Shining Light On Hefty Fees To Outside Managers Of Public Pension Funds

Lawmakers want online publication of management fees and ‘stress tests’ of all funds in $73 billion pension system.

Last fiscal year, the state paid nearly $620 million in fees to outside managers who handle some of New Jersey's public-employee pension-fund investments. In order to keep close tabs on that expense, lawmakers in a state Assembly committee gave bipartisan support yesterday to a bill that would require the state to disclose online all of the fees that are paid each year to the outside fund managers.

The measure, passed by the Assembly State and Local Government Committee, would codify a policy that the New Jersey State Investment Council has been following in recent years in the wake of concerns raised by public-worker union officials about the practice of using outside fund managers to oversee so-called alternative investments like hedge funds and private equity.

The fees — which cover basic management duties and also reward good investment performance — totaled nearly $620 million during the 2016 fiscal year, according to the SIC’s most recent annual report.

The bill that passed the committee by a 5-0 margin yesterday would also require as a matter of law regular “stress tests” to evaluate the fiscal health of the various funds that make up the overall $73 billion pension system. Though the pension funds already undergo risk-management evaluations on a regular basis, the measure would codify the practice and require the test results to be posted online.

‘…anticipate the pain and loss’

“This bill will allow decisionmakers to anticipate the pain and loss, helping them to determine if the actual risk exposure is in line with the actual risk appetite,” said Assemblyman Troy Singleton (D-Burlington), the measure’s primary sponsor.

Roughly 30 percent of New Jersey’s overall pension portfolio has been allocated to alternative investments as part of a diversification strategy that’s aimed at protecting against the types of widespread losses the pension system has suffered during previous economic downturns by being more exposed to traditional stocks and bonds.

But the diversification strategy has also led union officials to raise concerns about whether the state could pursue a similar goal without using the outside managers — and paying them what can be lucrative fees. For example, the outside investment managers were paid $377.5 million in management fees during the 2016 fiscal year, and another $242 million in performance allocations, according to the FY2016 annual report.

Concerns have also been raised about whether the state can afford to pay those fees as the official unfunded liability for the pension system has swelled to near $50 billion, thanks largely to years of the state underfunding its pension liability, a practice that’s been continued by Gov. Chris Christie during his two terms in office. New Jersey’s pension system was also recently ranked as the worst-funded state retirement plan in the United States in an analysis by Bloomberg, falling below both those of Kentucky and Illinois.

Investments in hedge funds scaled back

Amid those concerns and the recent criticism of the alternative-investment fees, members of the State Investment Council voted last year to scale back New Jersey’s hedge-fund stakes from 12.5 percent of total investments to 6 percent, a change that is projected to save an estimated $127 million annually.

But that policy is still in the process of being implemented, and state pension officials have also repeatedly defended the alternative investments. Earlier this year, they highlighted data that indicated returns for the alternative investments have slightly outpaced overall pension-system returns over the last six years.

Enacting a requirement that the alternative-investment fees will be disclosed as a matter of law going forward will help policymakers see “if we are getting the best bang for the buck by utilizing alternative-investment vehicles,” said Singleton, who chairs the State and Local Government Committee.

“The investment-fee issue has been one that regularly comes up during our budget discussions,” said Singleton, who is also a member of the Assembly Budget Committee.

Testing stress, managing risk

The bill would mandate reports on the fees be distributed to the boards of trustees that manage the individual pension funds, including the Teachers’ Pension and Annuity Fund, the Judicial Retirement System, the Public Employees’ Retirement System, the Police and Firemen’s Retirement System, and the State Police Retirement System. The reports would also be required to be posted on the website of the state Division of Pension and Benefits.

The stress-testing piece of the bill is intended to make it a matter of law that thorough risk-management evaluations are done on a regular basis to see how investment strategies would perform during really good or bad investment years. The results of the stress tests for each individual retirement fund would also be required to be posted on the Division of Pension and Benefits website.

Singleton said the measure is modeled on recommendations put forward by Virginia’s Commission on Employee Retirement and Security and Pension Reform. Pension managers in California and Washington also perform such routine analyses, he said.

“The purpose behind this proposal is to codify the practice of utilizing stress-test principles in the evaluation of investment strategy and how different scenarios affect the vitality of the pension fund,” Singleton said.

A spokesman for the state Department of Treasury declined comment on the bill yesterday, citing the agency’s general policy of not weighing in on pending legislation.

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