Mike Clowes
Looking back on my 33 years at Pensions & Investments, I realized that the P&I staff and I had aided and abetted a series of revolutions in the nation's pension system and the capital markets.
When we gathered in the summer of 1973 to prepare the first issue of P&I, we were mostly experienced journalists, but like most Americans, largely ignorant of the workings of the pension system.
In fact, though we didn't know it, we were preparing to throw light onto an area of the capital markets that was largely out of sight.
We soon found ourselves reporting on a world in transition. Indeed, the first six years of P&I's existence were ones of great advancement in the theory and practice of retirement income provision.
P&I made a splash with its first issue when it reported that International Harvester Corp. had dropped Harris Bank and Trust as a manager of its defined benefit fund. Corporations generally didn't reveal who was managing the pension fund investments, and certainly didn't report when they made a change.
P&I made an even greater splash in early 1974 when it reported on the 1973 investment returns of the commingled funds the 100 largest trust banks used to manage pension assets, and they were poor. This had never before been reported publicly, and sparked changes at the banks.
On the legal and actuarial front, Congress was developing new rules that came into force with the Employee Retirement Income Security Act, or ERISA. It specified that executives overseeing the pension fund were fiduciaries and were bound by the prudent person rule when making investment decisions, and these had to be solely in the interest of the pension plan beneficiaries.
It specified that companies had to fund their pension promises and set vesting rules to ensure employees received the promised benefits. We reported on it all and explained it to our readers.
As a result of the funding rules, pension plan assets surged, though the number of defined benefit plans grew only slowly. In 1975, retirement assets totaled $259.9 billion, with $185.9 billion in defined benefit plans and the remainder in defined contribution plans, mostly profit-sharing plans. By 1980, the assets had more than doubled, with defined benefit assets totaling $401.4 billion, pouring money into the capital markets and setting off a battle for the management of the assets.
In 1975, banks dominated the investment of pension assets, with insurance companies involved, largely on the fixed-income side, but independent investment counseling firms were beginning to pop up to compete to manage the assets. Corporate pension executives soon hired multiple managers, and investment management consulting firms evolved to advise them how to build a portfolio of managers.
With the approval of the Department of Labor, and the guidance of consultants and money management firms, pension funds were soon investing in real estate, international stocks, venture capital and leveraged buyouts. All of these asset classes demanded P&I editors and reporters quickly learn the essentials of the businesses.
At about the same time, the consultants helped spread the word about what became known as modern portfolio management, and so did P&I and its reporters. This was initially based on the work of academics such as the late Harry Markowitz, Burton Malkiel and Bill Sharpe.
Gathering stories like this, and learning the essential trends of the system, put our reporters and editors in touch with the academics, consultants, investment managers and fund executives who often were anxious to spread their insights on the market. For example, Markowitz immediately agreed to meet me in the spring of 1974 to explain his ideas on how risk and return in investments were related, how to build an efficient portfolio, and how to calculate the risk of a stock or a portfolio. The calculations necessary for the latter idea, he said ruefully, would require time on the largest existing computer and therefore was not practical in 1954, the time it was developed.
However, in 1964, Sharpe, building on Markowitz's insights, developed the Capital Asset Pricing Model, which provided a solution to the calculation problem, and it led to beta as a simple measure of risk that was slowly being accepted by the investment community, thanks to consultants and P&I.
At the same time, three investment pioneers had begun to market index funds — Rex Sinquefield of American National Bank and Trust Co. of Chicago, William Fouse at Wells Fargo Bank, and Dean LeBaron at Batterymarch Financial Management. They were influenced by the work of Eugene Fama who, in 1965, had proposed the efficient market hypothesis that suggested it is difficult, if not impossible, to earn greater returns than the market by active management.
The introduction of index funds hardly caused a ripple in the corporate pension market at first, but it caused heated debate in the comment pages in P&I, with one pension fund executive declaring that using index funds was "settling for mediocrity." This was answered by Jack Bogle, who argued indexing was sensible and efficient, and soon after started Vanguard Group to offer index funds to the average investor.
Public employer pension plans were slower to move away from fixed-income investing and into stock investing, but by the early 1980s most had done so, and had adopted the multiple manager approach.
But the acceptance of the 401(k) plan by the IRS in 1980, and legislation in Congress that made the defined benefit plan unattractive to corporate top management, caused many companies to terminate their plans — the law of unintended consequences at work.
In 1975, there were 18,016 single-employer plans with 100 or more participants, and 8,350 defined contribution plans. By 1985, the number of defined contribution plans had climbed to 23,279 and was greater than the number of defined benefit plans, which had begun to decline from its peak of 23,033. In 2020, there were only 5,489 DB plans with 100 or more employees still active. P&I reported as corporations froze their defined benefit plans and replaced them with 401(k) plans.
By 2020, the assets in private defined contribution plans, mostly 401(k) plans, totaled $7.7 trillion, and far exceeded the $2.7 trillion assets in private defined benefit plans, according to Federal Reserve data. The switch to 401(k) plans by large corporate funds threatened the viability of the U.S. venture capital industry, but large public pension funds, which did not switch to 401(k) plans, stepped up their venture capital investing, as did charitable foundations and college endowments, and more than offset the loss of DB assets.
Thus, in my 33 years at P&I, we spread the word about five revolutions: the growth and slow decline of corporate defined benefit plans; the diversification of investment beyond U.S. stocks and bonds; the recognition of the relationship between risk and return and market efficiency; the growth of index funds; and the rapid growth of 401(k) plans.
I leave to P&I's fine reporters and editors the task of understanding and explaining the implications for the institutional capital markets of ChatGPT and the whole AI revolution.
