CalPERS' Inept Investment Strategy

CalPERS has done a terrible job the last two years managing the retirement savings of 1.6 million members and retirees. In 2008-2009, the nation’s largest pension fund lost $56 billion (24.4%) of its principal, its worse one-year loss ever. K-12 teachers have a separate fund (CalSTRS) which has done equally badly.

As with any other retirement fund, the earnings from investments are supposed to pay for retirement benefits, in this case a defined benefit plan for most state, municipal and California State University employees. Bad investments means higher taxpayer (or employee) contributions for retirement plans or (less likely) lower benefits.

While the fund may be avoiding repeating stupid mistakes in high-risk undeveloped land (like its $970 million loss on Newhall Ranch, near Magic Mountain in north LA County), apparently it thinks the way to fix this is to increase its mix of risky alternative investments. As the NYT reported:

Those problems now rest largely on the slim shoulders of Joseph A. Dear, the fund’s new head of investments. He is not an investment seer by training, but he thinks he has the cure for what ails Calpers, or the California Public Employees’ Retirement System, the largest in the nation with $180 billion in assets.

Mr. Dear wants to embrace some potentially high-risk investments in hopes of higher returns. He aims to pour billions more into beaten-down private equity and hedge funds. Junk bonds and California real estate also ride high on his list. And then there are timber, commodities and infrastructure.

That’s right, he wants to load up on many of the very assets that have been responsible for the fund’s recent plunge..

If that criticism is too subtle, how about Joe Wiesenthal of Silicon Alley Insider:

This is not a new phenomenon. Defined-benefit pension funds, wracked with losses after 2008, know that they only way they'll have enough money to pay out retirees is if they make some big, risky bets that hit.

And so it is with the grand dame, California's CALPERS, which lost $60 billion this past year.
…
Wow, a guy with little investment training thinks the cure is hedge funds, private equity, California real estate and timber..

His colleague Moe Tkacik is not so kind:

It is not hard to see why public pension funds like CALPERS -- and CALPERS has traditionally been one of the worst offenders -- are fertile ground for kickbacks and corruption: they put incomprehensibly vast sums under the management of political appointees who earn a yearly salary that would barely cover the dermatologist bills of the Wall Street advisers they have to talk to all day.

In the past, strict investment guidelines limited the potential for graft in this business, but at some point in the nineties "alternative" investments came into vogue, benchmarks and regulations and disclosure gave way, and by the turn of the millennium millions of teachers, firefighters, bus drivers and cops had earned the dubious achievement of playing the "greatest fool" in every major American asset bubble..

I like to tell job applicants for SJSU faculty positions: “we have high teaching loads and high cost of living, but we make up for it with a low salary.” (I really do say that — it’s better to diffuse the issue up front and scare off those who are trying to find top dollar.)

The two bright spots of the compensation package were the defined benefit pension and retirement medical. Clearly I should have treated that as a political promise, rather than a contractual commitment.

To this we add an even lower salary — involuntary furloughs (a 9.5% pay cut without workload reduction) — in parallel to our our University of California brethren. While both the CSU and UC have management problems, in this case the proximate cause is a 20% funding cut from the politicians who are mismanaging our banana republic.

Comments

[Roger Knights]

Mañana republic.

2009 Jul 26 05:51 AM

[john s. gordon]

is it a banana republic or a casino republic?
> jack

2009 Jul 26 09:47 AM

[Jack Walker]

Joel,

With respect to the loss on the Newhall Land, was this investment written down to reflect current market values and they still retain it, or was it sold with no chance for future recovery? There is a difference.

Even in a low interest rate environment, there must be alternatives to private equity and hedge funds that are more prudent for a long-term pension fund. Whatever happened to the “Suitability” standard?

Jack

2009 Jul 27 02:40 PM