Ted Ballantine | Pension360

NYC Pension Appoints New Heads of Private Equity, Hedge Fund Investments

The New York City Bureau of Asset Management – the entity that manages assets for the city’s retirement systems—has appointed two staffers to head its private equity and hedge fund investments, respectively.

The backgrounds of the appointees, from Chief Investment Officer:

Effective immediately, NYC’s comptroller appointed Alex Doñé as head of private equity and Neil Messing to take over the hedge fund portfolio.

Doñé has worked at the bureau, investing the city’s five pension funds, since 2012. Prior to the promotion, he served as the fund’s executive director of private equity and oversaw its $5.6 billion emerging managers program.

He spent the bulk of his earlier career in the private sector, with 16 years of experience in investment banking and private equity. Doñé has worked at Clearlake Capital Group, KPMG Corporate Finance, and Merrill Lynch. For two years, he served as a presidential appointee at the US Department of Commerce’s Minority Business Development Agency.

The NYC pensions’ new head of hedge funds likewise built his background in the private sector before becoming an asset owner in 2011. Messing most recently served as the fund’s senior investment officer responsible for hedge funds. According to the NYC comptroller’s office, he “built and managed a diversified $4 billion portfolio of direct hedge fund investments and a fund-of-hedge funds” for the pensions.

The CIO of the city’s pension system commented on the appointments:

“The appointment of Alex and Neil will strengthen the investment operations of the Bureau of Asset Management,” said Scott Evans, CIO of the New York City Pension Funds. “Alex and Neil are ethical and sophisticated investment managers and I am excited to see them take on new roles as part of senior leadership.”

The New York City Bureau of Asset Management manages $160 billion in assets for the city’s pension systems.

Chart: How Much Are CalPERS’ Board Members Paid?

The above graphic comes from a new Sacramento Bee investigation into CalPERS’ compensation policies, which at least one expert called “highly irregular”. The full investigation can be read here, but the above graphic gives an overview of the how much the pension fund’s board members get paid.

NYC Pensions Paid Record Fees in 2014; Former Pension Official Says Comptroller “Dragging His Feet” On Cutting Expenses

New York City Comptroller Scott Stringer serves as investment advisor to the boards of the city’s five pension funds, which together manage $144 billion in assets.

Last year, Stringer’s office said the city’s pension systems needed to “limit costs” and “negotiate lower fees”.

One year later, the pension systems have paid a record number of investment fees – $530 million – and a former director of the city’s largest pension fund is accusing Stringer of “dragging his feet” on bringing expenses down.

The city’s pension system paid more fees in 2014 than it had in any previous year. From the New York Post:

The city paid a record $530.2 million in fees to pension investment firms last fiscal year, despite Comptroller Scott Stringer’s vow to rein in the escalating costs.

The fat fees forked out to private advisers and consultants skyrocketed from $472.5 million in fiscal year 2013. The half-billion dollars in fiscal year 2014 is five times the $97.9 million paid in 2003.

In the last 15 years, the city has paid $4 billion to advisers.

A year ago, Stringer reacted sternly to reports that his predecessor, John Liu, had paid investment firms 28 percent more than the year before.

“We need to limit costs, ensure payments are commensurate with performance and . . . negotiate lower fees,” a Stringer spokesman said at the time.

Last week, Stringer’s office said he “has made lowering fees a top priority,” but did not give any examples of lowered fees or firms fired for lackluster performance.

One former pension official questioned Stringer’s commitment to lowering investment fees. The official said that Stringer has voted for fees in the past, and hasn’t done anything to bring them down. From the NY Post:

John Murphy, former executive director of NYCERS, the city’s largest pension fund, said Stringer sat on the NYCERS board of trustees as Manhattan borough president.

“He voted for these fees for eight years. Now he’s dragging his feet on doing something about it as a comptroller,” Murphy said.

Besides putting money into stocks and bonds, the comptroller pays dozens of outside advisers to manage investments in riskier private-equity, real-estate and hedge funds.

Murphy called on Stringer to make public his contracts with investment managers, especially private-equity firms, which take payments from the funds they oversee.

“There’s no way to know how much money they’re making” for the pension funds or taking in compensation, Murphy said.

[Stringer spokesman Eric] Sumberg said, “We are reviewing ways to provide transparency on the general terms of our contracts.”

NYC’s five pension systems control $144 billion in assets. They assume a 7 percent return on investment annually.

Pittsburgh Pensions Prepare for Audit as Liabilities Increase

An August report by Pennsylvania’s Public Employee Retirement Commission revealed that the funding level of Pittsburgh’s pension systems have declined since 2012, from 62 percent to 58 percent funded.

That led the State Auditor this month to announce an audit of the city’s pension system. From WESA News:

In an effort to ensure the pension plans for police, firefighters and municipal employees do not become a financial liability, Pennsylvania Auditor General Eugene DePasquale has launched an audit of those plans. Peduto joined the auditor general for the announcement, saying it’s time to dig deep into Pittsburgh’s numbers.

“Get a true and accurate accounting of where we are, make it available so the public can see it, then do what we do in Pittsburgh — solve the problem,” Peduto said.

The overall goal of the audit is to determine if the pension fund is administered in compliance with applicable state laws, regulations, contracts and local ordinances and policies and to determine if municipal officials took appropriate corrective action to address the findings contained in a prior audit report. The prior audit report, covering 2010 and 2011 made several recommendations to address the underfunding of municipal pension plans.

More on the system’s rising liabilities, from Watchdog.org:

It’s estimated Pittsburgh has $485 million in unfunded pension liabilities, out of the total estimated $1.2 billion pension debt. That means many of the promised obligations to current and future retirees aren’t budgeted.

Part of the blame lies with unrealistic discount rates, the assumed rate of return for investments of pension funds. By using unrealistic expected rates of return, the amount Pittsburgh needed to contribute appeared smaller, and the city contributed less.

During the 1990s, the city used a 10 percent discount rate, said James McAneny, executive director of PERC. Those high levels of expected return were never realized, and the plans lost 40 percent of their value within a decade.

Even after that, former mayor Luke Ravenstahl’s administration insisted on not using a rate below 8 percent — with the same results.

McAneny said that as Ravenstahl was leaving office, he knocked the assumed rate of return down to 7.5 percent. This created an instant increase in the unfunded liability. While this makes things more difficult for the current administration, it’s the wise thing to do, McAneny said.

Read more coverage of the coming audit here.

How Pension Trustees Can Ensure Compliance With SEC Pay-to-Play Rules

Raymond M. Sarola, an attorney and former trustee of New York City’s pension systems, has penned a column explaining how trustees can ensure they don’t violate the SEC’s pay-to-play rules, and how they can handle a violation if one does occurs.

The column, published in Pensions & Investments, begins with an overview of the rule in question:

The rule — Securities and Exchange Commission Rule 206(4)-5…prohibits investment advisers from receiving compensation for advisory services to a government entity for two years after the advisory firm or any covered employee makes a political contribution to a public official or candidate who is or would be in a position to influence the award of investment advisory business by public retirement funds. The rule allows covered employees to make contributions up to $350 per official or candidate per election in which they can vote, or $150 for other elections. Contributions by investment firms in any amount would trigger a violation of the rule.

Sarola then lays out options for how trustees can ensure compliance, and what steps to take if a violation has occurred:

Public retirement plan executives should become familiar with the options available if a violation of the SEC rule occurs.

The rule provides for advisory firms that violated the rule to give the public plan sufficient time to redeem or transfer its assets on an uncompensated basis. This provision is particularly important with alternative investment vehicles that invest in illiquid assets and typically restrict the ability of limited partners to redeem committed capital.

Public retirement plans should develop and implement written policies that confirm compliance with this rule by investment advisers. These policies may include a requirement that advisers make a certification of compliance before an initial investment is made, with an ongoing obligation to recertify throughout the life of the investment.

Public plans might also wish to include in their policies a ban on future investment transactions with investment managers who fail to comply with the procedural or substantive requirements of the rule. And public plans should consider including in investment advisory contracts or side letters provisions that address remedial actions if a violation of the rule occurs. For instance, a contract might specify that if a violation occurs, the adviser will continue to provide services under the contract without compensation for up to two years while the pension fund seeks efficient means to transfer its assets. Other remedial measures might require the investment manager to repay the amount paid or promised to a placement agent involved in winning the business.

The full column can be read here.

Illinois Borrowing Costs To Rise In Wake of Ruling Overturning Pension Reform

Illinois already has the lowest credit rating of any state in the country. But it could see its borrowing costs rise further after a court law week overturned the state’s pension reform law.

From Bloomberg:

Illinois bonds are set to weaken after a judge struck down a plan to address the biggest pension deficit among U.S. states, according to Wells Capital Management.

Illinois 10-year obligations yield 3.68 percent, or about 1.4 percentage points above benchmark municipal debt, data compiled by Bloomberg show. At that yield spread, the smallest since July, the debt isn’t attractive given the legal developments and the potential financial strain, said Robert Miller, who helps oversee $35 billion of munis at Wells Capital.

The lowest-rated U.S. state plans to appeal the Nov. 21 ruling that its constitution protects cuts to public pensions, which face a $111 billion shortfall. The decision marks the latest challenge to emerge for the incoming governor, Bruce Rauner, who takes office Jan. 12. He also has to grapple with a $2 billion budget hole from expiring increases to income-tax rates.

“You would expect on this news that spreads would widen out,” said Miller, who’s based in Menomonee Falls, Wisconsin. “The pension is definitely a looming problem and something they need to deal with.”

Some Illinois bonds weakened after last week’s pension decision. Taxable debt maturing in June 2033, the state’s most frequently traded securities, changed hands Nov. 21 at yields as high as 5.42 percent, Bloomberg data show. The debt’s spread to Treasuries was about 0.3 percentage point more than the average for the past five months.

If history’s any guide, the court decision will keep inflating the state’s relative borrowing costs. In July, Illinois yields surged after a separate court ruling signaled the 2013 pension fix might be in jeopardy. The law would save an estimated $145 billion over 30 years by reducing cost-of-living adjustments and raising the retirement age.

The state is appealing the circuit court’s decision to the Supreme Court.

Video: The Modern Pension Dilemma

This video takes a look at the evolution of Germany’s public pension system over the last century — and how that system is emblematic of the pension funding issues being experienced across the world.

Judge: Illinois Pension Reform Law Is Unconstitutional

A Circuit Court judge ruled Friday afternoon that Illinois’ sweeping pension reform law is unconstitutional.

Judge John Belz said in his ruling that the Illinois constitutional makes a promise to protect employee pension benefits.

The ruling will be appealed and will soon head to the state Supreme Court.

From Crain’s Chicago Business:

Sangamon County Circuit Court Judge John Belz ruled today that the state’s pension reform law is unconstitutional, setting up an immediate appeal to the state’s highest court.

“The State of Illinois made a constitutionally protected promise to its employees concerning their pension benefits,” Belz said in his seven-page ruling. “Under established and uncontroverted Illinois law, the State of Illinois cannot break this promise.”

While the state lost this round, the constitutional question ultimately has to be resolved by the Illinois Supreme Court. The longer the case takes to get there, the longer state finances remain in limbo and the longer any “Plan B” for pension reform goes undiscussed.

“Seven people will decide this at the end of the day,” said Illinois Sen. Daniel Biss, D-Skokie, one of the principal co-authors of the pension reform law. “It’s a victory for the state to get it to the Supreme Court faster. The state suffers from uncertainty. Ultimately what matters most is how we resolve this problem eventually.”

The decision was widely expected, given the state Supreme Court’s ruling in Kanerva vs. Weems, a similar case in July testing whether retiree health care benefits can be reduced. The justices ruled that the state constitution’s pension protection clause is “aimed at protecting the right to receive the promised retirement benefits, not the adequacy of the funding to pay for them.”

Proponents of the reform law called today’s ruling “significant”, but not a be-all-end-all judgment by any means. That’s because the Illinois Supreme Court, who will hear arguments on the law at some point in the coming months, will have the final say.

The state has 30 days to appeal the ruling up to the Supreme Court.

San Diego County Pension Weighs Major Governance Changes After Expert Recommendations

San Diego City Employees Retirement System is on the cusp of firing its controversial outsourced chief investment officer and bringing more investment management in-house. But that’s not the only change that could be coming for the fund.

The fund’s former CIO spoke to the board of trustees on Thursday and suggested major changes to its governance model. The trustees were extremely receptive to the suggested changes.

More details from the San Diego Union-Tribune:

David Wescoe, who stabilized the San Diego City Employees Retirement System after an underfunding crisis nearly bankrupted the city a decade ago, said the county should have a single person report to the board — not one for administration and one for investments, as it has now.

“I’m strongly for the linear model,” Wescoe told pension trustees during a two-day retreat that began Thursday. “The board should have one direct report.”

Under its current governance model, the San Diego County Employees Retirement Association has two people who report directly to the board: CEO Brian White and outsourced portfolio strategist Lee Partridge.

[…]

Wescoe also said the fund would be much better served by recruiting and hiring its own lawyer as well, rather than an outside contractor.

“It’s an absolute necessity for a very well functioning management team,” Wescoe said. “They can prevent little issues from becoming big issues.”

[…]

After Wescoe’s presentation, at least two trustees said they were ready to begin implementing his suggestions.

“I would love to see the board adopt the recommendations you put forward,” said Supervisor Dianne Jacob, who represents the county Board of Supervisors on the retirement panel. “We have an opportunity to bring the same kind of changes here for SDCERA, and I think we should take advantage of it.”

County Treasurer Dan McAllister, who also serves on the board as part of his elected duties, said he hopes trustees can schedule a debate on Wescoe’s recommendations as soon as next month.

“We owe it to ourselves to discuss those issues,” McAllister said.

Wescoe also addressed the potential hiring of a new CIO to internally manage investments. From the UT:

Wescoe, who oversaw the city pension fund from 2006 to 2009, said he knew many local investment professionals who would relish the chance to manage the $10 billion county portfolio for around $200,000 a year.

“It’s the professional opportunity of a lifetime,” he said.

Partridge and his company, Salient Partners of Houston, Texas, are paid more than $10 million a year.

His predecessor, an in-house chief investment officer, was paid $209,000 a year. The position was outsourced to allow for higher pay. Despite that, Salient’s investment returns have not kept pace with those of peer pension systems.

The pension fund is also missing its internal benchmark for earnings. For the 12 months ending Oct. 31, the most recent available, the agency’s benchmark was 9.1 percent and the fund earned 8.22 percent, according to a preliminary report by Salient.

Last month, the board of trustees informally voted to fire their outsourced CIO, Lee Partridge and his firm Salient Partners.

The vote was not official.

Pennsylvania Auditor General Urges State Pensions to Pull Back From Hedge Funds, “Dramatically” Reduce Risk

Pennsylvania Auditor General Eugene DePasquale has been vocal in the past about his desire for the state’s pension systems to decrease their allocations to hedge funds.

He doubled-down and expanded on that stance Thursday, saying the state-level pension funds’ risk appetite needs to be “dramatically pulled back”.

He also called on the pension systems to reduce investment fees and change funding models.

DePasquale made these announcements after examining the pension system of Montgomery County, which uses a low-cost investment approach that includes investing heavily in passive index funds. The approach represents a stark contrast with the state-level pension systems.

Montgomery County Commissioners Josh Shapiro explains how his county’s pension fund operates:

Historically the county invested money from the pension fund with Wall Street money managers, Shapiro explained.

“What we found was that they just were simply not getting the returns our retirees needed,” Shapiro said. “We, as a pension board, worked hard at looking at different models of funding our pension system that would work better than what we historically had.”

Shapiro said the county began investing 90 percent of the fund in Vanguard two years ago and has since has seen a return of 16.23 percent while saving more than over $1 million in fees.

“We knew we were creating a template that could be used by other municipalities and maybe even by the state,” Castor said. “The obligation that we have to our retirees is to make sure the funding is there today, tomorrow and 40 years from now. The health of that plan is part of the covenant we have with the people who do the work here at Montgomery County and at the state.”

DePasquale then suggested that the state-level pension systems could learn from the successes of Montgomery County, according to the Times-Herald:

DePasquale said the state needs to emulate Montgomery County, where the pension funds are invested in a stock index fund.

“Before you get there we have to reduce our exposure into the hedge fund area,” he said.

According to DePasquale, the public school retirement system has 10 percent of its investments in hedge funds, while the state employee retirement system has approximately 6 percent of investments in hedge funds.

“That risk needs to be dramatically pulled back,” DePasquale said.

A final point DePasquale made about the state pension system is that the fees going to private equity and hedge fund managers need to be reduced.

“Pennsylvania is a large state,” he said. “We have a huge leverage tool in the amount of money that we have in our pension system. For some reason our Public School Employment Retirement System and our State Employment Retirement System refuses to use that leverage to negotiate lower fees.”

This isn’t the first time DePasquale has asked the state’s pension funds to pull back from hedge funds.

That led pension officials to defend their hedge fund investments. The chairman of the Pennsylvania’s State Employees Retirement System board of trustees said this in September:

Industry experts generally agree that while hedge funds are not for every pension system, the unique needs of each system must shape their individual asset allocation and strategic investment plans. Therefore, the actions taken by one system may not be appropriate for all systems. Investors need to consider many factors including their assets, liabilities, funding history, cash flow needs, and risk profile.

[…]

To date, the strategy has been working. As of June 30, 2014, our diversifying assets portfolio, or hedge funds, made up approximately 6.2 percent of the total $28 billion fund, or approximately $1.7 billion. In 2013, that portfolio earned 11.2 percent or $197 million, after deducting fees of $14.8 million, while dampening the volatility of the fund. That performance helped the total fund earn 13.6 percent net of fees in 2013, adding more than $1.6 billion to the fund.

Photo by Paul Weaver via Flickr CC License

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