The Necropolitan Sentinel

Here's the document. From the American Federation of Teachers, a public teachers union.

Here's the first paragraph:

The retirement security of working families is under attack as never before. Public sector defined benefit pension plans have repeatedly been attacked by right-wing think tanks and political committees. While much of the money flowing to these organizations remains unreported, many of the organizations attacking defined benefit plans are funded by hedge fund and private equity managers, some of whom solicit investments from public sector pension plans. These fund managers are all too eager to seek investments from the deferred wages of teachers, firefighters and other public servants, while simultaneously attacking their economic interests.

I want to highlight a few details (it's only 7 pages long, though. Just go read it.)

1. Pretty much all the "watch list" entities have a single named person whose political activity is flagged as being Politically Uncorrect. 

Sometimes that person is the founder (are they still associated with the entity?), sometimes CEO.  But many times it's only an advisor or managing director…. really? That's what it takes?

2. Some of the things that make them Politically Uncorrect have to do with associations with entities like the Manhattan Institute. While there are those at the Manhattan Institute who are down on public DB pensions, that's far from their only activity. I am very familiar with the Manhattan Institute, so that's why I can mention that one, but I assume some of the other Politically Uncorrect entities have a wide-ranging focus, and donations from the particular people were for activities unrelated to pensions.

Of course, money is fungible.  Funny that liberals can see that in this case, but not Planned Parenthood and the like.

3. Fiduciary duty? What's that?

The consideration of an investment manager’s position on such issues will not violate the trustees’ fiduciary obligations provided that (1) the collateral objectives are subordinate to the primary economic objective of retaining qualified managers that will provide competitive, risk-adjusted returns, and (2) the consideration of collateral factors leads to the retention of investment managers that are equivalent, from a qualification and performance standpoint, to other managers available to the plan.

I will let that legalese stand on its own.

4. I will point to a prior post where political considerations went into choice of investments. See how well that worked out?

Now, choice of asset manager is one step removed from that, but that's something to think on. 

Especially if you have a fiduciary duty.

A story of people taking loans against their pensions and the inevitable consequences of living beyond one's means:

To retirees, the offers can sound like the answer to every money worry: convert tomorrow’s pension checks into today’s hard cash.

But these offers, known as pension advances, are having devastating financial consequences for a growing number of older Americans, threatening their retirement savings and plunging them further into debt. The advances, federal and state authorities say, are not advances at all, but carefully disguised loans that require borrowers to sign over all or part of their monthly pension checks. They carry interest rates that are often many times higher than those on credit cards.

….

A review by The New York Times of more than two dozen contracts for pension-based loans found that after factoring in various fees, the effective interest rates ranged from 27 percent to 106 percent — information not disclosed in the ads or in the contracts themselves. Furthermore, to qualify for one of the loans, borrowers are sometimes required to take out a life insurance policy that names the lender as the sole beneficiary.

LumpSum Pension Advance and Pension Funding did not return calls and e-mails for comment.

I bet they didn't.

While the specific targets profiled in this article, U.S. service members, are unlikely to have their pensions fail (after all, the feds can just print more $$), I think these scamsters should beware of other public pension recipients.  What will happen if the pension payments get cut?

To say this is a precarious business model is an understatement. As noted in the article, there are all sorts of laws specifically crafted to prevent pension payments from being curtailed in any way. It's intended to prevent bad choices on the part of the intended recipients, but alas, real life occurs.

Given the sheer volume of Boomers in this situation, I can imagine the vultures circling. But they had best be nimble, because not only do they have to worry about legal repercussions (and I wouldn't put criminal charges past enterprising AGs), but also what happens when the targeted pensions are reduced due to governmental pension failure.

In my last public pension thread, I pointed to RI Treasurer Raimondo larding up the public pension fund with alternative investments, due to the coverage by Ted Siedle at Forbes.

He's got some questions for Ms. Raimondo, of which I will sample a few.

Below are 22 questions I’d like to see the State Treasurer answer for the people of Rhode Island– questions which mainly address the piling-on of high-cost, high risk investments, conflicts of interest and potential kick-backs aka “placement fees.” 

Based upon my decades of pension forensic experience, these are the initial matters the public should be focused upon. Given the amount of money at stake, and the potential detrimental impact upon workers and taxpayers, don’t let anyone tell you that getting comprehensive answers to these questions is too much to ask. I’m frankly amazed that no one has probed these issues before. For example, the Treasurer simply saying managers have agreed not to pay placement agent fees going forward is not enough, in my opinion. Were any such abusive fees paid in the past? Pension investigations require relentless digging and I never rely upon reassurances of officials who may or may not know what they’re talking about. Access to the documents is required.   

….

2. How many of the pension’s managers are not registered with the U.S. Securities and Exchange Commission? Please name the managers that are not SEC-registered.

….

8. Which of the offering documents related to the hedge, venture capital and private equity funds in which the pension invests clearly indicate that these investments are highly speculative, illiquid and involve a high degree of risk? Do all the hedge, venture and private equity fund offering documents include such disclosure?

….

13. Does the pension rely upon the general partners of alternative investment funds to estimate the value of the partnership investments in which invests?

….

16. How significant, in percentage and dollar terms, is the difference between the values the investment managers report to the pension regarding alternative investments and the liquidation values the pension might actually receive in a forced liquidation?

….

22. Are all managers hired by the pension through a Request for Proposals? If not, which managers were hired without an RFP being issued? 

I've got some questions, too.

1. What is the probability that the alternative assets will lose 40% of their value in 5 years?

2. Should that happen, who will be on the hook to make up the shortfall? 

3. What is your projected "money running out" date (or, rather, probability distribution for such a date) for the pension, both with the new asset allocation and the prior allocation?

I'll keep my questions to three, as Siedle seems to have questions over the details of transparency and governance covered.  Also, I may be able to find some answers for #3 on my own (and possibly #1 in broad terms), though I'm not sure.

This is the first post in a series on public pension math, and I am going to start with one of the big problems with public pensions — the return on assets – the assumed rate, how this assumed rate is used, and consequences of this theory.

But to provide some context, I will point out a recent brou-ha-ha over Rhode Island pensions (there's also an issue with South Carolina, but I will treat with that at another time).  

Please read Ted Siedle's piece at Forbes titled "Rhode Island Pension Reform Looks More Like Wall Street Feeding Frenzy" — there is a huge component on governance/conflict-of-interest in there, but I want to highlight one bit:

Engage Rhode Island Contributors. Any connection, direct or indirect, between the pension and donors to this tax-exempt political organization backing the Treasurer should be investigated, in my opinion. The lack of transparency and regulation related to alternative investments gives rise to almost endless possibilities for abuse and I’ve learned to expect anything.

“The cost of public employee benefits in most states and communities is unsustainable,” says the foundation’s website. Not-so-sure about that; on the other hand, it is well-established that the cost and any short-term outperformance of hedge funds are unsustainable. The cure for unsustainable pensions is unsustainable investing?

Ted Nesi followed this up with an instructive graph and illuminating quote:

Raimondo has said in the past that the move to an arguably more aggressive investment strategy is necessary because of the pension fund’s significant shortfall – it was about 60% funded after the 2011 overhaul, and only 48% before the new law passed. She thinks big returns are needed to fill the gap.

“In government there is a view that the status quo is safe,” Raimondo told Institutional Investor. “But when it comes to investing, doing nothing is making a decision to do something.”

One question.

If these "alternative investments" tank as much as Calpers' "green" investments, who is on the hook to make up the losses?  

Here is the followup series of questions, no matter how the first is answered:

Do you think the people who would have to pay to fill the even-larger gap will be pleased with your crap shoot that made a situation worse? Do you think they will be happy with the idea that "guaranteed" benefits are backed by far-from-guaranteed assets? Do you think that they will think it a "noble way to lose money"? Do you think that they will ignore the large amount of fees your buddies are reaping from this business?

As I said in comments yesterday, watch this space as to why Calpers should care about buying high and selling low.  Because the money can actually run out.

A federal judge has approved Stockton, California's application for Chapter 9 Bankruptcy.

A judge accepted the California city of Stockton's bankruptcy application on Monday, making it the most populous city in the nation to enter bankruptcy.

U.S. Bankruptcy Judge Christopher Klein said the bankruptcy declaration was needed to allow the city to continue to provide basic services.

"It's apparent to me the city would not be able to perform its obligations to its citizens on fundamental public safety as well as other basic government services without the ability to have the muscle of the contract-impairing power of federal bankruptcy law," Klein said.

The city of nearly 300,000 people has become emblematic of government excess and the financial calamity that resulted when the nation's housing bubble burst.

Its salaries, benefits and borrowing were based on anticipated long-term developer fees and increasing property tax revenue. But those were lost in a flurry of foreclosures beginning in the mid-2000s and a 70 percent decline in the city's tax base.

Yeah, that will leave a mark.

Now, it is not entirely clear to me the status of Calpers, the major California public pension fund in this bankruptcy.  First, there are ongoing payments to Calpers, which is part of payroll costs. This is not a liability per se, but an operating cost.  Stockton has already slashed lots of employees and services, thus payments to Calpers were also slashed.

Stockton evidently did take a few payment "holidays", and Calpers is an actual creditor and not just an operating cost:

Stockton's biggest creditors insured $165 million in bonds the city issued in 2007 to keep up with CalPERS payments as property taxes plummeted during the recession. Stockton now owes CalPERS about $900 million to cover pension promises — by far the city's largest financial obligation.

$900 million… hmmm, $900 million. I heard a number like that recently.

Stockton is not really wanting to cut this pension debt, by the way:

A Stockton attorney had said CalPERS is technically not a creditor, but only a trustee of funds held for retirees. He said there is no big pool of city funds CalPERS could dip into to “backfill” a cut in Stockton’s pension debt.

U.S. Bankruptcy Judge Christopher Klein asked if that meant every $1 taken from CalPERS would be a $1 taken from actual pensions. “Exactly right,” said Norman Hile, the Stockton attorney.

The bond insurer attorney, Walsh, disagreed. He said CalPERS debt is based on actuarial projections “years and years” into the future, and with a small change “millions of dollars can be freed up.”

Those actuarial projections, of course, assume that promised payments to retirees actually get paid. That doesn't always happen.

Here is something recent from Calpers:

The CalPERS board last week tentatively approved an employer rate hike of roughly 50 percent over the next half dozen years, replacing a policy that kept rates low during the recession with a plan to reach full funding in 30 years.

While giving unanimous “first reading” approval to the proposal by Chief Actuary Alan Milligan, the board asked for more information before final approval scheduled next month.

“Any addition to the schools (rate) is likely to result in layoffs to employees,” said the board president, Rob Feckner, who represents the largest group of CalPERS members, non-teaching employees in 1,488 school districts.

….

The CalPERS investment fund, expected to provide about two-thirds of future pension payments, peaked at $260 billion in the fall of 2007, dropped to $160 billion in March 2009 and was back up to $256 billion last week.

The total CalPERS fund had 101 percent of the projected assets needed to cover future pensions in 2007. The funding level dropped to 60.8 percent in 2009 and in the last valuation (as of June 30, 2011) was back up to 73.6 percent.

Under the current rate policy, the funding level in 30 years is projected to reach 79 percent for most state workers, 86 percent for most local governments and 82 percent for non-teaching school employees.

A funding level of 80 percent is adequate, some experts think. But CalPERS officials, shaken by the huge investment loss five years ago, worry that another deep recession could drop funding low enough to make reaching full funding impractical.

For the record, the "80 percent is adequate" line is bullshit.

Previous bankrupt entitities in California, such as Vallejo, did not adjust required payments/debts to Calpers.  Eventually, Calpers is going to run into a situation they can't finesse, though.

Many states have statutes and constitutional provisions making it illegal to cut public workers’ pensions. Until now, there has not been a prominent test of those laws in bankruptcy — particularly not in California, where the big state pension system, known as Calpers, has been girding for battle on the issue, trying to avoid the precedent of a cutoff or shortfall in a city’s pension contributions.





Federal bankruptcy law often trumps state laws, but municipal bankruptcies are so rare that there is almost no precedent on how to apply the law to state pension provisions.


 

We'll see just how rare these bankruptcies will be, especially in California, in the coming years.

Previous posts on Stockton:

March 2012: Falling off the Cliff – Public Finance

March 2012: California Pensions, Hoping the Dog Doesn't Bark

June 2012: Intersecting Threads – Bankruptcy, Pensions, and Higher Education Bubble

July 2012: Least Difficult Warren Buffet Prediction

August 2012: Muni Watch – All Signs Point to Doom

August 2012: Even More Bad Public Finance Ideas: Capital Appreciation Bonds

September 2012: Public Pensions – Everybody in the Pool!

Fiduciary duty?  What's that?

A top official with California’s public employee pension system admitted this week that its holdings in green energy companies have lost hundreds of millions of dollars.

….

According to Dear, CalPERS’ $900 million green energy investment fund has produced an annualized return of negative 9.7 percent.

“We’re all familiar with the J-curve in private equity,” Dear said at the Wall Street Journal’s ECO:nomics conference this week. “Well, for CalPERS, clean-tech investing has got an L-curve for ‘lose.’”

“Our experience is this has been a noble way to lose money,” Dear said. But he added that CalPERS would dial back its green energy holdings given the extensive losses it has produced for California’s public sector retirees.

First off, I haved scheduled this to post tomorrow, April 2, because I don't want anybody to think this is a joke. This is most definitely not a joke.

Second, I'm using the dead remains of a post I had started about public pensions divesting themselves of investments in gunmakers, and other gun-related companies, in the wake of the Newtown shooting.  I didn't run with the post as the amount of these investments were miniscule in most of the pensions that made that choice.  

Let's compare!

California made a move yesterday that makes about as much sense as throwing away your telescope to get back at that meteor for hitting Russia.

And yet, in California, it’s strictly business as usual (via LA Times):

The nation’s biggest public pension fund is taking a stand against gun violence by voting to sell all its investments in two firearms manufacturers: Smith & Wesson Holding Corp. and Sturm, Ruger & Co.

On Tuesday, the Investment Committee of the California Public Employees’ retirement System voted to sell about $5 million worth of the gun makers’ stock and other securities. The full CalPERS board, which has the same 13 members as the Investment Committee, is expected to ratify the vote on Wednesday….

So, dumping $5 million in gun-related stock, versus a losing $900 million investment bucket (albeit in a variety of companies and projects, I'm sure). This is why I canned my prior post about divestment - $5 million is just spit in the bucket for a pension fund of Calpers' size.  

For a $5 million investment to make up for a $900 million investment that loses 9.7% in one year – a loss of $87.3 million in one year on $900 million – that would require a return of over 1800%.  Gun makers may be doing well in the latest political panic, but not that well.

And that's actually a low number. The $900 million is how much the fund is worth after multiple years of losses that were, on average (geometric, it looks like), 9.7% per year.  From the first link, they started investing in this fund in 2007, so let's call it 5 years.  Projecting that for total losses,  five years of 9.7% annualized losses is actually 40% cumulative loss. 

That would mean that the original investment was about $1.5 billion (yes, with a B), and now it's 900 million.  A loss of $600 million.

That's a huge loss, by the way.

So, losing a small, but winning investment? Yeah, that's bad from a fiduciary perspective, but not a deal-breaker (esp. if one thinks legislative action may kill future returns).  

Losing hundreds of millions on a politically-driven investment because it's "noble"?

Yeah, he might want to check about what's covered on Calpers' D&O policy, at the very least. Sure, sounds like they're trying to cut their losses, but buying high and selling low seems to be something Calpers has had trouble with before.

Spiking: artificially boosting final salary to take advantage of pensions whose amount depends on that final salary.

Exemplar:

At least 19 Omaha firefighters are expected to leave the department this year with a chance to spike their pensions — the last gasp of a practice that is partially to blame for a $610 million pension shortfall.

Firefighters have until Thursday to tell the city whether they plan to retire under the old pension system, which allows them to work extra overtime or use banked comp time to boost income in the months leading up to retirement.

That practice, which artificially increases pension payments, was eliminated in the fire contract passed late last year. Instead, the new contract averages overtime and comp time over the course of a career.

Double-dipping: "retiring" from a job and drawing a pension, and then going back and actively working for the same employer.

Exemplar 1:

A $2.4 million payout and retirement payments on top of salaries for city employees have residents outraged about how the city spends their tax dollars.

There are at least 17 city employees who retired and were rehired by the city, meaning they receive a pension on top of their annual salary paid for by the taxpayers, city officials say. This includes Assistant City Manager Vernon Hargray and Emergency Management Director Joe Cabrera.

Exemplar 2:

CHICAGO (CBS) — What would you call state employees retiring on pensions of hundreds of thousands of dollars a year, only to be rehired and paid by the same university hospital while their pension payments continued?

Some might call them “Double Dipping Docs.”

….

It’s a good hospital, doing good work. But good work doesn’t come cheap. 14 of the state’s top 25 pension recipients worked here before retiring with pensions of over $250,000 a year. At least seven of them have been hired back, at salaries of up to a $100,000 in addition to those pension payments.

“The university has a strict policy on the rehiring of retired employees and that requires exceptional circumstances and a clear and compelling interest to the university,” said Bill Burton, UIC News Bureau Director. “Many of these individual practice, teach, do research in areas and specialties that have national shortages of top people.”

Hmm. Wonder why there might be a shortage.

Anyway, spiking has been spiked by most public pension systems, because it does inflate public pension cost well above what is often planned for. 

However, double-dipping is likely to stay for a while. Even in the private sphere, this occurs, because of some demographic issues. Ignoring the impact of Obamacare on the medical profession, professions requiring a great deal of training and experience are going to be in a world of pain because there are fewer Gen Xers, just in absolute numbers, than Boomers.  The peak year for births in the U.S. was in 1957, and the trough year for births (in absolute numbers) was around 1975 (I was born in 1974… woo!).  Before we were called Gen X, we were called the Baby Bust. And it's not like the demographics are that much better worldwide.

But the real issue with double-dipping is that people are eligible for their pensions in the public sphere at a relatively young age, where they may have a good 10-20 years of working life left. So of course they take their pensions as soon as they're eligible. But they don't have to give up working.