Double-digit property returns for California pension giant Calpers are offering early evidence that the fund’s closely watched real-estate strategy may be paying off.

A year ago, the California Public Employees’ Retirement System, the nation’s largest public pension fund, began reducing the number of outside real-estate fund managers and moved away from riskier investments.

The step was designed to increase control over its portfolio while focusing more attention on higher-quality, but potentially lower-returning, properties. Calpers also de-emphasized the pursuit of outsize real-estate returns through the use of leverage, a strategy that at times resulted in blockbuster gains but also produced large losses, such as when the property bubble burst.

It still is early, but so far the changes have produced strong results. While Calpers’s$233 billion portfolio posted a return of just 1% for the 12 months through June, the real-estate portfolio posted a return of 15.9% for the 12 months through March. (Calpers reports real-estate results with a three-month lag.)

The real-estate returns exceeded Calpers’s customized benchmark by about three percentage points and were driven by several factors, including a focus on hot areas like high-quality office buildings in major cities and apartment buildings. Returns for these sectors were as high as 32%.

“We think these positive returns are the early results of our significant effort to restructure the portfolio,” said Theodore Eliopoulos, head of Calpers’s real-estate group, which has $21 billion in property assets.

The fund’s board last year approved a five- to seven-year plan to lower its real-estate investment risk. Calpers is moving three-quarters of its assets to core assets like well-leased office buildings, up from as low as 30%. It is also reducing its reliance on pooled investment funds in favor of separate one-on-one relationships with managers. Calpers officials say this improves disclosure and control over their invested money.

“We can tap specialists to run very focused strategies,” Mr. Eliopoulos said.

The restructuring included severing certain ties with some big real-estate managers like BlackRock Inc. BLK -0.25% and Hines. The fund then handed over new money to some of its more-specialized managers like CommonWealth Partners to acquire office buildings.

Recent acquisitions include the 1929 Hamilton Square building in Washington, D.C., former site of Garfinckel’s department store, and the sleekly modern Russell Investment Center in downtown Seattle.
Many pensions are following Calpers’s lead in turning away from higher-risk real-estate funds, and they are hoping that the California fund’s performance bodes well for all. But some real-estate executives say other funds may not match Calpers’s performance because most didn’t move as quickly.

“I think Calpers is an anomaly in terms of returns,” said Jeffrey Oram, an executive managing director at broker Colliers International and a member of the board that oversees New Jersey’s $70 billion public pension fund.
Some observers say Calpers also may have benefited from taking its pain early. Its real-estate portfolio lost 48% of its value for the year ending in June 2009, and Calpers reported a 12% loss in value the following fiscal year. Other corporate and public pensions have been more hesitant to mark down losses, which means they aren’t enjoying as large a rebound since the market turned.

Others observers suggest Calpers may be shunning riskier investments at a time when low property prices offer potential upside. They wonder if the fund’s recent returns are unsustainable, since Calpers moved adroitly into assets like apartments and major metropolitan-area office buildings as the run-up was getting going.
Even Calpers says the rapid market moves for high-quality offices are a concern. “Current prices are frothy,” Mr. Eliopoulos said. “But our partners have proved to be quite disciplined.”

During the previous decade’s boom years, Calpers sought big-time returns by chasing after risky land deals and using borrowed money to fund new developments.

While its annual property gains sometimes topped 20%, many of these investments soured during the financial crisis that wiped away more than $10 billion in the real-estate portfolio’s value. High-profile investments like a $500 million equity stake in Manhattan’s Peter Cooper Village and Stuyvesant Town apartment complex were written off.
For its core investments, Mr. Eliopoulos said Calpers’s 32% return from apartments was bolstered by the sector’s rising prices as Calpers sold more than 5,000 units. Its retail real estate returned 24%, aided by the appreciation of a 2009 portfolio acquisition, while its office buildings gained 20%. Calpers’s industrial portfolio, managed by CenterPoint Properties, returned 33%.

By contrast, Mr. Eliopoulos added, Calpers still has about $4 billion with 50 comingled high-risk, higher-return funds that returned 1.5% over the 12-month period.

With 9% of Calpers’s assets in real estate, below its long-term allocation target of 10%, the giant pension fund anticipates moving more money into property in the years ahead.

Write to Craig Karmin at craig.karmin@wsj.com.

Los Angeles-based CommonWealth Partners plans to spend about $6 billion acquiring properties in the Washington area and nationally as part of an investment fund it has launched with the California Public Employees’ Retirement System.

CommonWealth made its first purchase with the fund earlier this month when it paid $198 million, or about $797 per square foot, for Hamilton Square at 600 14th St. NW. CEO Michael Croft said he expects the former Garfinckel’s department store building will be the first of many investment deals in D.C. for CommonWealth.

“We are very excited to be invested in D.C.,” Croft said. “We hope to have many more.”

The company, with about 25 million square feet of properties nationally, has set its sights on primary markets on the East and West coasts in cities including New York, Boston, San Francisco and Seattle.

Eastdil Secured LLC Managing Director John Kevill, who marketed Hamilton Square for seller
Shorenstein Properties LLC, said several other pension fund advisers and an offshore investor also submitted competitive bids for the property.

Despite a slowdown in commercial office leasing, investors are still out there looking for high-end and well-leased properties in the District, Kevill said.

CommonWealth had been hoping to make its first acquisition in the region for several years.

The firm was close to acquiring Constitution Center in Southwest D.C. in a deal with current owner David Nassif Associates. Croft said CommonWealth could not make the deal work and has since withdrawn from the negotiating table.

CommonWealth Partners, a privately-held real estate investment, development and management firm based in Los Angeles, has acquired the Russell Investments Center at 1301 2nd Ave. in Seattle, WA for $480 million, or about $550 per square foot, from Milwaukee, WI-based life insurance giant Northwestern Mutual Life Insurance Company. According to CBRE, the sale marks the largest single-asset sale on the West Coast since 2006.

The 42-story, 872,026-square-foot, class A trophy property was built in 2006 on 1.2 acres in Seattle’s CBD, next to the Seattle Art Museum. Russell Investments Center is one of only eight class A office buildings constructed in the last ten years in the CBD, and is also the tallest new high-rise in the submarket.

“This is a best-in-class building that is widely considered one of the top three assets in the entire Seattle market. Its premiere location, unobstructed water views, LEED Platinum status, and exceptional credit tenant base made for a highly competitive bid process,” said CBRE Vice Chairman Kevin Shannon. “There were 34 prospective buyer tours of the asset, which is highly unusual for a deal of this size and demonstrates the tremendous amount of capital that exists for core CBD assets. This is especially true in rising markets, like Seattle, that are experiencing strong job growth resulting in aggressive rent growth.”

In just the last two years, the building has gone from 30 percent to 95 percent occupancy according to CBRE leasing agents Jesse Ottele, Brandon Weber and Owen Rice. More than half of the building’s roster includes investment-grade tenants from the technology, bio-tech, retail and finance industries, including long-term leases with JP Morgan Chase, Boeing, Dendreon, Zillow, Nordstrom and Russell Investments – a subsidiary of Northwestern Mutual.

“This transaction is an example of how we actively manage our $5.8 billion real estate equity portfolio to generate strong returns on behalf of our policyowners,” said Paul Hanson, managing director, Northwestern Mutual Real Estate Investments. “Our real estate investment strategy typically focuses on long-term holds, but the Seattle real estate market rebounded more quickly than we anticipated and we were able to realize significant gains in a fairly short period of time.”

Northwestern Mutual acquired the asset in September 2009 for just $115 million, according to CoStar data.

“CommonWealth is very pleased to expand its presence in the Seattle market with the addition of this premier quality asset to our portfolio,” said Rick Lewis, partner with CommonWealth. In addition to Russell Investments Center, CommonWealth owns and operates Safeco Center, located just a few blocks away. “These investments are well-positioned to benefit from the continued momentum in the leasing market. With over $5.0 billion of capital to invest, CWP will continue to look for opportunities to expand in the Seattle area and across major US markets over the next several years,” he continued.

CBRE Vice Chairman Kevin Shannon led the team that handled the sale on behalf of Northwestern Mutual. He was assisted by Todd Tydlaska and Kevin White of CBRE’s Institutional Group, along with Seattle market investment experts Tom Pehl, Tom Abbot and Lou Senini with CBRE. The CBRE leasing team of Ottele, Weber and Rice also assisted in the sale. The buyer was represented in-house.

SACRAMENTO, CA – The California Public Employees’ Retirement System (CalPERS) today announced the year-end transfer of its National Office Partners (NOP) real estate portfolio from Hines to CommonWealth Partners LLC (CWP). The $998 million portfolio ($724 million in market value plus debt) consists of approximately 5.2 million square feet of Class A office properties in office markets across the United States including Boston, Chicago, Seattle, San Francisco, Palo Alto, Minneapolis, Salt Lake City, Austin and Denver. The transfer is part of the pension fund’s broad strategic realignment of its real estate program.

CWP is a privately held, vertically integrated real estate investment, development and management firm based in Los Angeles, with offices across the United States. CWP has executed over $4 billion of transactions in other CalPERS partnerships, beginning in 1998, and will be an active investor on behalf of the pension fund with a significant capital allocation for investment across the United States.

“CommonWealth Partners has done extremely well for us for over 12 years now, and we anticipate very good performance from them and the domestic office portfolio going forward,” said Ted Eliopoulos, the senior investment officer who oversees more than $15 billion invested in CalPERS global real estate. “We’re also excited about the opportunities we’re pursuing with Hines on a global basis.”

CalPERS recently increased its allocation to a Hines-sponsored fund in Brazil by $190 million. It has active co-investment platforms with Hines in Asia, Latin America and Europe as well as investments in the United States through the Hines CalPERS Green Fund focusing on sustainable development.

Hines is a privately owned real estate firm involved in investment, development and property management worldwide. The firm’s historical and current portfolio of projects that are underway, completed, acquired and managed for third parties includes 1,119 properties representing more than 457 million square feet. With offices in 100 cities in 17 countries, and controlled assets valued at approximately $23 billion, Hines is one of the world’s largest real estate organizations and a leader in sustainable real estate strategies.

CalPERS, with approximately $222 billion in assets, is the nation’s largest public pension fund and administers retirement benefits for more than 1.6 million active and retired State, public school, and local public agency employees and their families. For more information about CalPERS, visit www.calpers.ca.gov.