(December 2, 2013) – What will $500 million in asset
management fees buy? A heck of a lot of trouble, judging by recent controversy surrounding
two US public pension funds’ investment expenses.
New York City and South Carolina’s retirement systems each
shelled out just under half of a billion dollars to asset managers in the most
recent fiscal year. Both public defined benefit schemes outsource effectively
all of their assets to external investment firms. Allocations to alternatives
are by far the most expensive part of each system’s portfolio.
The catch? Between its five pension funds, New York City’s
assets total $144 billion. South Carolina spends roughly the same on a $27
Furthermore, in the 2013 fiscal year, New York City’s funds
returned 12.12% and South Carolina’s gained a net 9.9%. The former has likewise
outpaced its southern peer over three- and five- year performance periods.
But both organizations have come under fire in recent weeks
for their half-billion investment expense tabs. Here is an in-depth look as to
why, and what those in charge are doing about it.
New York City
Retirement Systems ($144 billion AUM)
“Wall Street Fees Paid by NYC’s Pension Funds Climb 28%,” announced
a Bloomberg headline on November 22, following the release of the comptroller’s
annual report for fiscal 2013. It’s the story no PR person wants to wake up to.
New York City’s five massive retirement funds have long been
characterized as a governance nightmare, including by their most recent CIO
Larry Schloss and by this publication. As with South Carolina’s
state system, New York City outsources all of its asset management, leading to
higher fees than it might otherwise incur.
“Of the top 10 US public pension funds—NYC is
number five—we’re one of two outsourcing everything,” Schloss told aiCIO last year. (The other fund is
Washington State’s.) “It hasn’t at all changed in 70 years. We’ve gone to the
moon and invented the internet in 70 years. You’d like to think you can change
this, especially with the talent present here in the world’s financial
Near the end of his tenure, Schloss put forth a
proposal to start the insourcing process. It hasn’t gained traction since then,
although his estimated timeline for full implementation was an astonishing 10
to 20 years. Until then, the New York City pension system’s costs of doing
business land in the pockets of Wall Street-types. Based on the latest fee figures
and the official reasoning behind them, those costs will likely continue to mount.
The 28% figure cited by Bloomberg is accurate: New York
City’s pension funds spent $472.5 million on investment fees in the 2013 fiscal
year, and $370.2 million the year prior. Add in the defined contribution plans
and health benefit funds, and the recent payout amounts to $499 million, which
is $105 million higher than the previous year. But nearly half of the rise in
management expenses can be attributed to growth in the pool of assets needing
to be managed. The funds closed FY2013 with a collective $137.4 billion, and 2012
with $122.1 billion—a rise of 13%.
When reached by aiCIO,
a spokesperson for the Comptroller’s Office was audibly frustrated at the
“rising fees, stagnant performance” angle prevailing in press reports on the
data. The comptroller, who is responsible for the retirement funds, pinned the
jump in fees on changing asset allocation as opposed to a Wall Street feeding
misleading to cherry pick one year and compare a rise in fees with the rate of
return,” the office said in a statement. “Fees rose in FY2013 consistent
with the recent expansion into alternative asset classes that diversify the
portfolio against events like the stock market collapse in 2008. By making
these alternative investments, the funds have helped reduce the risk in the
portfolio for both pensioners and taxpayers, particularly in times of stock
market distress… The fact is that many alternative investments, such as private
equity and real estate, have front loaded fees and don’t generate returns for
to alternatives have risen over the past few years, although not by a huge margin
according to the latest available data. Taken together, private equity, private
real estate, and hedge funds amounted to 11.2% of the systems’ portfolio as of
August 31, 2013. A year prior, that portion was 11.1% and in 2011 it was 9.7%. Change
comes slowly to New York City’s retirement funds.
From a fee perspective, that’s a good thing. The city’s
biggest fund, the $47 billion New York City Employees’ Retirement System, is
also the largest municipal pension scheme in the United States. During the 2012
fiscal year, alternatives accounted for 15.8% of the portfolio but 63.5% of its
total fee spending.
There is a consensus among consultants and alternative
managers alike that fees have fallen overall since the financial crisis. This
trend in alternatives, like New York City’s rebalancing towards the asset
classes, is operating in the margins. South Carolina’s $11 billon alternatives
program, representing nearly half of its total portfolio, is not.
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