The American Federation of Teachers has generated a lot of heat but not much light in naming investment managers purportedly opposed to defined benefit plans.
The AFT aims to pressure public fund fiduciaries to, in effect, blacklist those supposedly misbehaving managers, but it takes no active, constructive role in fixing problems with defined benefit plans, or asking the right questions about plan oversight.
AFT has a “gotcha” moment for sure. The list serves as an implied threat that the managers who speak out about the problems with defined benefit plans should not receive business from teacher, or other public, pension funds.
The intimidation already has humbled some powerful investment management firms, such as Dimensional Funds Advisors LP, Kohlberg Kravis Roberts & Co. LP and AQR Capital Management LLC. But the AFT should be addressing the changes needed to ensure the long-term sustainability of defined benefit plans.
The questions the AFT should ask are not whether managers are spending money on advocacy, but whether they are contributing to meeting pension fund investment objectives and, thus, the retirement security of beneficiaries, and are offering services at a reasonable cost.
The AFT singled out a number of hedge funds for criticism for their alleged advocacy, but did not single out any for issues of performance in meeting plan objectives.
The AFT wants to force managers to withdraw from participating in any discussion about the future of defined benefit plans, and the shape of future retirement provision and retirement income sustainability. But that attempt to silence managers will not contribute to strengthening pension plans.
Many public policymakers as well as money managers have been concerned about the decline of defined benefit plans for a long time.
Indeed, it is unlikely those managers speaking out would like to see defined benefit plans disappear since most focus on defined benefit plan assets, and only those firms with extensive mutual fund products would benefit from a total transition to defined contribution plans. Surely it would not benefit KKR if defined benefit plans ceased to grow or exist and were replaced by defined contribution plans. DC plans are unlikely to soon invest significant amounts in private equity.
Most likely those managers are pointing out that consistently underfunded defined benefit plans cannot long exist, and something must be changed. They are pointing out that the emperor's clothes, while not quite like the fairy tale, are in tatters. For this they are being punished.
The larger question is: Who is ruining defined benefit pension plans?
Money managers are not. If anyone is, it is the plans' public-sector sponsors, primarily state and municipal governments. They have provided in many instances unaffordable benefits and then underfunded plans. Oversight of plans has also come under scrutiny for alleged abuses. Alan G. Hevesi, former New York state comptroller, was sentenced in 2011 to one to four years in prison for his role in the improper influencing of investment business with the $152.9 billion New York State Common Retirement Fund, Albany, which he oversaw as sole trustee. In Illinois, sweeping pension reform legislation enacted in 2009, required trustees of all the state retirement systems to be replaced or reappointed.
The AFT should be seeking disclosure about conflicts of interests of money managers, investment consulting firms and others involved in the investment process, the costs of which been detrimental to pension funds, and which have been quantified in an estimate by the Government Accountability Office.
The AFT should, to take a recent page from the playbook of the $258.3 billion California Public Employees' Retirement System, be focusing on fees.
“Hedge funds have not made enough concessions; they haven't gone far enough,” Egidio “Ed” Robertiello, senior portfolio manager, absolute-return strategies for CalPERS, said at a Milken Institute conference, according to a Pensions & Investments report. He suggested pension fund executives pressure hedge fund managers to “create a pension fund share class at 1% and 10%,” rather than the usual compensation of a 2% management fee and 20% performance fee.
But the AFT has resorted to trivialities rather than offering constructive criticism addressing the challenges of meeting pension plan objectives or offering constructive solutions for funding, instead putting managers in the “penalty box” for not being all-in on defined benefit plans.
The AFT report represents only the newest footprint on a path cut by other union groups and pension funds over the years to intimidate managers to toe a party line in discussing retirement income programs.
In 2005, the AFL-CIO composed a list of managers considered hostile to defined benefit plans as well as Social Security.
The same year, the board of the Vermont State Teachers' Retirement System, Montpelier, asked finalists in a search for international large-cap equities, about their positions on the Bush administration's proposal for individual Social Security investment accounts.
The board, noted in a resolution, it would “carefully consider the activities and involvement of investment firms in efforts to promote privatization during the selection and retention process of such firms,” adding Social Security privatization was not in the best interests of pension plan participants.
The issue had no relevance to international equity.
Jeb Spaulding, then Vermont state treasurer, defended the action, saying at the time that the Vermont plan “is designed to provide a benefit that, in conjunction with Social Security and other savings, (to) make possible a secure retirement for our members. To the extent we believe one of the legs of the retirement security stool for our members will be weakened, we do have a legitimate interest in the debate and our members' interests at heart.”
The AFT should put together a list of legislators and governors, exposing those who speak out endorsing defined benefit plans but vote against properly funding their retirement systems on an actuarial basis.
Some managers, unfortunately, caved to the AFT rather than clearly communicate their positions and prescriptions for strengthening the retirement system, including defined benefit plans.
If it must put out its list of politically incorrect managers, the AFT ought to supplement it by naming pension funds that have followed through with it, showing the performance and benchmarks of both managers dropped and replacements selected, and the funds.
The AFT isn't a fiduciary. If it were a fiduciary it would have to demonstrate how its actions contribute to meeting a plan's investment objectives.
Trustees don't need a distraction from overseeing assets in complex and volatile markets, and overseeing liabilities in an environment of very low and unfavorable interest rates. The AFT needs to go back to school on pension funds.