SACRAMENTO, Calif. -- The California State Teachers' Retirement System board, pondering a move to divest its $331 million in tobacco stocks, first will develop an overall policy on divestment.
The proposed adoption of a broad-based test for divesting securities is believed to be the first of its kind in the country, and may spur other public pension funds to set up an orderly framework for dealing with politically sensitive portfolio holdings.
Pension experts worry that adopting one socially restrictive policy could lead to a bevy of proposals on other issues, which have ranged from South African divestiture in the apartheid era to breast-implant manufacturers to gun manufacturers.
"What's driving this is a way to resolve the slippery slope question," said Doug Cogan, director of the Investor Responsibility Research Center's tobacco information service, Washington.
While one source believed CalSTRS' move signalled a shift toward divesting tobacco stocks, others thought it could just as easily be a stall tactic by board members concerned about proceeding down the slippery slope.
Public funds across the country are watching closely how the $109 billion CalSTRS -- the nation's third-largest pension fund -- handles the tobacco issue. Tobacco stocks lost more than half their value in 1999, as companies were buffeted by litigation.
A key finding in studies prepared by outside consultants BARRA RogersCasey Inc., Darien, Conn., and Pension Consulting Alliance, Encino, Calif., found the risk of excluding tobacco -- valued at only 0.42% of CalSTRS' equity portfolio -- is minimal. More than 82% of CalSTRS' tobacco stocks are held in passive portfolios.
"The level of increase in risk (from divestiture) is de minimus" at the total portfolio level, said Allan Emkin, managing director of Pension Consulting Alliance, CalSTRS' general consultant.
In recent time periods, exclusion of tobacco stocks would have increased returns marginally, although exclusion would have hurt returns in previous periods, according to BARRA RogersCasey. Only two basis points would have been gained between June 30, 1993, and Dec. 31, 1999, with a tobacco-free portfolio at the total fund level, officials said.
May 3 vote expected
At its May 3 investment committee meeting, the CalSTRS board will consider a divestment policy. A vote on divesting tobacco securities is then expected at the CalSTRS' June or July investment committee meeting, despite pleas from state Treasurer Phil Angelides and anti-tobacco advocates to vote on the issue earlier.
In a lengthy exchange with Mr. Angelides, Emma Zink, CalSTRS' president, said: "It's anathema to me to get rushed into a decision."
Significantly, state Comptroller Kathleen Connell did not restate previous concerns that divesting tobacco stocks might lead to sell-offs in other areas. Instead, she focused on what safeguards are needed in drawing up a policy.
And CalSTRS' outside consultants gave the board plenty of support, saying the board has the right to divest if it follows proper procedures.
Terry Dennison, a senior consultant with William M. Mercer Inc., Los Angeles, said it is "perfectly within your purview" to decide to divest tobacco stocks, saying it is effectively an asset allocation decision.
Pension Consulting Alliance's Mr. Emkin, who had suffered a mild heart attack 11 years ago in the same CalSTRS' board room after smoking his last cigarette, said the board must meet three key criteria to divest. To meet prudence requirements, he said, CalSTRS must:
* define which companies would be included -- other entities have adopted a variety of definitions for tobacco-related stocks.
* monitor the policy on a regular basis and decide who is responsible for reviewing it, whether it be the staff or an outside party.
* decide whether to alter benchmarks in response to a divestiture.
The policy could require the fund to reinvest should the industry rebound.
Focus on procedure
The board is focusing on setting up a proper procedure for deciding whether to divest.
Chief Investment Officer Patrick Mitchell listed criteria for inclusion in a divestment policy, including: possibly modifying the benchmark; defining which companies would be affected; determining if the investment has merit; measuring risk at the total fund level; providing accountability and reporting; weighing active and passive management considerations; and reviewing litigation, bankruptcy and other extraordinary factors.