A legislative loophole may be adding to the pressure facing the Massachusetts Pension Reserves Investment Management Board to craft a compensation plan better able to attract and retain key investment professionals overseeing the state's $50 billion Pension Reserves Investment Trust fund.
A 2007 state law forced underperforming city and county pension plans to cede investment oversight of their assets to PRIM, to take advantage of the state system's scale and investment resources. Only those plans that agreed to do so voluntarily got the option of reclaiming oversight of their portfolios after five years.
Under the law, plans that were less than 65% funded and had annualized 10-year returns that were at least 200 basis points lower than the state fund's performance fund would have oversight of their portfolios consigned to PRIM “in perpetuity” if they didn't move over voluntarily.
For most of the 15 local plans that moved into PRIM as a result of that law, their fifth anniversaries with PRIM will come in October — just as a spate of high-level turnover at PRIM has left the bulk of senior positions in the lineup of investment professionals overseeing the PRIT fund empty.
Last month, PRIM Executive Director Michael Trotsky told the board the loss on June 15 of veteran Chief Investment Officer Stanley Mavromates to Mercer — coupled with unprecedented senior staff vacancies at PRIM — had left administrators of some of the local government “clients” questioning whether they should continue to entrust their portfolios to PRIM.
Paul Klauder, vice president and managing director with Oaks, Pa.-based investment outsourcing heavyweight SEI Investments (SEIC) Co., noted that officials at a number of Massachusetts public funds are evaluating outsourcing discretionary control over their portfolio investments this year, making them a growing slice of an opportunity set long dominated by endowments, foundations and corporate defined benefit plans.
Gauging the reaction
On June 21, Joseph E. Connarton, executive director of the Public Employee Retirement Administration Commission, Boston, which oversees administration of Massachusetts' more than 100 local public pension funds, issued a memorandum “to outline the potential repercussions” should a system withdraw from the state system.
If a system leaving late this year proves to be less than 65% funded and 200 basis points or more behind PRIT's 10-year annualized returns when those rolling numbers for the period through the end of 2012 become available in mid-2013, the commission “would be compelled to issue an order for the system to transfer its assets to PRIT permanently,” according to Mr. Connarton's memo.
In a telephone interview, Mr. Connarton said a local fund that leaves now would not be able to voluntarily return to the state fund with a renewed option of leaving again five years hence.
For the 10 years ended Dec. 31, the most recent period for which PERAC has data, the Worcester Regional Retirement Board was the only one of the 15 that moved to PRIM in late 2007 and had a funding status of more than 65% (it is 71% funded).
The annualized 10-year performance for another six systems, meanwhile, trailed PRIM's 6.21% return for the period by less than 200 basis points, with gaps of 136 basis points for the Melrose Retirement Board, 146 basis points for the Gloucester Retirement Board, 170 basis points for the Barnstable County Retirement Board, 178 basis points for the Waltham Retirement Board, 179 basis points for the Middlesex County Retirement Board and 184 basis points for the Amesbury Retirement Board.
Ten-year data for the period through Dec. 31, 2012, will determine which systems could opt to leave PRIM after five years, but that data won't be available until mid-2013. So far, though, it appears that as many as seven of the 15 could bolt if they so chose.
Administrators of those funds appear divided on how to proceed.
A number of administrators say the 2007 law penalized them for adopting a relatively conservative investment approach in line with their fiduciary responsibilities. In a telephone interview, Michael J. Marks, chairman of the $199 million Lynn Retirement Board, whose system was consigned to PRIM in perpetuity in late 2007, said Lynn's portfolio had “always met our benchmark,” even with its focus on downside protection, and “I was pretty offended that we were characterized as underperforming.”
Returns are commensurate with risk, and Lynn's board had some concerns about some of the PRIT fund's alternatives exposure, he said.
The administrator of another local fund that “agreed” to join PRIM in 2007 said his board is eager to leave but is taking to heart the warning contained in Mr. Connarton's memo. “We want to remove ourselves,” said the administrator, who asked not to be named, but the local pension fund's most recent performance numbers would “just barely” meet the criteria for leaving. “Once we come out, we have to maintain that” or risk going in “for life,” he noted.
Other administrators seem willing to stick with PRIM and PRIT, even though joining the system in late 2007 turned out to be a case of very bad timing. After years of handily outpacing the gains of most of Massachusetts' more than 100 local funds, PRIM's alternatives-heavy portfolio underperformed the median local fund in the state in both 2008 and 2009.
Douglas A. MacArthur, chairman of the $66 million Gloucester Retirement Board, said he remains convinced that over the long term, PRIM's superior resources will result in better performance, which argues in favor of leaving oversight of Gloucester's assets with PRIM.
Still others appear willing to stick with PRIM though but say continued high-level investment staff turnover is a concern.
Thomas F. Gibson, chairman of the $781 million Middlesex County Retirement Board, said his board colleagues don't appear to be “in a great rush to leave” as the system's five-year anniversary with PRIM nears. The board is taking a wait-and-see approach as it considers its options, and seeing new compensation arrangements coming out of PRIM capable of enhancing stability there would be reassuring, he said.
In a telephone interview, Mr. Trotsky, PRIM's executive director, said the vigorous debate at June's PRIM board meeting yielded some good “incremental” progress on the compensation question, with a series of scheduled meetings aimed at giving the state fund greater ability to take market conditions into account in hiring new investment staff members.
In a separate interview, Patrick E. Brock, chairman of the $193 million Hampshire County Retirement Board and a member of PRIM's compensation committee, said the pattern of talented people taking on jobs with enormous responsibility at PRIM and moving on to higher-paying jobs later may continue, but offering more competitive compensation can slow a rate of turnover that “has exceeded all expectations” in recent years.
Hampshire County uses PRIM for roughly 25% of its portfolio, in asset classes - such as emerging markets equity and hedge funds - where PRIM's scale allows the local fund to enjoy greater diversification and lower fees, said Mr. Brock.
This article originally appeared in the July 23, 2012 print issue as, "Massachusetts plans' decision made tougher".