The subprime turmoil is hurting pension funds indirectly because of the contagion effect it is having on fixed-income markets, domestic and international equity and the economy as a whole, said Matthew Beck, senior vice president, Callan Associates Inc., San Francisco.
You can certainly argue that the third quarter and fourth quarter sell-offs in the equities market have been linked to whats coming out of subprime, Mr. Beck said.
Some pension funds see this as a buying opportunity. Its a chance to buy some assets at far below their intrinsic value, said Robert Borden, chief investment officer for the South Carolina Investment Commission, which oversees roughly $30 billion in state retirement assets.
As previously reported, the South Carolina fund has committed up to $100 million to the TCW Special Mortgage Credits Fund.
If you have the available cash, tolerance and the appetite, it could be an excellent time to invest in these markets, he added.
However, most pension executives are combing through portfolios to ensure they have minimal exposure to SIV-issued paper. The latest wrinkle involves numerous securities-lending programs.
Jerry May, securities lending/cash manager for the Ohio Public Employees Retirement System, Colum¬bus, said Ohio PERS invests internally a very small portion of its securities-lending collateral in SIV-related investments. SIVs typically issue short-term paper and then invest the proceeds in longer-term debt, such as mortgage securities.
Even then, a very small portion of the SIVs in which Ohio PERS invests had subprime loans as collateral, Mr. May said. This year through Oct. 31, Ohio PERS lent, on average, 24.45%, or $14.7 billion, of $60 billion in lendable assets, which are the publicly traded securities of its $70 billion pension fund and $13 billion health-care fund, Mr. May said.
The largest portion of collateral is invested in repos or repurchase agreements, said Mr. May. It is a fairly safe investment and we manage a portion of that internally.
Fortunately, in our securities-lending program, SIVs make up only a very small portion of the portfolio collateral, and those securities have not experienced any downgrades or defaults and continue to be rated AAA, he said.
We are certainly not buying any (more) at this point, Mr. May said.
The $259.5 billion California Public Employees Retirement System, Sacramento, had a problem in its securities-lending program with investments made by Credit Suisse, New York, in asset-backed commercial paper, collateralized with prime mortgages (high-quality borrowers), according to a September CalPERS staff memorandum. CalPERS securities-lending investment policy does not permit investments in asset-backed securities that have underlying mortgage receivables, it said.
Credit Suisse made CalPERS whole, said Clark McKinley, CalPERS spokesman. He said CalPERS officials werent disclosing the size of the exposure or what other areas of the securities-lending program had exposure to subprime-related investments.
CalPERS securities-lending external managers have some small and as-yet undetermined exposure to subprime in the $2.5 billion of SIVs in which they have invested, Mr. McKinley said: Each manager could have as little as zero of that in subprime or as much as 20%.
Whatever the subprime exposure is found to be, it will be a relatively small piece of the overall program.
At Ennis Knupp & Associates Inc., Chicago, Satya Kumar, associate, said many securities-lending programs managed by custodial banks have invested in SIV-related investments.
Such investments have been in the higher-rate tranches, or segments, of the SIV issues, meaning they would have priority in payments, Mr. Kumar said. But even higher-quality (SIVs) are subject to risk and could have losses, he said.
At Northern Trust Co., Chicago, a major custodian for pension funds, spokesman John OConnell said the custodians exposure to troubled SIV debt is minimal.
Clients have been asking about this, and the SIVs we invested in are highly rated and not those that have problems, he said.
The $11.5 billion Maine Public Employees Retirement System, Augusta, is invested in Northern Trust-run cash pools and uses the banks securities-lending program. Andrew Sawyer, CIO, said: We had a conference call with Northern Trust and they went through the exposure that they had. I got a good sense from the call that they are on top of their exposure ... .
Public pension funds cash holdings typically are small and their exposure to SIV paper even smaller.
The $40.1 billion State Retirement and Pension System of Maryland, Baltimore, has only one fixed-income manager with any subprime exposure, said R. Dean Kenderdine, executive director. He wouldnt name the manager. The SIV exposure is 1/20th of 1% of our total assets, Mr. Kenderdine said. We would regard that as being insignificant.
Its possible that not all problems have come to light.
Im quite sure (public pension officials) not going to want to advertise the problem until theyve got their arms around the problem, said Steven Charlton, managing director of New England Pension Consultants, Cambridge, Mass.
Public pension plans potential exposure ranges from garden-variety equity holdings to hedge funds and securities-lending programs, and because of the nature of these investments, it may not be immediately evident just what ones exposure is, added Keith Brainard, research director, National Association of State Retirement Administrators, Georgetown, Texas.
Still, Mr. Brainard agrees that any problems will be minimal. Because public pension plans are so well diversified, in most cases their exposure should be limited, he added.
Numerous public pension executives contacted by Pensions & Investments said they had either no or very limited direct exposure to subprime mortgages. They include: the $8.7 billion West Virginia Investment Management Board; the $54.2 billion Massachusetts Pension Reserves Investment Management Board; the $24 billion Employee Retirement System of Texas; the $85.4 billion Washington State Investment Board; the $42.3 billion Teachers Retirement System of the State of Illinois; the $16.2 billion Teachers Retirement System of Louisiana; the $84 billion New Jersey Division of Investment; the $154.5 billion New York State Common Retirement Fund; the $63.3 billion State of Michigan Retirement System; and the $58.9 billion Virginia Retirement System.
Douglas Appell, Mark Bruno, Jennifer Byrd, Isabelle Clary and Christine Williamson contributed to this story.