Category: Pension Newsroom

The Central States Pension Fund may cut its members’ benefits this month under rules brought forth by the Multiemployer Pension Reform Act (MPRA) of 2014.

The Act allows multiemployer pension plans to voluntarily cut their members’ benefits to improve solvency.

A new bill, introduced by Senate Democrats last week, adds a Yankee Wrinkle to the whole situation: it proposes that if a plan aims to cut its members’ benefits, the plan’s executives should also have their pay frozen.

More from the Hill:

A group of Democratic senators want to see pension executives suffer a pay cut if the plans they monitor cut benefits.

A new bill unveiled Tuesday takes square aim at executives of pension plans that are considering cutting benefits, as lawmakers want to ensure that top officials feel some of the resulting pain as well.

The cuts would impact hundreds of thousands of union workers, but the senators contend that top executives should have some skin in the game too. In a press release announcing the bill, the senators noted that the fund’s top executive made nearly $700,000 in 2014 and that the fund has also hired lobbyists to help make its case in Washington.

[…]

Under the new bill, pension fund executives would face a cut in their pay proportional to the steepest benefit cuts any retiree would face under their pension plans. Furthermore, no executives would receive a bonus while benefit cuts are in place, and pension plans seeking benefit cuts would be barred from spending money on lobbyists.

“Fund assets shouldn’t be spent on excessive salaries and compensation for Washington lobbyists while critical retirement benefits for ordinary folks are slashed,” added Sen. Claire McCaskill (D-Mo.), another sponsor. “That’s basic fairness, and it’s appalling that executives would give themselves a pat on the back and a bonus while hurting retirees.”

The bill – which sits in a Senate controlled by Republican lawmakers – is unlikely to go very far. But lawmakers from both parties are interested in limiting the pain of the multi-employer pension cuts.

Investment staffers at public pension funds are under-compensated relative to the market — and that’s dangerous to the long-term prospects of the funds, according to several top CIOs who spoke at the Milken Institute Global Conference this week.

If public pension funds don’t begin giving their staff higher wages, they won’t have the talent to meet return targets, according to the panelists.

U.S. pension funds could look to their Canadian peers for a roadmap.

More from ai-cio.com:

“If it doesn’t get fixed, no, you won’t meet the target rates of return. You won’t have the talent,” said Vicki Fuller, CIO of the $185 billion New York State Common Retirement Fund.

On a $1 billion private equity mandate, for example, New York’s fund might spend $30 million to $50 million in fees per year. The employee responsible for that mandate? “$150,000,” Fuller pointed out. “It doesn’t make sense.”

The net investment of increasing staff wages to effectively manage assets in-house would be paid off many times over, according to panelist Chris Ailman, CIO of California’s $187 billion teachers’ retirement system. He knows from experience.

“In the public markets, it costs us about one-tenth the cost to run money in-house as it does to hire an external manager,” Ailman said. “If we could run money in private markets and do direct deals, it would probably be 25 times cheaper.”

Ailman and Fuller lauded Canadian pension funds for solving the issue through arm’s-length governance structures and market-competitive wages.

Ron Mock, CEO of Ontario Teachers’ Pension Plan, earned C$4.3 million (US$3.4 million) in 2015, for example. His predecessor took home double that in 2013. At $133 billion, the fund has among the best long-term track records of any pension investor worldwide, net of expenses.

Leo Kolivakis is a blogger, trader and independent senior pension and investment analyst. This post was originally published at Pension Pulse.

Barbara Shecter of the National Post reports, Canadians shouldn’t confuse CPP investment gains with higher pensions:

The Canada Pension Plan’s investment arm may be racking up impressive gains, but Canadians are mistaken if they think the portion they will be getting in retirement is growing at the same rate, says a new paper from the Fraser Institute.

“Unlike individual RRSP, TFSA, or pension accounts, there is no direct relationship between the rates of return earned in the CPPIB (Canada Pension Plan Investment Board) and the benefits received by eligible retirees,” authors Jason Clement and Joel Emes say in the paper to be released Thursday.

The Canada Pension Plan Investment Board invests money that is not needed to pay current CPP benefits. As such, its returns will provide indirect benefits to individuals who will ultimately retire, such as by reducing the need to raise contribution rates to sustain the pension scheme, the paper says.

An individual’s annual retirement benefits, however, are calculated based on a complex formula that takes into account, among other things, the contributions each worker makes to the CPP over the course of their working life, from age 18 to 65. The benefits are also capped at an average income level below what many recipients earned during their working lives.

So while the CPPIB has performed “reasonably well,” reporting an average rate of return of 7.9 per cent since 2000, the authors calculate that someone born after 1955, and who retires in 2021 or later, will receive a “modest” annual return on their contributions of around three per cent.

Any CPP-eligible worker born after 1971, and retiring in 2037 or later, will receive an annual return of just 2.1 per cent in retirement, the paper says.

These returns are far lower than the CPP investment arm’s 10-year real rate of return of 6.2 per cent, after expenses, and also below the four per cent real rate of return the Chief Actuary of Canada says is necessary for the CPP to remain sustainable.

“It’s fairly easy for average Canadians to confuse the returns earned by the CPP Investment Board (CPPIB), which is tasked with actively investing the investable funds of the CPP, with what they themselves might actually earn from their contributions to the CPP in the form of retirement benefits,” the authors write.

“Indeed, some advocates for the expansion of the CPP have conflated, or at least not clearly differentiated between, the rates of return earned by the CPPIB and the actual returns received by individual Canadian workers in the form of CPP retirement benefits.”

The recently elected federal Liberal government of Justin Trudeau ran on a platform of enhancing the national pension program to ensure all Canadians have an adequate standard of living in retirement.

The maximum CPP retirement benefit for new recipients at age 65 is $1,092.50 a month. The benefit is meant to replace about 25 per cent of pre-retirement income but reaches a maximum around $12,000 a year.

The Trudeau victory kick-started talk about enhancing the Canada Pension Plan, which Ottawa and the provinces discussed seriously in 2010.

When an agreement could not be reached, the Conservative government of the day subsequently studied targeted voluntary contributions to CPP, adhering to the view that mandatory national expansion could hurt the economy by placing a burden on businesses that would be forced to contribute.

If the CPP program is not expanded by 2018, Ontario’s Liberal government has pledged to forge ahead with the creation of a separate provincial pension plan that would bolster the national scheme.

The Fraser Institute paper published this week is the latest from the think-tank to question the rationale for expanding the national pension scheme. Recent papers challenged the view that the Canada Pension Plan is a low-cost operation due to economies of scale, and suggested Canadians already save adequately for retirement.

In the review and analysis of returns on CPP contributions, this week’s paper found that older Canadians — those who reached retirement between 1970 and 1979 — did substantially better than more recent retirees.

Their contribution rates were lower and workers at that time were required to contribute to the program for a shorter period, allowing these retirees to enjoy a rate of return of 27.5 per cent, according to the paper’s authors.

The figures used to calculate returns don’t take into account payments received beyond base retirement benefits, such as survivor’s pension or death benefits.

You can read the full report by the Fraser Institute here. This report follows another one questioning the costs of running the CPP. I ripped into that report as did other pension experts who stated that study was deeply flawed.

Now we get another study from the Fraser Institute claiming Canadians don’t really see the benefits of expanding the CPP. Let me briefly give you my thoughts on this study:

• The first thing you should note is that the Fraser Institute is a right-wing think thank which is against “big government’ and “big CPP”. As such, you need to read all their studies bearing this in mind because they’re funded by Canada’s powerful financial services industry which doesn’t want to see an expanded CPP (some bankers with a long term vision actually do see the benefits).
• Second, and quite comically, the authors do admit the CPPIB has performed “reasonably well,” reporting an average rate of return of 7.9 per cent since 2000. Reasonably well? How many Canadian mutual funds can boast the same average annualized risk-adjusted return (after fees) as CPPIB and other large Canadian DB pensions since 2000? The answer is very few because unlike mutual funds, CPPIB and its large peers can invest across public and private markets as well as invest in the best hedge funds throughout the world. And they often invest directly in private markets, lowering the costs of their operations by foregoing fees to external managers.
• Third, CPPIB offers safe predictable returns that benefit all Canadians. Sure, unlike individual RRSP, TFSA, or pension accounts, there is no direct relationship between the rates of return earned in the CPPIB and the benefits received by eligible retirees, but the authors also miss an important point. Unlike TFSAs and RRSPs, your benefits from CPP are guaranteed for life (you won’t run the risk of outliving your savings) and not subject to the vagaries of public markets. This means if you retire in a year like 2008 when stock markets got crushed, you won’t have to worry about your CPP benefits. Also worth bearing mind, most Canadians don’t invest enough in RRSPs or TFSAs and even when they do, they won’t do a better job over the very long term than CPPIB (yeah, you might have outperformance in any given year but not over a long period, especially if you invest in mutual funds instead of exchange-traded funds as fees will eat away most your long term gains).
• Fourth, CPPIB has one job: to maximize returns on contributions without taking undue risk. Period. If they keep up their stellar long term performance, it will allow the finance ministers of each province to sit down with their federal counterpart to discuss raising the benefits or lowering premiums. This last point was made by Ed Cass, Senior Vice President and Chief Investment Strategist at CPPIB, in my comment on building on CPPIB’s success.
• Fifth, it doesn’t surprise me that those born after 1971 are going to receive less annual return from the CPP than previous generations. Why? Well, for one thing, ultra low rates are here to stay and the Governor of the Bank of Canada even warned pensions to brace for the new normal of lower neutral rates citing the demographic pressures of the baby boom generation retiring in droves. In other words, given historic low rates and the fact that there will be more retired workers than active workers, many of whom are living longer, it’s entirely logical that the current and future generations will receive less (proportionally) than previous generations.
• Sixth, and most importantly, given how brutal the investment environment is and will be over the next decade(s), I think now more than ever we need real change to Canada’s pension plan by enhancing the CPP so more Canadians can retire in dignity and security. Studies by the Fraser Institute are grossly biased and never highlight the brutal truth on defined-contribution plans or how bolstering defined-benefit plans (like CPP) will bolster our economy providing it with solid long term benefits.

Having said all this, I will concede something to the authors of this latest Fraser Institute study, we need a lot more transparency on the way CPP benefits are determined (apart from a simple video) and there should be an open discussion on whether benefits should be increased or premiums reduced (of course, enhancing the CPP means higher premiums and higher benefits).

I believe in prudent management of the CPP, which basically means saving for a rainy day (and there will be plenty of them in the future), but I also believe in fairness and transparency. For example, if someone is working well past 65 years old and contributing to the CPP, why are their benefits capped and why shouldn’t people who contribute more, receive more? These are all policy questions which need to be addressed by our provincial and federal governments, not the people managing the CPPIB.

I reached out to Bernard Dussault, Canada’s former Chief Actuary, to get his views on this study. Bernard was kind enough to share this with me:

By definition, the rate of return in respect of a cohort of contributors is the discount rate that renders the present value of all contributions made for this cohort during its active life equal to the present value of all benefits paid to this cohort during its whole retirement benefits period (i.e. ending with the death of the last survivor of the cohort).

Generally speaking (e.g. assuming stabilized conditions), if a pension plan is financed on:

• a fully funded basis, then thee rate of return corresponds to the average (over the period running from the first contribution made to the last pension benefit paid) rate of return on the concerned fund;
• a partial funded basis, let say p% (for the CPP “p” is close to 15%), then the rate of return corresponds to [ (p)*i + (1-p)*e ], where:

• “i” corresponds to the average (over the period running from the first contribution made to the last pension benefit paid) rate of return on the concerned “partial” fund;
• “e” correspond to the average (over the active contribution period) rate of increase in the contributory employment earnings of the concerned cohort (i.e. the compounded increase of the salary and the population increase rates).

As indicated in Table 21 on page 49 of the 26th actuarial report on the CPP (http://www.osfi-bsif.gc.ca/Eng/Docs/cpp26.pdf), the nominal internal return for the cohort of CPP contributors born in 2010 amounts to 4.5%, while the nominal rate on the CPP fund is 6.2% (i.e. the sum of the 4% real rate plus the 2.2% inflation rate).

The 4.5% return on CPP contributions is obviously less than what it would be, i.e. 6.2%, if the CPP were fully funded. It is not because from 1966 to 1995 contributions to the CPP were made at a level lower than the CPP full cost rate, i.e. about 6%.

Besides, I consider that a lifetime guaranteed return of 4.5% is much appreciable:

• not only because it applies to all members of the 2010 cohort taking into account the absence of longevity risk;
• but also because few individuals (if any), irrespective of their investment expertise, would be in a position to achieve a 4.5% rate of return on average from age 18 to death.

I thank Bernard for sharing his expert insights with my readers.

In its first U.S. transportation investment, CalPERS has bought a 10 percent stake in the Indiana Toll Road Concession Company LLC, which operates the 157-mile Indiana Toll Road.

It bought the share from IFM Investors.

More from a release:

“This solid, long-term investment represents our first foray into a transportation asset in the United States,” said Paul Mouchakkaa, Managing Investment Director for CalPERS’ Real Assets program. “We continue to make progress building up this important program, and the ITRCC aligns well with our recently adopted strategic plan for real assets.”

The ITR spans northern Indiana, from its border with Ohio to the Illinois state line near Chicago. ITRCC has the exclusive right to collect revenues from the toll road for the next 65 years. IFM Investors continues to hold more than 85 percent of ITRCC. Pricing and details of the purchase are not being released at this time.

The role of CalPERS’ Infrastructure program is to hold ownership of essential infrastructure assets that provide predictable returns with moderate long-term inflation protection. Infrastructure also acts as an economic diversifier to equity risk in the portfolio. With this purchase, the program makes up slightly more than one percent of the total fund, with a net asset value of approximately $3.1 billion.

Leo Kolivakis is a blogger, trader and independent senior pension and investment analyst. This post was originally published at Pension Pulse.

Saijel Kishan of Bloomberg reports, Hedge Funds Under Attack as Steve Cohen Says Talent Is Thin:

In less than seven days, hedge funds have been subject to a three-pronged attack by some of the biggest names in finance.

Steve Cohen, the billionaire trader whose former hedge fund had racked up average annual returns of 30 percent before pleading guilty to securities fraud three years ago, became the latest critic of the business, saying he’s astounded by its shortage of skilled people.

“Frankly, I’m blown away by the lack of talent,” Cohen said at the Milken Institute Global Conference in Beverly Hills, California, on Monday. “It’s not easy to find great people. We whittle down the funnel to maybe 2 to 4 percent of the candidates we’re interested in. Talent is really thin.”

‘Very Hard’

Cohen’s comments come after billionaire Warren Buffett said over the weekend that large investors should be frustrated with the fees they pay hedge funds, which fail to match the returns of index funds. Daniel Loeb, founder of hedge fund Third Point, said last week that industry performance this year was “catastrophic” and that funds were in the early stages of a “washout.”

Cohen, who had started his hedge fund SAC Capital Advisors in 1992, said the business has “gotten crowded” with too many managers following similar strategies. Hedge funds seem to think that by hiring skilled people, they can “magically” generate returns, he said.

“It’s very hard to maximize returns and maximize assets,” said Cohen, who runs $11 billion Point72 Asset Management. It’s difficult to balance size with carefully managing an organization and delivering good risk-adjusted returns, he added.

Cohen rarely speaks publicly at industry events. He made the comments on a panel discussion with money managers Cliff Asness and Neil Chriss.

’Cost of Being Excellent’

SAC Capital agreed to return outside money to clients as part of a 2013 agreement with U.S. prosecutors targeting insider trading on Wall Street. The firm was renamed Point72 and now manages Cohen’s fortune. He wasn’t accused of wrongdoing.

Point72 President Doug Haynes said in October that there could be more closures and money pulled out of the hedge fund business as the “cost of being excellent” in the industry keeps rising.

Cohen said at the conference one of his biggest worries last year was that his firm might become the victim of an indiscriminate market selloff as other funds endured troubles and reduced risk. He said his worst fears were realized in February when his firm lost 8 percent. Global stocks fell about 1 percent that month.

Earlier Monday, hedge funds came under criticism at the conference on the heels of Buffett’s comments at his firm’s annual shareholder meeting on Saturday.

High Pay

Chris Ailman, who runs investments at the $187 billion California State Teachers’ Retirement System, said in a Bloomberg Television interview that the hedge fund industry’s fee model is “broken” and “off the table” for large institutional investors. Chriss, founder of hedge fund Hutchin Hill Capital, said investors will pull out of funds that aren’t giving them returns to justify the fees.

Jagdeep Singh Bachher, chief investment officer of the University of California’s $97.1 billion of endowment and pension assets, said paying high hedge fund fees for mediocre performance is “absurd.”

The only money managers worth high fees are those who have uncovered “unique situations” in financial markets, he said Monday at a meeting of the Board of Regents’ investment committee. The endowment said it’s consolidating managers in its $4.7 billion absolute return portfolio.

The $8.7 billion endowment lost 4.2 percent in the first nine months of the fiscal year through March 31, staff told trustees. Private equity gained 9.2 percent while absolute return was down 5.4 percent.

‘Giant Ripoff’

Janus Capital Group Inc.’s Bill Gross joined the chorus, tweeting Tuesday that “hedge fund fees exposed for what they are: a giant ripoff. Forget the 20 – it’s the 2 that sends investors to the poorhouse.”

Hedge fund managers are among the highest paid in the finance industry, traditionally charging clients 2 percent of assets as a management fee and taking 20 percent of profits generated. Buffett described the fee structure as “a compensation scheme that is unbelievable” to him.

Since the global financial crisis, some managers have cut fees in exchange for getting larger investments from clients and locking their money up for longer periods. Even so, New York City’s pension fund for civil employees voted last month to end investing in hedge funds, determining that they didn’t perform well enough to justify high fees.

American International Group Inc., the insurer burned by losses on hedge funds, is scaling back from those investments. It has submitted notices of redemption for $4.1 billion of those holdings through the end of the first quarter.

Worst Start

Cohen said he was amazed that investors aren’t more demanding, while noting the irony of his remark since he now runs a family office. He said pension plans and endowments tend to follow trends instead of being forward thinking.

The $2.9 trillion hedge fund business is having its worst start to a year in terms of returns and client withdrawals since 2009, when financial markets were reeling from the global financial crisis. Managers including Bill Ackman, John Paulson and Crispin Odey posted declines of at least 15 percent in the first three months in some of their funds.

Loeb said in a quarterly letter that most money managers were “caught offsides at some or multiple points” since August. That month, China’s surprise currency devaluation sent shock waves across markets.

Cohen said most people at his Stamford, Connecticut-based firm are not very good at timing when to invest or exit markets, though they are adept at picking stocks. He said external hires account for 20 percent of headcount at Point72, which prefers to groom analysts and money managers internally.

The Point72 founder said there are parts of the world where there are opportunities to generate more alpha, which are profits above a benchmark index, than in the U.S. His firm has offices in cities including Hong Kong and London.

Cohen, who under a settlement with regulators could manage outside capital again as soon as 2018, said he didn’t see the crowding problem in the hedge fund business easing any time soon.

“This industry has been around in a real way for 25, 30 years and excess profits get competed away in one way or another,” he said. “More people are going to enter the business and drive it down. It’s starting to happen now and will probably continue to happen. That’s a normal industry cycle.”

Steve Cohen is right, there’s a tremendous amount of competition in the hedge fund world and real talent is thin (or enjoying the freedom of blogging after a long stint at SAC Capital). But he’s laying it on thick here for marketing reasons for his new fund which he will eventually manage (just like Ray Dalio does when he touts radical transparency and his Navy SEALs at Bridgewater).

Interestingly, one of my buddies in Montreal who left the pension industry and got a Masters of Science in Predictive Analytics from Northwestern University now works in the insurance industry and tells me he sees SAC and other top hedge fund recruiters at data analytics conferences along with those from Google and Amazon. He already has a Masters in Finance and a CFA but tells me straight out: “Top hedge funds don’t care about these qualifications, they are looking for specific qualifications and don’t really like traditional finance types.”

Anyways, back to Steve Cohen’s remarks. I was utterly shocked to learn his personal fund was down 8% in February but it shows you how brutal this environment is even for the perfect hedge fund predator. When you see top multi strategy funds like Cohen’s, Ken Griffin’s Citadel and Izzy Englander’s Millennium losing big in one month, you know it’s beyond brutal out there for top hedge funds.

What are some of the structural issues plaguing these top hedge funds? One of them most definitely is crowding. Cohen said hedge fund crowding caused his fund’s major February loss:

Billionaire investor Steven Cohen said that too many hedge funds placing the same types of bets contributed to sharp losses for his $11 billion Point72 Asset Management earlier this year.

“One of my biggest worries is that there are so many players out there trying to do similar strategies,” Cohen said Monday, speaking at the Milken Institute Global Conference in Los Angeles.

“If one of these highly levered players had a rough run and took down risk, would we be collateral damage?” Cohen said. “In February we drew down 8 percent which for us is a lot. My worst fears were realized.”

Point72 has rebounded to a return of approximately zero for the year, according to a person familiar with the situation.

Cohen also commented on the hedge fund industry’s relatively large size and meager recent returns, saying that both investors and their clients were willing to tolerate lower performance.

“When this business started, guys took pride in the returns that they generated. Guys would make 20, 25, 30 percent,” said Cohen, known for generating similar returns himself. “Now it’s about trying to figure the intersection between assets under management and what investors would be willing to accept.”

In a world of ultra low and negative rates, hedge fund superstars can kiss those 20, 25 and 30 percent returns of the past goodbye, it’s never going to happen. They too have to prepare for lower returns which is why pensions need to brace for the new normal of lower neutral rates and squeeze hedge funds hard on fees.

That brings me to the other structural factor plaguing mostly large, well-known hedge funds. If the deflation tsunami I’ve been warning about comes true, and ultra low or negative rates are here to stay, this means these large hedge funds are going to have to deal with unimaginable volatility in public markets. This is the type of volatility that has confounded the best of them in the past and size is an issue when you’re trying to deliver great risk-adjusted returns in this environment.

Let me be more blunt. I think a lot of hedge funds are getting way too big for their own good and more importantly, for that of their investors. When Cohen says “now it’s about trying to figure the intersection between assets under management and what investors would be willing to accept,” he’s absolutely right.

What he neglects to say is that many of the bigger hedge funds deliberately focus a lot more on growing assets under management than their risk-adjusted returns and that’s what frustrates their investors which dole out 2 & 20 or 1.5 and 20 in management and performance fees (in his heyday, Cohen was charging 3 & 50 to his investors). It’s that 2% management fee on multibillions which really stings when managers are underperforming.

Earlier this week we learned AIG, burned by losses on hedge funds, submitted notices of redemption for $4.1 billion of those holdings through the end of the first quarter. Last month, New York City’s largest pension followed CalPERS and shut down its hedge fund program, telling managers to sell their summer homes and pay back all those hefty fees.

And to add insult upon injury, the Oracle of Omaha launched an epic rant against Wall Street tearing into hedge funds, their fees and the entire investment consulting and pension industry to pieces:

Just before lunch at the Berkshire Hathaway annual meeting on Saturday, Warren Buffett unloaded what he called a “sermon” about hedge funds and investment consultants, arguing that they are usually a “huge minus” for anyone who follows their advice.

The Berkshire chairman has long argued that most investors are better off sticking their money in a low-fee S&P 500 index fund instead of trying to beat the market by employing professional stockpickers. He used the annual meeting to update the tens of thousands in attendance—and others watching via a webcast–about his multi-year bet with hedge fund Protege Partners. The bet, initiated by the New York fund back in 2006, was that over a decade, the cumulative returns of five fund-of-funds picked by Protege would outperform a Vanguard S&P 500 index fund, even when including fees.

Mr. Buffett showed a chart comparing the cumulative returns of the two sides of the bet since 2008. As of the end of 2015, the S&P 500 index fund had a cumulative return of 65.7%, outdoing the hedge fund teams’s 21.9% return. The S&P has outperformed in six of the eight individual years of the bet too.

The chart was preamble to the real point Mr. Buffett wanted to make: that passive investors can do better than “hyperactive” investments handled by consultants and managers who charge high fees.

“It seems so elementary, but I will guarantee you that no endowment fund, no public pension fund, no extremely rich person” wants to believe it, he said. “They just can’t believe that because they have billions of dollars to invest that they can’t go out and hire somebody who will do better than average. I hear from them all the time.”

But he was just getting started.

“Supposedly sophisticated people, generally richer people, hire consultants, and no consultant in the world is going to tell you ‘just buy an S&P index fund and sit for the next 50 years.’ You don’t get to be a consultant that way. And you certainly don’t get an annual fee that way. So the consultant has every motivation in the world to tell you, ‘this year I think we should concentrate more on international stocks,’ or ‘this manager is particularly good on the short side,’ and so they come in and they talk for hours, and you pay them a large fee, and they always suggest something other than just sitting on your rear end and participating in the American business without cost. And then those consultants, after they get their fees, they in turn recommend to you other people who charge fees, which… cumulatively eat up capital like crazy.”

Mr. Buffett said he’s had a hard time convincing people of this case.

“I’ve talked to huge pension funds, and I’ve taken them through the math, and when I leave, they go out and hire a bunch of consultants and pay them a lot of money,” he said, earning a laugh from the crowd. “It’s just unbelievable.”

“And the consultants always change their recommendations a little bit from year to year. They can’t change them 100% because then it would look like they didn’t know what they were doing the year before. So they tweak them from year to year and they come in and they have lots of charts and PowerPoint presentations and they recommend people who are in turn going to charge a lot of money and they say, ‘well you can only get the best talent by paying 2-and-20,’ or something of the sort, and the flow of money from the ‘hyperactive’ to what I call the ‘helpers’ is dramatic.”

A passive investor whose money is in an S&P 500 index fund “absolutely gets the record of American industry,” he said. “For the population as a whole, American business has done wonderfully. And the net result of hiring professional management is a huge minus.”

Mr. Buffett has long had a testy relationship with Wall Street, and he’s positioned himself for decades as an outsider to the world of New York finance. In addition to repeatedly attacking the fees charged by hedge funds and investment professionals, he’s criticized the tactics of activist shareholders, the danger of derivatives and the heavy use of debt by private-equity firms.

The antipathy can run in the opposite direction as well. As our Anupreeta Das noted in an article last year, many on Wall Street believe the Berkshire chairman to be a hypocrite. They accuse him of hiding behind the image of a folksy, benevolent investor while pursuing some of the tactics and investing in some of the companies that are the targets of his attacks.

On Saturday, Mr. Buffett worked in a fresh plug for a book he’s been recommending for decades, “Where Are the Customers’ Yachts?,” by Fred Schwed. The title comes from the story of a visitor to New York who was admiring all the nice boats in the harbor, and was told that they belonged to Wall Street bankers. He naively asked where the bankers’ clients kept their boats. The answer: They couldn’t afford them.

“All the commercial push is behind telling you that you ought to think about doing something today that’s different than you did yesterday,” Mr. Buffett told his shareholders. “You don’t have to do that. You just have to sit back and let American industry do its job for you.”

Berkshire Vice Chairman Charlie Munger jumped in to offer a counterpoint, of a sort:

“You’re talking to a bunch of people who have solved their problem by buying Berkshire Hathaway,” he said. “That worked even better.”

From 1965 through the end of last year, Berkshire shares have risen 1,598,284%, compared to the 11,355% return on the S&P 500.

“There have been a few of these managers who have actually succeeded,” Mr. Munger said. “But it’s a tiny group of people. It’s like looking for a needle in a haystack.”

Mr. Buffett conceded that point, but concluded the first half of the day’s proceedings by saying that Wall Street was better at salesmanship than investing.

“There’s been far, far, far more money made by people in Wall Street through salesmanship abilities than through investment abilities,” he said. “There are a few people out there that are going to have an outstanding investment record. But very few of them. And the people you pay to help identify them don’t know how to identify them. They do know how to sell you.”

I couldn’t agree more with Buffett and Munger on that last point and I too have railed against useless investment consultants that have hijacked the entire investment process at U.S. public pensions, typically recommending hot hedge funds their clients should be avoiding.

But while I don’t pity hedge fund managers, I think Buffett’s epic rant was somewhat harsh for a few reasons:

• That famous bet he made and is winning big on is part luck too. He made it back in 2006 before the financial crisis and profited from a huge beta thrust in the years following that crisis as central banks pumped extraordinary liquidity into the financial system.
• More importantly, this is a dumb bet to begin with. Why? By definition, hedge funds hedge or are suppose to hedge, which means they’re not always long the market even if most of them are net long and have way too much beta in their strategies. So it’s hard to conceive how a portfolio of hedge funds are going to beat the S&P after fees when rates dropped to record lows as central banks fight deflation. If we get a prolonged period of deflation, maybe then a portfolio of top hedge funds will outperform the S&P over a long period (maybe but I doubt it).
• Also, big pensions and insurance companies don’t invest in hedge funds as an alternative to the S&P 500, they do so as an alternative to bonds. They typically swap into some bond index and use the money to invest (overlay) in market neutral, L/S, global macro, CTA or multi-strategy hedge funds (but even bonds are beating them hands down this year!).

Still, there’s no denying Buffett made devastating points when he slammed hedge funds, consultants and pensions hard in his epic rant

A new bill, filed on Tuesday by Illinois Sen. Daniel Biss, aims to make private equity agreements more LP-friendly.

HB6292 bears resemblance to a recent California bill, but goes even further.

Naked Capitalism describes the bill:

It is a vastly more ambitious and painstakingly drafted bill than its California counterpart, AB 2833.

A key difference is that Biss’ bill opens new terrain by requiring disclosure of some of the most troubling terms of private equity limited partnership agreements, specifically, the indemnification provisions, the clawback language and management fee waivers.

[…]

HB6292 also lifts the veil on management fee waivers. […] HB6292 requires both that the management fee waiver provisions in limited partnership agreements (including all definitions necessary to understand how the provision operates) be among other things, published material on its website, and “the amount of all management fee waivers made” be disclosed annually.

The bill also provides for disclosure of the signature block of the executed limited partnership agreement.

On the fee transparency front, while the Illinois bill focuses on issues similar to Chiang’s legislation, the approach is dramatically different. HB6292 has an exacting set of definitions. I spoke to Senator Biss about his approach and whether he had conferred with Chiang’s office. Biss said that he’d not known about the shortcomings with private equity disclosure until Chiang announced his intention to sponsor legislation last fall:

I thought I should learn more about it. I spoke to as many people as I could. The more I learned, the more troubling I found it. I didn’t think it was sustainable in the long run. I thought there was an opportunity and I wanted to play a role in this change.

Reporter Ed Mendel covered the California Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at Calpensions.com.

After reaching agreements with all major creditors, San Bernardino is moving toward an exit from a four-year bankruptcy this fall without cutting public pensions, its largest and rapidly growing debt.

Last week U.S. Bankruptcy Judge Meredith Jury, saying the end is “in view,” scheduled another hearing June 16, when she plans to set a date for a hearing to confirm the exit plan, probably about 90 days later.

San Bernardino follows the path of previous bankruptcies in Vallejo and Stockton by limiting the main cuts in long-term debt to bonds and retiree health care, while raising taxes, slowly rebuilding reduced services, and leaving pensions untouched.

Now the prospect of cities and other local governments using bankruptcy to cut pensions or to get leverage in bargaining, which alarmed unions after Vallejo filed in 2008, may be fading as a pattern seems to be emerging.

Of the three cities that filed recession-era bankruptcies, San Bernardino had by far the strongest case for cutting pensions. The poorly managed city somehow seemed surprised to find that it was running out of cash and in danger of not making payroll.

After an emergency bankruptcy filing in August 2012, San Bernardino took the unprecedented step of skipping its legally required pension payment to CalPERS for the rest of the fiscal year, running up a tab of $13.5 million.

The California Public Employees Retirement System had grounds to cancel its contract with San Bernardino, likely resulting in pension cuts. But in mediation San Bernardino agreed to repay CalPERS with interest, $16 million, plus a $2 million penalty, all but $500,000 of which pays down city pension debt.

Part of the agreement announced in June 2014 was that the San Bernardino exit plan would not attempt to cut pensions. Four months later, a federal judge in the Stockton bankruptcy issued an opinion that a CalPERS pension can be cut in bankruptcy.

But even if the opinion had been issued before the mediated agreement, a lengthy San Bernardino disclosure statement heard by Judge Jury last week suggests that the city would not have attempted to cut pensions.

The San Bernardino disclosure gave the same basic reason as Stockton for not attempting to cut pensions in bankruptcy: Pensions are needed to be competitive in the job market, particularly for police.

“The city concluded that rejection of the CalPERS contract would lead to an exodus of City employees and impair the City’s future recruitment of new employees due to the noncompetitive compensation package it would offer new hires,” said the San Bernardino disclosure.

“This would be a particularly acute problem in law enforcement where retention and recruitment of police officers is already a serious issue in California, and where a defined benefit pension program is virtually a universal benefit.”

Apparently for the same reason, a pension reform approved by San Diego voters four years ago switched all new hires to 401(k)-style retirement plans, except for new police who continue to receive pensions.

If San Bernardino ended its CalPERS contract, Gov. Brown’s pension reform could speedup the feared exodus. To avoid being classified as “new hires” getting lower pensions, police and others choosing to leave the city would have to find another employer in CalPERS or a county system within six months.

“The departure of City employees upon rejection of the CalPERS Contract could be massive and sudden,” said the San Bernardino disclosure, which would “seriously jeopardize” public safety and other essential services.

San Bernardino does not provide federal Social Security for its employees. To remain competitive in the job market with a pension plan, said the disclosure, the city has “no ready, feasible, and cost-effective alternative” to CalPERS.

If San Bernardino did leave CalPERS, the city would have to pay for some type of new retirement plan while paying for pensions already earned under the CalPERS plan. The disclosure said the city would face a “hypothetical termination liability” of almost $2.5 billion.

And there would be a major legal battle. During mediation, said the disclosure, CalPERS took the position that its contract with the city cannot be rejected in bankruptcy or modified to reduce pensions and give the city financial relief.

When U.S. Bankruptcy Judge Christopher Klein issued an opinion in the Stockton case that CalPERS pensions can be cut in bankruptcy, CalPERS shrugged: the opinion is not legally binding and not a precedent.

In the Vallejo bankruptcy, city officials said they considered an attempt to cut pensions in bankruptcy but were dissuaded by a CalPERS threat of a long and costly court fight, possibly all the way to the U.S. Supreme Court.

Unions responded to the Vallejo bankruptcy by obtaining legislation, AB 506 in 2011, requiring cities, before filing for bankruptcy, to go through a 60 to 90-day process to try to reach an agreement with creditors or declare a fiscal emergency.

Stockton went through the “neutral evaluation” process before filing for bankruptcy on June 28, 2012. A little more than a month later San Bernardino filed an emergency bankruptcy on Aug. 1, 2012.

Under the San Bernardino exit plan, annexation of the city and its fire department by the county fire district is expected to yield a $143 parcel tax. City firefighters transfer to the county retirement system with no reduction in pensions. The city would continue to pay for previously earned CalPERS pensions.

In exchange for no cuts in pensions, San Bernardino got an agreement with a federally appointed retiree committee to eliminate a $112 per month retiree health care subsidy, saving the city $411,250 this fiscal year.

The disclosure shows the total annual San Bernardino payment to CalPERS is expected to increase from $14.2 million last fiscal year to $28.9 million by fiscal 2023-24.

In the latest CalPERS valuation, the safety plan for police was 76.2 percent funded with a debt or “unfunded liability” of $162.6 million. The annual employer rate of 44.8 percent of pay next fiscal year was expected to increase to 57.8 percent by fiscal 2021-22.

The CalPERS plan for miscellaneous employees was 78.1 percent funded with a $109.7 million unfunded liability. The annual employer rate, 26 percent of pay next fiscal year, was expected to increase to 34.4 percent by fiscal 2021-22.

Some pension costs are reduced, said the disclosure, through increased employee contributions, lower pensions for new hires under the governor’s reform, and contracting with private companies for solid waste removal and right-of-way cleanup.

A big step toward an exit plan was an agreement with Commerzbank to pay 40 percent of a $51 million pension obligation bond, up from the original proposal of 1 percent.

The judge was told last week that the city also has an agreement with 23 retired police officers who receive a supplemental pension through a private firm, the Public Agency Retirement System.

“We are not Detroit, we are not Stockton,” Judge Jury said in her concluding remarks last week. “We came into this case in a very different posture than the other cities. And therefore, the fact that it has taken us this long to get to confirmation was to be expected.”

Among large investors, pension funds are leading the way on mitigating climate risk in their portfolios, according to a recent study.

On the sidelines of the Milken Institute Global Conference on Monday CalSTRS CIO Chris Ailman spoke to Bloomberg about investing and climate change.

 

Video credit: Bloomberg

 

Whether through engagement, risk management or low-carbon investments, the largest pension funds in the world are leading the way on addressing climate risks, according to a new report from the Asset Owners Disclosure Project (AODP).

The same can’t be said for many of the world’s largest investors. In fact, AODP found that nearly half of the world’s 500 largest investors aren’t doing anything to address those risks.

AODP graded the world’s largest investors on the actions they’ve taken to mitigate the risk of climate change to their investment portfolios. The 10 highest-graded entities were all pension funds (see above chart).

More info on the laggards, from ai-cio.com:

Of the funds that scored the lowest on AODP’s index, the largest were predominately sovereign wealth funds from oil-producing nations and Asian insurers, including the Abu Dhabi Investment Authority, which manages approximately $773 billion, and Japan Post Insurance, worth $602 billion.

“I would encourage all of them to pick up the pace and ramp up their ambition in respect to a low carbon transition,” said Christiana Figueres, executive secretary of the UN Framework Convention on Climate Change. “It is the key to reducing risk and securing the health of their portfolios now and over the long term.”

[…]

AODP’s annual Global Climate 500 Index, which tracks the 500 largest funds in the world, found that 246 investors managing $14.3 trillion are doing nothing to address the investment risks related to climate change.

Read the full report here.