State pension funds paying higher fees don't get better performance, study finds

State pension systems that pay the most money management fees often have some of the worst investment returns, according to a study conducted by the Maryland Public Policy Institute and the Maryland Tax Education Foundation.

The study looked at management fees for 46 states during fiscal year 2012 and compared investment results for the 35 pension systems with the fiscal year ending June 30. Hawaii, Nebraska, Rhode Island and West Virginia were not part of the study.

The 10 states with the highest fees had a median rate of 0.61% of total assets, compared with 0.22% for the bottom 10 states. However, the states paying the highest fees had an annualized five-year return of just 1.34%, compared with 2.38% for the lowest fee-paying states.

The five states paying the highest fees are, in order, South Carolina, Missouri, Pennsylvania, North Carolina and Maryland. South Carolina had a 1.31% rate, with Missouri at distant second at 0.94%.

The 46 pension systems had combined assets of more than $2 trillion and together paid more than $9 billion in management fees in 2012. The study said by indexing most of the investment portfolios, states could save $6 billion in fees annually without sacrificing returns.

“There is simply no correlation between high money management fees and high investment returns,” said John J. Walters, co-author and visiting fellow at the Maryland Public Policy Institute, in a news release. “Retired state employees and taxpayers across the country are not getting their money's worth. They deserve a simpler, more effective investment strategy for their retirement savings.”

The median five-year annualized return for plans with a June 30 fiscal year was 1.5% compared with 2.19% for an indexed portfolio. The index portfolio mimics the state pension asset allocation vs actual median performance.

The study recommends moving to indexed portfolios to achieve lower fees with similar, or better, returns. According to the study, for the five years ended Dec. 31, 69% of domestic equity funds failed to top the S&P 500 benchmark, and 13 of 14 fixed-income benchmark indexes outperformed actively managed fixed-income funds during the same period.