Kentucky Public Pensions Authority releases hedge fund-of-funds report

Kentucky Public Pensions Authority, Frankfort, publicly released an investigative report Tuesday that it had commissioned to learn whether there were any improper or illegal activities related to hedge fund-of-funds investments.

The report commissioned from law firm Calcaterra Pollack was completed in May 2021, and its public release Tuesday was the result of an Aug. 25 ruling by Franklin County Circuit Court Judge Phillip J. Shepherd that the report was not exempt from the Kentucky Open Records Act.

The request for the release of the records had been filed in 2021 by the office of Kentucky Attorney General Daniel Cameron and refused by the Kentucky Public Pensions Authority, which cited attorney-client privilege at the time. Mr. Cameron's office had said the report was necessary to assist the office in filing an intervening complaint in its lawsuit filed on behalf of the Commonwealth of Kentucky against Blackstone Alternative Asset Management, Prisma Capital Partners, KKR & Co. and Pacific Alternative Asset Management Co., as well as former executives of the authority (formerly known as Kentucky Retirement Systems), actuarial consultant Cavanaugh Macdonald Consulting and investment consultant RVK.

That lawsuit, which was filed July 20, 2020, in Franklin County Circuit Court in Frankfort, seeks "compensatory and punitive damages," and the relief sought includes damages due to losses incurred by the retirement systems from utilizing unsuitable investments, loss of assets, and loss of "prudent" investment opportunities and positive investment return, and the "disgorgement of fees" from sellers of "unsuitable investment products," according to the original court filing.

The lawsuit also seeks damages related to "the greatly increased costs to the taxpayers of restoring KRS and its pension plans to properly funded status."

In his ruling Aug. 25, Mr. Shepherd said KPPA/KRS "did not satisfy its burden for showing that the report of its investigation should be exempt from disclosure under KORA." He said further that among the factors weighing in favor of disclosure was the Kentucky Supreme Court acknowledging that the series of hedge fund investments made from 2011 to 2017 were clouded by allegations of "significant misconduct," and that the public has a compelling interest in reviewing the KPPA/KRS investigation to ascertain whether the retirement system acted "promptly, thoroughly and effectively."

The investigative report is available on KPPA's website. The report, which is 97 pages long and features more than 2,100 pages of exhibits, shows that Calcaterra Pollack investigated investment actions completed between 2008 and 2011 and "did not find any violations of fiduciary duty or illegal activity by BAAM, PAAMCO, Prisma, or the investment staff and trustees related to the fund of funds due diligence processes and retention; and the investing of KRS pension funds' investments in absolute return strategies."

The report then moved on to actions taken by KRS between 2011 and 2016. Among the findings of the report were alleged fiduciary duty violations, conflicts of interest and ethics code breaches by David Peden, former chief investment officer of KRS, and Girish Reddy, co-founder of Prisma, related to "conduct around late 2014 to mid-2016" by Mr. Peden and then-current and former Prisma leadership surrounding the retirement systems' entering into "an informal strategic partnership with Prisma" that were approved by the KRS board in May 2015 and February 2016.

Prisma was acquired by KKR in 2012 and merged with PAAMCO in 2017 to form PAAMCO Prisma Holdings. Mr. Reddy left the latter firm in 2018.

The report further said in its investigation of activities between 2011 and 2017 that it did not find "any violations of fiduciary duty or illegal activity by BAAM, then-PAAMCO, the consultants of investment staff or trustees."

In a statement accompanying the report, KPPA said the report "has been made public by KPPA in compliance with the Franklin Circuit Court ruling. KPPA does not comment on matters that could impact pending litigation, so we do not anticipate making any further statements at this time."

KPPA spokesman Chris Clair declined to comment.

Calcaterra Pollack in its executive summary said a separate report sets forth "a complete analysis of potential legal remedies available to KRS against Mr. Peden, Mr. Reddy and Prisma, including pros and cons of undertaking legal action, a cost/benefit analysis of such action, and any possible legal impediments to the legal action."

The report with the legal recommendations was not provided.

Additionally, the investigation concluded in early 2017 because a new board of trustees began to restructure the absolute-return investments and because Mr. Peden was terminated from KRS in mid-January 2017. At the time, KRS had no comment on the departure of Mr. Peden, who was replaced by Rich Robben, first on an interim and eventually on a permanent basis.

Mr. Cameron's July 2020 lawsuit against multiple defendants related to those hedge fund investments was filed 11 days after the Kentucky Supreme Court agreed with an earlier court of appeals' dismissal of a prior suit, Mayberry vs. KKR, which had been filed by eight participants of Kentucky Retirement Systems. The plaintiffs said in that lawsuit the defendants enticed KRS to invest in fund-of-funds investment vehicles, when KRS could have earned higher returns in the stock market. Chief Justice John D. Minton Jr. in his July 9, 2020, opinion said the plaintiffs did not have standing to bring their claims of funding losses sustained by the pension fund because they "do not have an injury in fact that is concrete or particularized."

In April 2019, the appeals court reversed an earlier decision by a state circuit court judge in November 2018 denying the hedge fund firms' motion to dismiss.

The appeals court's memorandums stated the plaintiffs had "no standing to assert such claims on behalf of KRS or the Commonwealth," citing among other items of support that the breach of fiduciary duty and aiding and abetting claims were governed by a five-year statute of limitations.

Other defendants in Mr. Cameron's lawsuit include Thomas Cavanaugh, Cavanaugh Macdonald's co-founder; Rebecca A. Gratsinger, CEO of RVK; Jim Voytko, RVK's president, director of research and senior consultant; Mr. Peden, currently a senior investment consultant at Pavilion, Mercer's non-profit consulting practice; T.J. Carlson, KRS CIO from 2010 to 2013 and current CIO of the $9.5 billion Missouri State Employees' Retirement System, Jefferson City; and William A. Thielen, KRS executive director until his retirement in 2015.