COMMENTARY: GAO pension survey reveals endemic corruption hiding in the hedges

Thursday, March 22nd, 2012

By Frank Keegan | State Budget Solutions

Anybody who ever questioned how many layers of corruption are woven into state and municipal pension systems, should take a look at the latest Government Accountability Office report on “Challenges of Hedge Fund and Private Equity Investing.”

“Challenges?” That’s a genteel way of putting it. Why not put it in English: Ripping off taxpayers and public workers?

While GAO surveyed private and public pension systems on these alternative “risky investments that seek exceptional returns,” the report notes that “Public sector plans, such as those at the state, county and municipal levels, are not subject to funding, vesting, and most other requirements applicable to private sector defined benefit pension plans ….”

Another big difference GAO fails to mention is that private pensioners can lose benefits, while public pensioners cannot. No matter how much politicians, fund managers, brokers, placement agents and other insider pension parasites loot and pillage public plans, taxpayers are on the hook for it.

If politicians can’t extort enough from residents and businesses to pay pension benefits, next on the hit list are children, the poor, elderly, ill and helpless.

Then younger public servants will have to pay more, get less or lose their jobs entirely.

And, finally, bondholders might have to actually acknowledge some of the risk they took on when they loaned money to governments without carefully checking the books.

Certainly, state and municipal pension plans are perfect corruption machines at five levels:

  1. Built in is the “moral hazard” of politicians making promises they know they don’t have to keep;
  2. Then there is their unfettered power to lie and cheat in accounting value;
  3. That lets them secretly drain pension funds as open-ended credit cards that don’t show up on the books;
  4. The workers politicians betray have the power to keep putting them in office, and best of all;
  5. Lack of pension transparency lets politicians secretly enrich contributors and cronies.

If residents and businesses paying taxes to support this corruption machine and the public workers victimized by it want some insight into why politicians and pension insiders love alternative investments, take a look at the latest Maryland Department of Legislative Services Office of Policy Analysis Annual Retirement and Pension System’s Investment Overview of the State Retirement and Pension System and State Retirement Agency.
“The SRPS incurred $219.6 million in investment management fees in fiscal 2011. As shown in Exhibit 5, management fees for the plan as a whole grew at roughly the same pace as total assets for the first time in several years. … However, in several asset classes, fees grew at a substantially different pace than assets. For instance, absolute return assets grew by 15.6%, compared with a 73.3% increase in fees.”

Then the report says in bold-face type: “DLS recommends that the board and SRA explain the divergent growth rates between assets and fees for the private equity and absolute return asset classes. The board and agency should also brief the committee on their efforts to negotiate lower management fees during this extended period when competition for institutional assets has been high.

The best one of all is British company Record Currency Management. From 2010 to 2011, the Currency investments category lost $360 million at a cost of $13.4 million in fees.

Therefore, DLS recommends that the board and SRA provide a full explanation of the fiscal 2011 losses engendered by the currency overlay program. The explanation should include any steps taken to enhance the manager’s agility in responding to sudden changes in currency exchange rates and to minimize the chances of such losses occurring again. It should also address their efforts to clarify reporting of the program’s overall effect on the fund’s performance.

Even in the supposedly docile Domestic Equity investments, DLS said, “The shift from passive to active management of domestic equity assets is the primary factor behind the increase in fees paid to domestic equity managers. Unfortunately, the increase in fees in this asset class has not generated improved performance. …”

DLS recommends that the board and SRA explain the reasons for the underperformance of its passive domestic equity manager.

Explain? How about clawing our money back?

Overall, since 2007 Maryland pension funds dropped more than $3.7 billion, leaving them $18 billion below where they promised to be by 2011. At the same time, pension obligations increased more than $5 billion. That is a death spiral.

To one degree or another The People’s Democratic Republic of Maryland represents what is happening in state and municipal defined benefit pension plans all over our nation.

The big question is: Who got these deals and how?

Even as politicians and managers run up a hidden and growing $4 trillion debt future taxpayers and public workers must pay, an elite clique of insiders is making billions of dollars off the doomed system playing high roller with other peoples’ money.

It is endemically corrupt. It cannot be reformed. The only solution is to freeze all plans now and shift to defined contribution systems that put workers in control of how their money and taxpayer contributions are invested.

Frank Keegan is editor of a project The State Budget Solutions Project is non-partisan, positive, pro-reform, proactive and anchored in fundamental-systemic solutions. The goal is to successfully engage political journalists/bloggers, state officials and opinion leaders in a new way of thinking about state government and budgets, fundamental reforms, transparency and accountability.
[email protected]

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