000.000 MCDONALD'S CORP 98.90 148,348.50 95.89 143,841.00 1.3 5.5 • 5.300% Due 03-15-17 100,000.000 NATIONAL RURAL 99.68 99,680.00 96.79 96,794.00 0 .8 5.6 • UTILCOOP 5.450% Due 04-10-17 • 200,000.000 MORGAN STANLEY 99.70 199,394.00 95.94 191,882.00 1.7 5.8 5 .550% Due 04-27-17 • 200,000.000 MERRILL LYNCH 99.83 199,668.00 96.29 192,584.00 1.7 5.9 • 5 .700% Due 05-02-17 75,000 .000 IBM CORP 105.60 79,202.05 105.73 79,299.75 0 .7 6.1 ,. 6.500% Due 01-15-28 0.000 DELL COMPUTER 0.00 0.00 105.25 0.00 0 .0 6 .7 • 7.100% Due 04-15-28 • 14 • • • • • • • • ICC Capital Management • PORTFOLIO APPRAISAL • PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME • June 30, 2007 • Unit Total Market Pet • Cur. Quantity Security Cost Cost Price Value Assets Yield • 305,000.000 CONOCOINC 115.80 353,187.65 109.14 332,864.80 2 .9 6 .4 • 6.950% Due 04·15-29 15,000.000 KOHLS CORP 120.00 18,000.45 107.95 16,192.80 0.1 6.7 • 7.250% Due 06-01-29 55,000.000 ARCHER DANIELS 92 .24 50,729.80 87.86 48,324.10 0.4 6.1 • 5.375% Due 09-15-35 Accrued Interest 39,827.66 0.3 • 3,110,764.20 3,047,871.21 26.6 6.2 • GOVERNMENT BONDS • I ,260,000.000 UNITED STATES 95.93 1,208,717.20 96.59 1,217,081.25 10.6 3.6 TREASURY • 3.500% Due 02-15-10 595,000.000 U.S. TREASURY 40.27 239,627.70 38.19 227,206.70 2 .0 0.0 • STRIPS 0.000% Due 11-15-25 • 460,000.000 UNITED STATES 105.84 486,881.25 102.69 472,362.50 4.1 5.2 TREASURY BOND • 5.375% Due 02-15-31 Accrued Interest 25,666.78 0.2 • 1,935,226.15 1,942,317.23 17.0 3.6 • MORTGAGE POOLS 47,715.730 GNJO M #781313 103.12 49,206.85 100.59 .47,999.64 0.4 6 .0 • 6.000% Due 07-15-16 I. 119,444.770 FNCI M #254371 99.56 118,922.20 98.88 118,112.96 1.0 5.6 5.500% Due 07-01-17 • 6,480.800 FGCI N #BI3455 99.71 6,461.69 95.16 6,167.19 0.1 4 .7 4 .500% Due 04-01-19 • 346,739.329 FGCI N #813978 98.45 341,375.70 92.91 322,158.98 2.8 4.3 4.000% Due 05-01-19 • 122,582.350 FNCI N #725445 96.09 117,792.33 95.14 116,627.30 1.0 4.7 4.500% Due 05-01-19 • 207,644.770 FGCI N #GII690 96.65 200,681.44 92.91 192,924.83 1.7 4.3 4.000% Due 02-01-20 • 59,037.770 FNCI N #825335 97.31 57,451.13 92.53 54,628.24 0.5 4.3 4.000% Due 05-01-20 • 67,235.110 FNCI N #255888 97.31 65,428.17 92.53 62,213.32 0.5 4.3 4.000% Due 08-01-20 • 58,243 .380 FNCI N #829053 97.00 56,496.08 92.53 53,893.18 0 .5 4.3 4 .000% Due 08-01-20 • 216,324.095 FGCIN#GI2208 92 .77 200,674.40 92.64 200,406.97 1.8 4.3 4 .000% Due 02-01-21 • 155,545.700 FGCI #GI2205 4.5% 96.48 150,077.30 94.95 147,696.86 1.3 4 .7 I 4.500% Due 06-0 1-21 • 8,532.052 FGCI N #G 12323 95.88 8,180.11 94.95 8,101.53 0.1 4 .7 I. 4 .500% Due 08-01-21 177,118.230 GNSF M #552509 98.77 174,931.93 99.78 176,733.88 1.5 6.0 • 6.000% Due04-15-32 42,386.160 GNSF M #582153 99.83 42,313.31 99.78 42,294.18 0.4 6 .0 • 6 .000% Due 06-15-32 I ,023,956 .970 FGLMC #G02268 102.08 I ,045,236.82 101.07 I ,034,964.51 9.0 6.4 • 6.500% Due 08-01-36 875,874.370 FNCL # 256394 102.00 893,392.16 100.97 884,396.63 7 .7 6.4 • 6.500% Due 09-01-36 • 15 • • • • • • • • • • • • • • • • • • • • • l e I • • • • • • • • • • • • • • • • • • • • • • • • • ICC Capital Management PORTFOLIO APPRAISAL PALM BEACH GARDENS POLICE PENSION FUND FIXED INCOME June 30, 2007 Unit Total Market Pet. Quantity Security Cost Cost Price Value Assets Accrued Interest 15,909.08 0.1 3,528,621 .60 3,485,229.28 30.4 GOVERNMENT SPONSORED BOND 505,000.000 FEDERAL NATIONAL 103.06 520,453.00 100.56 507,840.62 4.4 MORTGAGE ASSN 6.000% Due 05-15-08 300,000.000 FANNIE MAE 100.00 300,000.00 99.72 299 ,1 56.25 2 .6 5.300% Due 04-30-10 460,000.000 FHLMC 104.22 479,433.10 102.66 472 ,218.75 4 .1 6.000% Due 06-15-11 150,000 .000 FANNIE MAE 6.01% 100.00 150,000.00 99.00 148,500.00 1.3 6.010% Due04-I0-17 Accrued Interest 9,590.83 0 .1 1,449,886.10 1,437,306.46 12 .6 TOTAL PORTFOLIO U,S59,749•84 .. 11,44'7,915;96 . 100.0 16 Cur. Yield 5.7 6 .0 5.3 5.8 6.1 5.8 5.4 What Lies Beneath: Navigating the Hedge-Fund Market Jon Ruff Daniel J. Loewy Director-Wealth Management Group Director of Research and Analytics-Wealth Management Group 1. INTRODUCTION: CHARTING A ROAD MAP FOR HEDGE FUNDS Since the early 1990s, hedge funds have grown at a stag- gering rate. Once the exclusive province of the ultra- wealthy investor, today hedge funds are attracting a broader group of private investors; they are increasingly popular in the institutional arena as well. Between 1990 and the end of2005, the number ofhedge funds burgeoned from a few hundred to some 8,200, repre- senting more than $1.1 trillion in net assets-explosive growth that has been well documented. Receiving less attention, though much more significant for investors, is the difficulty of finding a road map or a means of assessing how hedge funds earn returns and assume risk-information that is essential when determining how much to allocate to them. This is especially important because hedge funds can be far more puzzling than traditional investments. The strate- gies employed are varied, the manager track records typically short, and information about their ongoing investments often thin. Further, the growth ofhedge-fund assets notwith- standing, there's no consensus among investors on the degree to which they should be used-if at all, as noted in two recent surveys.1 Though university endowments were among the early converts to hedge funds, nearly 40% of them still have no allocation. A survey of wealthy private investors found that approximately one in five had no exposure, while nearly one-third of the respondents reported allocations of more than 25%. Are some investors too cautious and others too aggressive? With little common ground among investors about the utility of hedge funds, we undertook in-depth research on thousands of funds-greatly expanding our 2002 study, Hedge Fund Myths and Realities. Our goal was to help investors-both private and institutional-better understand the drivers of success in hedge-fund invest- ing and the key variables in determining an allocation. • 1 National Association of College and University Business Officers and Institute for Private Investors; 2005 surveys What Lies Beneath: Navigating the Hedge-Fu nd Market 3 2. THE LURE OF HEDGE FUNDS: NIRVANA OR SIREN SONG? A hedge fund is a lightly regulated investment pool, generally limited to high-net-worth individuals and institutions, in which the manager is given great flex- ibility to exploit inefficiencies in the global investment markets. To accomplish their investment goals, hedge- fund managers utilize a far wider set of tools than traditional portfolio managers. In the classic config- uration, hedge-fund managers not only "go long" securities they believe are likely to appreciate, but also "short-sell" securities poised, in their judgment, to fall mpnce. But these aren't the only tools available to hedge-fund managers. Hedge funds may utilize financial derivatives or employ leverage. Some invest in non-traditional or illiquid assets, such as loans or private equity. Others may invest in distressed assets or employ arbitrage techniques that attempt to capitalize on merger oppor- tunities or perceived misvaluations between two closely related securities. (Also see More Information About Hedge · Funds, page 20.) This expanded tool kit is designed to capture more return while at the same time hedging out many unwanted investment risks. In fact, for many so-called market-neutral hedge funds, the target is to eliminate the portfolio's sensitivity to the markets' ups and downs-say, by short-selling securities as much as they buy long. We'll see, however, that while hedge funds mitigate some types of risk, they add others. Display 1 How Hedge Funds Are Different Given the wide array ofhedge-fund strategies, it's not surprising that the return profile of hedge funds is heavily dependent on a manager's investment skill- much more so than most traditional investment port- folios. If investment strategies are arrayed according to their dependence on the market (Displa y 1), index funds , which aim to replicate a benchmark, are at one end of the spectrum. In the middle are traditionally managed portfolios, which usually aren't structured very differently from the market-but rely on manag- ers' investment selections to earn a premium return. At the far end of the spectrum are hedge funds, whose returns are driven primarily by manager strategies rather than by broad market direction. For example, over the 10 years ending in 2005, the market accounted for better than 80% of the ups and downs generated by the average traditional equity manager (Display 2, next page). 2 In contrast, hedge funds were virtually a mirror image: only 20% depen- dent on the broad market and fully 80% on manager decision making. When so much of a portfolio's return is a function of alpha rather than beta, successful managers have the potential to produce a very attrac- tive return profile. They can avoid the inevitable market downturns and targeJ; positive absolute returns regardless of the prevailing environment. Of course, Hedge Funds Are Substantively Different from Traditional Portfolios in Their Approach to Investing .•. Goal Strategy Potential Sources of Alpha Risks 4 AllianceBernstein Index Fund Market return Replicate the market N/A Market decline Traditionally Managed Portfolio Premium over market return Benefit from rising markets Manager uses expertise in security selection to ge nerate alpha Long-only security selection Market decline Poor investment selection Typical Hedge Fund Positive return in up and down markets Reduce/eliminate risk of declin ing markets Fully exploit manager's ability to generate alpha through flexible investing format Long security selection Short security selection Access to various investment markets Range of financial instruments l everage Specialized strategies (e.g., arbitrage) Poor investme nt selection/use of techn iques and tools Underperforming a rising market 2 Traditionally managed bond portfolios rely most heavily on broad movements in the market to generate their returns too. We found that 89% of the variation in the average active bond manager's return was drive n by broad bond market movements, with the remaining 11% driven by manager decisions. Display 2 ... As Reflected by Their Far Heavier Reliance on Manager Skill Drivers of Returns: Stock-Market Movements vs. Manager Decisions* 199&-2005 Index Fund Average Traditional Active Manager Average Hedge Fund * ffi measured the variation in monthly returns (using a statistical measure called r-squared) that is attributable w the Russell3000 Index for each fund in our sample universes and tJ:Jok the average result w represent the market return driver. ffi at- tributed all returns not explained by the Russell3000 movements w active manager decisions. See The TASS Database and The Mercer Database of Equity and Fixed-Income Managers, see page 23 for details. Source: Mercer, Russell Investment Group, TASS and AllianceBemstein such heavy reliance on manager skill is a double-edged sword: If achieving alpha proves elusive, a fund can do very poorly. Throughout this study, we consider how the shift from primarily market-based to primarily manager-based returns creates unique opportunities and unique risks that must be understood and factored into asset allocation decisions. Display 3 Even After Adjusting for the Upward Biases in Reporting, Hedge Funds Showed an Attractive Profile ReturnNolatility Trade-Off* 14 1996-2005 Annualized 12 • Avg. of Hedge-Fund lndicest 10 • Stocks ~ 8 • Hedge-Fund Composite: E Bernstein Estimates ~ 6 • Bonds ~ 4 • T-Bills 2 0 0 2 4 6 8 10 12 14 16 Volatility (%) *Past performance does not guarantee future results. See page 23 for information on how we used and adjusted the TASS database of hedge funds. t Seven widely used hedge-fund indices Source: Lehman Brothers, Standard & Poor!, TASS and AllianceBernstein 18 Stock-Like Returns Without the Risk? To see whether hedge-fund investing fulfills its prom- ise, we looked at a number of widely used indices that attempt to characterize industry performance. As shown in Display 3, the average of those indices from 1996 through 2005-the box at the top center of the chart-shows enviable results: a compound return about four percentage points above the S&P 500's but with volatility closer to the level ofbonds than stocks. But were these results too good to be true? We took a harder look, trying to adjust for the biases that come with the territory in hedge-fund performance reporting. It is at a fund's discretion to submit results- or not-and for however long a time period it chooses. Given this large degree of reporting discretion, hedge- fund index results tend to be significantly overstated. We created our own composite of hedge-fund returns by researching the performance of the 6,000+ funds in the TASS database and adjusting the reported returns with the goal of correcting for several biases. (See A Good Hedge-Fund Index Is Hard to Find, page 6, for details on our approach to analyzing hedge-fund returns.) The result was a hedge-fund composite whose performance was in line with that of the S&P 500 rather than exceeding it (see the Hedge-Fund Composite box in Display 3). But earning stock-like returns with much reduced volatility is still a compelling combination. In fact, our hedge-fund composite (the basis of our findings throughout the rest of this study) looked even better when we examined the decade from 1996 through 2005 year by year (Display 4). In a period of Display 4 Hedge Funds Participated in Rising Markets and Preserved Capital When Stocks Tumbled ... Annual Returns for the Stock Market and Hedge Funds* 199&-2005 40 20 (20) (40) 96 97 98 99 00 01 02 03 04 05 *Past performance does not guarantee future results. Hedge-Fund Compositet t Not including fund of funds. See page 23 for information about the TASS database of hedge funds and our methodology. Source: Standard & Poor!, TASS and AllianceBemstein What Lies Beneath: Navigating the Hedge-Fund Market 5 A CLOSER LOOK : A Good Hedge-Fund Index Is Hard to Find Investors in traditional asset classes have the benefit of a long data series of index returns that profile their risk and return characteristics. For example, the S&P 500 and its predecessors com- prise 80 years of stock-return history. Indeed, a recent study presented risk and return statistics for equities as well as government bills and bonds for the last 100 years in 16 countries.* Underpinning results like these are indices comprising securi- ties selected on the basis of a consistent method- ology, with performance monitored over time. Given a reliable proxy for an asset class, investors have some basis for analyzing performance in a host of market environments-periods of strong economic growth, recessions, inflationary spirals, wars, etc.-and can draw reasonable conclusions about the risk and return potential of making large or small allocation commitments. When it comes to hedge funds, however, the indices do not represent a consistent group of assets selected and monitored over time.-They are a collection of fund returns self-reported by the managers; hence, they include only managers who choose to report. In fact, managers can stop reporting at their discretion. Gaps such as these create the potential for a number of biases in reported results that must be factored in. To get a better handle on the performance actually experienced by investors, we started with a vast universe of 6,000 hedge-fund managers, derived from one of the largest commercially available databases, provided by TASS. When we analyzed the historical results of all funds reporting to the database as of year-end 2005, we calculated an average compound return of 15.1% over the prior 10 years. We then adjusted the results to correct as much as we could for several important biases: • Elroy Dimson, Paul Marsh and Mike Staunton, Triumph of the Optimists: 101 Years of Global Investment Returns, Princeton University Press, 2002. 6 AllianceBernste in • Backfill Bias: With the hope of creating a longer, more comprehensive series ofhistorical returns, some indices include a fund's prior returns even though they have just begun to report their results to the index provider. Funds tended to "backfill" when their earlier results were superior; weak performance was far less likely to be added ex post facto. To correct for this problem, we included only fund returns from the point the manager began reporting to the database. This reduced our return estimate to 13.4%. • Su rvivorsh ip Bias: Some indices exclude the h istorical returns of funds that were once in their database but are no longer reporting. The bias here is the mirror image of backfill bias. Not surprisingly, we found that many such funds had been under performing their peers when they stopped reporting. We included all of these funds in our analysis-reducing our return estimate to 8.9%. • Short Hi story: Most hedge-fund indices began in the early 1990s, when there were few funds in the universe. When we corrected for back- fill, there were even fewer. We therefore began our performance history in 1996, the point at which we felt we had a reliable sample of funds. After making these adjustments to the data, we found that very few funds had reported returns for as long as 10 years: Only 18% of the funds that reported in 1996 were still reporting at the end of2005 (display ,facing page). Even three-year records proved elusive: Fewer than two-thirds of the funds reporting in 2003 were still in the database by the end of 2005. The reason for the thin history was clear enough: Funds that stopped reporting had underperformed their peers during the prior 12 months by an average of 10%. Many Hedge Funds Have Short Track Records, Either Because They Haven't Been Around Long or They Stopped Reporting After Hitting a Rough Patch Percent of Hedge Funds That Continued to Report Returns in 2005* 64% I 43% I Funds That Began Reporting in: 2003 2000 18% • 1996 * &e page 23 fM information about the TASS database of hedge funds, which we used in our analysis. Souru: TASS andAI/ianceBemstein Many index providers have attempted to adjust for some of these biases, with varying degrees of success. We don't claim that our own database is perfect-but we've tried to create a reliable proxy using a sound methodology.t And as we illus- trated in Display 3 (page 5), our research indicates that hedge-fund returns have been substantially lower than the average of a group of commonly cited indices--still superior results, mind you, but not as stellar as they would appear at first glance. • twe weren't able to account for all the biases that could impact hedge-fund performance. For example, there is no way of getting access to a fund's returns in the months after it stops reporting to a database . Another is the potential impact of the time-sensitivity of our analysis: The 10-year period we studied (1996-2005) may in retrospect turn out to have been unusually good for hedge funds or unusually poor. Further, numerous commentators have discussed the possibility that hedge-fund returns are more volatile than they appear owing to the difficulty of accurately marking many of their illiquid holdings to market. extraordinary stock-market volatility-which included both superb years and one of the worst bear markets since the Great Depression-hedge funds, on average, did what they were supposed to do. They participated in-or beat-the S&P in six of the seven up years, and when the market dropped by 38% between 2000 and 2002, they gained a cumulative 5% (posting positive returns each year). In fact, when the S&P tanked, cash flows into hedge funds spiked as investors looked to them for potential insulation from market risk. Further, although hedge-fund correlations to the stock market haven't been quite as low as those of bonds (Display 5), they were a diversifying investment-since their average exposure to the market was low . In light of this performance history, hedge funds appear to be a natural fit in the traditional asset alloca- tion framework, designed to combine asset classes with attractive return, volatility and correlation character- istics. Indeed, it wouldn't be surprising if an allocation model placed all of an investor's capital in hedge funds, barring a weighting cap by the investor or his advisor. But in our view, simply using annualized return and standard deviations to make allocation decisions would be a serious mistake, because hedgejund risks aren't adequately captured by volatility alone. Display 5 ... While Offering a Diversification Benefit for Equity Portfolios Correlations to S&P 500* 1996-2005 High Correlation Low Correlation +---US Growth Stocks +---US Value Stocks International Stocks Hedge-Fund Composite Real Estate Bonds *Correlation between the S&P 500 and other investment alternatives, which are represented by the following-US Growth Stocks: Russell1000 Growth Index; US Ullue Stocks : Russell 1000 Ullue Index; International Stocks : MSCI All Country J#rld Index ex USA ; REITs: National Association of Real Estate Investment Trusts (NAREI7) I~dex; Hedge Funds: TASS andAlliance&rnstein ; Bonds : Lehman Brothers US Aggregate Index. Past correlations are not necessarily indicative of future results. What Lies Beneath: Navigating the Hedge-Fund Market 7 Hedge-Fund Ri sk Is About Manager Mistakes For one thing, during hedge funds' short history, the industry has experienced massive change: growth in the array of fund strategies, t remendous capital inflows and a surge in the number of managers. As more assets chase "alpha" in the global markets, the h eightened competi- tion may make it harder for managers to add value. But the need to carefully assess hedge-fund risks runs deeper. Hed ge funds are not an asset class-like stocks or bonds-whose returns are underpinned by fundamentals like corporate earnings growth or the cash-flow-generating power of companies or govern- ments. R ather, hedge funds are collections of discrete managers, each relying on his or her own ability to exploit inefficiencies in the capital markets by means of a spe- cific tool set and o rientation (st o ck picking, arbitrage, wagering on macro sce n arios and so forth). As a result, performance dispersion-the difference between the results of a particular m anager and the index-runs high in hedge funds; much higher, inci- dentally, than in traditionally managed stock and bond portfolios. In D isp lay 6, we show annual results from 1996 through 2005 for the same adjusted hedge-fund composite we used in Display 4-that's the middle line running across the bars. The tops of the boxes are the results achieved by the manager who outper- formed 90% of his peers; at the bott om are the returns of the manager who underperformed to a corresp ond- ing degree. In some years the range between top-and bottom-d ecile manager s was eye-popping: some 80 Display 6 Hedge-Fund Index Returns Tell Investors Littl e; the Disparity Among Manager Performance Ha s Been Notable Range of Annual Hedge-Fund Manager Returns* (%) 1996-2005 80 60 40 20 0 (40) 96 97 98 99 00 01 02 03 04 05 Top -Decile Manager H edge-F~nd Compositet Bottom-Decile Manager *Past performance does not guarantee future results. Also see page 23 for information about the TASS database and our methodology. t Not including fund of funds Source: TASS andAllianceBemstein 8 AllianceBernstein Display 7 Going with Today's Hot Fund I s Not a Winning Formula Consistency of Hedge-Fund Perform ance * 1996-2005 Ranking over Prior 3 Years Ranking over Forward 3 Years Top Quartile Second Quartile Third Quartile Bottom Quartile *I# looked at all funds in the TASS database (see page 23) that met our index- inclusion criteria (excluding funds of funds) and that had at least a three-year perfor- mance track record at the end of 1998, 1999,2000,2001 or 2002. Those whose performance track records would have placed them in the top quartile of hedge-fund managers were tracked as to their quartile rankings over the subsequent three years. Source: TASS and AllianceBemstein p er centage points in 1999 and 55 points in the previous year. But in all years, the dispersion was notable. So while it's always important to choose good managers, in the hedge-fund landscape it's critical-because know- ing the results of a hedge-fund index does little to prepare the investor for what to expect from the fund he or she has chosen. Unfortunately, simple techniques to differentiate between managers, such as relying on a fund's past return levels, are a poor guide to future success. We found that managers' total returns in the past were weakly correlated with their performance in subsequ ent periods (Disp lay 7). For example, between 1996 and 2005, only 28% of top-quartile hedge-fund managers over three-year periods maintained their edge over the next three-year period; in fact, another 28% of these managers fell to the bottom of the pack. 3 In other words, the odds of top managers maintaining their rankings were in line with a random distribution. And so hedge funds are neither "Nirvana" for investors nor a siren song. They're complex vehicles with cor- respondingly complex risk /return profiles. Using them to their best advantage requires an astute understanding of their dynamics-and as always, it's the details that make the difference. • 3 More sophisticated techniques to differentiate between managers, such as selecting based on past Sharpe and information ratios-statistical measures of return per unit of risk-may offer a better indication of future performance, but our analysis found that, even so, the correlations were generally weak and variable by strategy. .. ------------------- Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance with Government Auditing Standards Board of Trustees Palm Beach Gardens Police Officers' Pension Fund Palm Beach Gardens, Florida -.,.---...,.,_......_. .... _ __,~ """""''"'" .,.~ .. ·~- We have audited the financial statements of Palnf Beach Gardens PoliceUicers~ Pension Fund (Fund) as of and for the years ended Sept~me~~O. 200§~~nd 2005, and niWiissued our report thereon, dated February 12, 2007. We condu~ctea .ouEatiCfitin accordanae with auditing standards generally accepted in the United States of A~fia and the standards applicable to the financial audits in Government Audit{QJJ Standards, iss'Cf~Z:QY the Comptroller General of the United States. ~-~··-· ::."." ,___, . ....,.,......,......~,~~-·-· A.oo~ _,__.,_ --" .,, ,....._ AX>-o >•-·<·•'• ~d'>.x ' .,-~_.,._.,_-,_.,_,'"'--•• '-"'-~...---. ~ ....... ~, .. ~--""" ---. In planning and performing 9ur.audit, we cori.sictefed thifRtu:rd's internal control over financial reporting in order to determiii'ij.i§tUr auditing :!5i 6cedures fciff the purposes of expressing o·ur opinion on the financia f statemFeTs: and not to ';'provide assurance on the internal control over financial reporting ... et!h _G9nsiderJn[pn of the internal control over financial reporting that might be material weaknesse S::":~:.mateiiaLweakness is ~reportable condition in which the design or operation of one <?r more 6f~ID~Jfi'tffi!Th1i!~ee.atro L ~9mponents does not reduce to a relatively low level the risk·tbat:misstatemeru~~ln amoiJffiS':.Z~Lised by error or fraud that would be material in relation tQ}the financfui_$t.@tement¥.Ja.eing audited may occur and not be detected within a timely periodJ~y · employees irftf:ie~norma~l~~)g§g· of performing their assigned functions. We noted no matters:~'ii}y;Qiving the internEiJ~~control ~e.yer financial reporting and its operation that we consider to be matef~t-weaknesses. -~~:;:;: r Compliance iiff~~~her Matl,!=fts As part of obtaining ~-~~:~_§,9·nable assurance about whether the Fund's financial statements are free of material misstatement, we performed tests of its compliance with certain provisions of laws, regulations, contracts and grant agreements, noncompliance with which could have a direct and material effect on the determination of financial statement amounts. However, providing an opinion on compliance with those provisions was not an objective of our audit and, accordingly, we do not express such an opi!lion. The results of our tests disclosed no instances of noncompliance or other matters that are required to be reported under Government Auditing Standards. 22 This report is intended solely for the information and use of the Board of Trustees and management, and is not intended to be and should not be used by anyone other than these specified parties. West Palm Beach, Florida February 12, 2007 - ---- -·~ ---- -----------------------""':.. -::."':-. ------=-~ - ..:=:::=;_ -····---:--· ·~ -=- ~ : ---- "=.._ ------ ---. ----·--- -- 23 The Callan Periodic Table of Investment Returns MSCJ MSCI EAFE EAFE Annual Returns for Key Indices {1987-2006) Ranked in order of performance {Best to Worst) 10.S3% ·23.45% 12.14% • • S&P 500 Index measures the performam:e of large capitalization U.S. stocks. The S&P 500 is a market-value-weighted indeJt of 500 stocks that are traded on the NYSE, AMEX and NASDAQ. The weightings make each company's influence on the IndeJt performance directly proportional to that company's market value . • S&P/Citigroup 500 Growth and • S&P/Citigroup 500 Value Indices measure the performance of the growth and value styles of investing in large cap U.S. stocks . The indices are constructed by dividing the market capitalization of the S&P 500 Index into Growth and Value indices, using style "factors" to make the assignment. The Value index contains those S&P 500 securities with a greater-than-average value orientation, while the Growth index contains those securities with a greater-than-average growth orientation. The indices are market-capitalization- weighted. The constituent seeuritie.~ are NOT mutually exclusive . • Russell 2000 Ind ex measures the performance of small capitalization U.S. stocks. The Russell 2000 is a market-value-weighted indeJt of the 2,000 smallest stocks in the broad-market Russell 3000 Index. These securities are traded on the NYSE, AMEX and NASDAQ . • Russ ell 2000 Value and 0 Russell 2000 Growth Indices measure the performance of the growth and value styles of investing in small cap U.S. stocks. The indices are constructed by dividing the market capitalization of the Russell 2000 Index into Growth and Value indices, using style "factors" to make the assignment. The Value index contains those Russell2000 securities with a greater-than-average value orientation, while the Growth index contains those securities with a greater-than-average growth orientation. Securities in the Value index generally have lower price- to-book and price-earnings ratios than those in the Growth index. The constituent securities are NOT mutually exclusive. 0 MSCI EAFE is a Morgan Stanley Capital International Index that is designed to measure the performance of the developed stock markets of Europe, Australasia and the Far East. • LB Agg is the Lehman Brothers Aggregate Bond Index. This index includes U.S. government, corporate and mortgage-backed securities with maturities of at least one year. CAlLAN A.~A1E..'S .. knowledg~ for investors CO 2007 Callan Associates Inc. Callan Associates. headquartered in San Francisco, Calif., Is an innovative, nationally recognized leader in the institutional investment consulting industry. Callan provides consulting services through five lines of business: Fund Sponsor Consulting. Independent Adviser Group, Institutional Consulting Group, Callan Investments Institute and the Trust Advisory Group. Callan maintains four regional offices located in Denver, Chicago, Atlanta, and Florham Park, NJ. For more information, visit www.callan.com. Callan Associates Inc. 1 01 California Street, Suite 3500 San Francisco, CA 94111 Tel: 415.974.5060 Fax: 415.291.4014 Note: A printable copy of The Calan Periodic Table of Investment Retr.ms is available on our website at www.calan.com/resourcel CAlLAN ASSOCIATES.c The Callan Periodic Table of Investment Returns (1987-2006) ----------- The Callan Periodic Table of Investment Returns conveys an enormous amount of information. Above all, the table shows that the case for diversification, across investment styles (growth vs. value}, capitalization {large vs. small} and equ ity markets (U.S. vs . international) is strong. While past performance is no indication of the future, consider the following observations: The table illustrates the unique experience of the 1995-1999 period when large cap growth significantly outperformed all other asset classes and the U .S. stock market in general enjoyed one of its strongest five-year runs. The subsequent three years (2000-2002) saw consecutive declines in large cap stocks for the first time since 1929-32. The S&P 500 suffered its largest loss since 1974, declining 40% from the market peak in March 2000 through the end of 2002. Stock markets around the world generated robust returns in 2006. International stocks led all asset classes for the second year, notching a fourth consecutive year of double-digit gains with a return of 26.34%. The U.S. stock market improved on the modest performance reported in 2005, with all segments of the market-large, small, value and growth- generating double-digit returns. 2006 also marked the fourth year in a row in which all of the asset categories depicted on the table enjoyed positive returns. Small cap stocks surpassed large cap stocks in 2006, marking a return to the extended run of small cap outperformance that began in 1999 and was only briefly interrupted in 2005. The purpose of the table is to compare relative rather than absolute performance, however, it should be noted that while the equity rankings changed little in 2006, the absolute level of equity returns expanded dramatically from the compressed results of 2005. The difference between the best and worst performing domestic equity categories in 2006 was more than fifteen percentage points. Value outperformed growth in both large and small cap equity markets during 2006, marking the seventh year of an extended value run. After compressing to less than 2% during 2005, the difference between growth and value style returns in both large and small cap increased to 1 0% in 2006. Fixed income ranked last in 2006 for the fourth year in a row, after ranking first in 2002 and second during the two previous years. The continuing surprise for many investors was not that fixed income lagged stocks, but that it recorded a positive return at all, given the rising interest rate environment. The Federal Reserve raised interest rates five times in 2006 before pausing in August, for a total of seventeen 25 basis point rate hikes since it began tightening in June of 2004. The federal funds rate rose from 4.0%, at the start of the year, to 5.25%. The table highlights the uncertainty inherent in all capital markets. Rankings change every year. Also noteworthy is the difference between absolute and relative performance. For example, witness the variability of returns for international equity when it ranked last for four straight years (1989-1992), or for large cap growth, when it ranked second from last for the past seven years. This analysis assumes that market indices are reasonable representations of the asset classes and depict the returns an investor could expect from exposure to these styles of investment. In fact, investment manager performance relative to the different asset class indices has varied widely across the asset classes during the past 20 years. Please visit our website for our quarterly Capital Market Review newsletter containing our commentary on changes in the capital markets (www.callan.com -click on the ''resource center" and "periodicals'?.