The Wolves at the Gate.

Yesterday in Detroit a federal judge drove a stake through the heart of public pension funds in the United States. If this decision is upheld on appeal, every public pension fund will have to reevaluate its funding and investment assumptions. From now on any shortage could easily fall on the backs of the public employees and retirees.

It is ironic that in the mid 1970's when New York City came close to bankruptcy, it was the city's pension funds that bailed out the city.

Previously public employees and retirees reasonably felt that state constitutional provisions protected their pensions. That is no longer true.

Public employees and retirees must become totally aggressive so far as protecting their pensions. There is no legal protection for their pensions. Bankruptcy will trump any legal protection you thought was there.

With this decision it is not clear what type of protection the individual pension trust may have. However, even if the trust is outside the reach of the bankruptcy court, the public employer will be able to walk away from any contractual obligation it has to the employees and retirees. The particular state constitution is null and void in federal bankruptcy court. Unlike bond holders who knew that there was a bankruptcy risk, employees and retirees were totally blindsided.

Ok, what needs to be done going forward. Employees and retirees need to force the public employers to properly fund the pension trust every year and the plan trustees to do a better job investing the assets of the fund. This is most acute for municipal pension funds. You don't see Michigan running into bankruptcy court.

What about here in New York City? Since 2000, New York City with the help of the NYCERS and TRS actuary has been underfunding the five city pension funds, not as bad as New Jersey or Illinois, but still not contributing enough. On top of the underfunding, which has a very natural motivation, the NYCERS trustees, and most likely the trustees at the other four pension funds, have made a mess of the investment performance over the last 14 years.

In the past employees and retirees were far too casual about these issues thinking that it was the city's problem if things went bad. No more. It is their problem, if things go bad. The city can now walk away.

The assets of the NYCERS pension fund belongs to the employees and the retirees, not the city. When it comes to money, you trust no one. I just posted a "to do" list for the new NYCERS chair. I need to add another item. Ask the actuary how does he propose to make up the shortfall that his interest rate assumptions have caused at NYCERS since 2000. Of course, the union representatives on the Board of Trustees should have been on top of this fiasco all along.

But just to get everyone focused on how these problems happen consider the following. From 1996 to 2009 Mike Musuraca sat for DC-37 at all the investment meetings of the NYCERS Board. From my experience as the NYCERS executive director, Musuraca was the most forceful trustee on investment issues. In mid 2008 the NYCERS Board voted to hire Blue Wolf as a private equity manager. On January 23, 2009, Musurarca left NYCERS to work for Blue Wolf. The members and retirees of NYCERS can not allow this type of shit to continue.

The New Chair of the NYCERS Board of Trustees

Mayor de Blasio will soon be appointing a new commissioner for the Department of Finance. The position, unfortunately, has a tradition of being filled with political operatives as opposed to public finance/taxation professionals.

The commissioner is, ex officio, a trustee of both the city police and fire pension funds.

The mayor will also be appointing his representative on both the NYCERS and TRS Boards of Trustees. The Mayor can appoint anyone to these two unpaid positions. On the NYCERS board the mayor's representative is the statutory chair. At TRS the chair is elected by the trustees.

Because of the mayor's enormous political and budgetary power, the mayor's representative is the most important member of the NYCERS Board of Trustees.

Prior to 1990, the power structure of the NYCERS Board of Trustees, to a large extent, mirrored the Board of Estimate which was the original governing body of NYCERS up until 1968. With the destruction of the Board of Estimate in 1990 the mayor's power within the city increased radically. That was alos true at NYCERS.

While the mayor's representative has only one vote, it is the most important vote. Even a dissenting vote from the chair on an investment decision is a warning signal to the other trustees.

Mayor Bloomberg's appointees to the NYCERS and the TRS Boards have been a disaster. The mayor has constantly complained about the rising costs of pensions during his three terms but his representatives have failed to control investment costs or institute a sound investment strategy that earns a market rate of return.

Mayor de Blasio's appointee will have the challenge of bringing the annual investment costs for the five pension funds down from the $472.5M (FY-2013) to a rational annual amount of $100M (FY-2002) along with pushing to adopt an index/core strategy which has the potential to earn on average an additional $1.5B a year in asset value for the five city pension funds.

With respect to NYCERS here are some operational recommendations that I hope the mayor's new representative considers:

1. Hire a totally independent investment consultant with no revenue connections to the investment management community.
2. Make all investment contracts public record and provide every trustee with a copy of each contract. It is most likely that the trustees have never seen any of these contracts.
3. Make the Board's investment meetings totally open for all items unless the Law Department gives written direction that a specific item must be dealt with in executive session.
4. Put in place a tight accounting control of the invoice/payment process for all investment expenses and publicly report all payments to the trustees at each meeting and once a year provide the trustees with a copy of the final annual reconciliation of investment expenses for the year.
5. Utilize the NYCERS web site to provide public disclosure of investment data and decisions. The Comptroller's attempt in this area has failed to deliver on the information it promised to provide.
6. Make available to the trustees the full cash flow history of each private equity, real estate, and hedge fund contract on a real time basis. (NYCERS web site)
7. Explore the feasbilty of dropping of all asset classes that do not fit within a index/core strategy.
8. Set 10 basis points as the general limit on fees for all investment contracts. I suspect that this will be a very effective screen for unproductive investments.
9. Almost certainly drop all emerging manager contracts unless their fees are brought under the 10 basis point limit.
10. Review the quality of NYCERS's senior administrative management. This staff was put in place while Martha Stark was chair.
11. On an annual basis provide the trustees with a copy of a complete reconciliation of administrative expenses, This report was dropped in FY-2010. (NYCERS web site)
12. Radically upgrade the agency's monthly production report to include open and closing transaction balances along with incoming work, work completed during the month, and aging information on the outstanding work. (NYCERS web site)

The FY-2013 Pension Investment Fee Increases Hit the Newspapers

In early November, I wrote about the large increase in investment fees in FY-2013 for the five city pension funds

At the end of last week Bloomberg News and the NY Post caught up with this story.

The following is an extract from the NY Post article

“Fees rose in FY 2013 consistent with the recent expansion into alternative asset classes that diversify the portfolio against events like the stock-market collapse in 2008,” said Liu spokesman Matthew Sweeney.
...
Over the fiscal year, the value of the city’s pension funds rose by 12.1 percent, from $122 billion to $137 million as of June 2013.
...
Liu’s successor, Scott Stringer, said he plans to take a “hard look” at how much the outside pension managers are getting paid.
“He believes we need to limit costs, ensure payments are commensurate with performance and leverage our size and relationships with other pension funds to negotiate lower fees,” said a Stringer spokesman.

The excuse given by the Comptroller's office for the FY-2013 increase is not supported by the numbers. With respect to NYCERS, the largest fund, the numbers are as follows:

• 2011: alternate assets equaled $4.5B with total expenses of $145M
• 2012: alternate assets equaled $6.3B with total expenses of $129M
• 2013: alternate assets equaled $7.2B with total expenses of $183M

There appears to be no correlation to the size of the alternative assets classes and the the total investment expenses. In addition, there is always a good amount of skepticism about the quoted values of the alternative asset classes. There is no no market value for them and NYCERS must depend upon "estimates" from the asset managers.

In addition, the comptroller's office gives no objective evidence to support the theory that illiquid alternative asset classes diversify and therefore protect the pension fund portfolio against a stock market collapse. In fact there is a concerted effort by the Comptroller's office to hide the details of these investments.

Secondly, the quoted value of the city's pension funds is incorrect. In FY-2013 the value rose from $111.3B to $124.8B. That was a an increase of 10.5% factoring in a positive cash flow of $1.8B. The 12.1% increase was not correct. Interestingly, the stock index/core bond return was 12.26% for 2013 and would have cost far less than $473M in fees.

Thirdly, Scott Stringer has been on the NYCERS Board of Trustees since 2006. The NYCERS investment fees in 2006 were $69M versus $183M last year. Why has he not taken action against this runaway growth over the last eight years? Why hasn't mayor-elect Bill de Blasio taken action over the last four years? As Public Advoctae he has been a trustee on the NYCERS board since 2010.

To be fair, de Blasio and Stringer were not the key players in the investment decisions at NYCERS. That falls to the Comptroller and the major unions on the board with the mayor's representative acquiescing to their decisions.

Reality Comes to NYCERS -- Funding Status 2007 - 2013

Below is the NYCERS funded ratio for the last seven years. It charts out a serious problem for NYCERS and in turn for the members, retirees, and the taxpayers of New York City.

This problem is in large part due to the failure of the NYCERS trustees to properly invest the assets of the fund over the last 14 years. See NYCERS income statement history .

Over the last 14 years NYCERS has earned an annual rate of return of 4.31%. From my calculations the index/core strategy would have enabled NYCES to achieve a 5.55% return over the same period. Both of which are significantly short of the 8%/7% actuarial interest rate (AIR) that NYCERS has been using for the last 14 years.

This is a classic "Catch 22" situation. The 8%/7% allowed the city to contribute less to NYCERS in the short term but motivated the NYCERS trustees to adopt an irresponsible investment strategy which allegedly would achieve the 8%/7% target. The end result was under-funding, underperformance, and ironically causing the city to pay more to NYCERS over the long run.

I do not have any concrete evidence of corruption but at some point incompetence rises to the level of criminal.

As of FY-2000, NYCERS had 71% of its assets in a index/core strategy. In 2013, NYCERS had only 24% in a index/core strategy and another 16% in illiquid assets which create uncertainty about the real value of the assets.

Fiscal Year	Actuarial Assetts	Accrued Liability	Unfunded Liability	Funded Ratio	Covered Pyrl	Unfunded as % of Pyrl
2013	$42.41B	$65.27B	$22.86B	65.0%	$12.23B	186.9%
2012	$40.33B	$62.94B	$22.50B	64.2%	$12.10B	185.9%
2011	$41.71B	$53.05B	$11.34B	78.6%	$11.88B	95.5%
2010	$40.72B	$51.11B	$10.39B	79.7%	$11.31B	91.9%
2009	$38.93B	$49.25B	$10.33B	79.0%	$10.76B	96.0%
2008	$38.37B	$46.60B	$8.23B	82.3%	$10.13B	81.3%
2007	$39.69B	$39.80B	$0.10B	99.7%	$9.67B	1.1%
....	....	....	....	....	....	....
2000	$42.39B	$42.42B	$0.03B	99.9%	$7.87B	0.3%

As of July 1, 2011 NYCERS changed actuarial valuation methods going from "frozen initial liability" to "entry age". In simple English, NYCERS started using a real actuarial method as opposed to a delusional one. And I mean "deluuusional" in the way Lewis Black uses it in his comedy routines. NYCERS also switched actuarial interest rates from 8% gross of expenses to 7% net of expenses.

You can clearly see how the NYCERS pension liabilities jumped from $53.1B to $62.9B in 2012 because of the switch from 8% to 7%. You can just imagine what the accrued pension liabilities would be if the actuary used the real rate of return of 4.31%. A straight linear projection would produce an added $27.0B. That is the cost of bad investment decisions.

In 2008, the NYCERS actuary started providing the "entry age" numbers as supplementary information in the CAFR in order to supply the public with better disclosure on NYCERS funding status. That is why my chart changes dramatically from 2007 to 2008. Page 127 in the FY-2013 NYC CAFR shows the the change occurring in 2012 instead of 2008. Everyone tries to delay bad news.

Any funded ratio below 80% is a sign of trouble. The other four city pension funds, unfortunately, have much lower funded ratios than NYCERS.

Hot Line for State Pension Fund Audit

In July the NYS Department of Financial Serives (DFS) announced an audit of the seven public pension funds in New York State.

Here's a news article dated yesterday announcing that the DFS has set up a hot line for whistle blowers to report wrong doing at any of the public pension funds in New York State. You can also check the DFS web site for the phone number .

I guess the the DFS auditors have found a need to go around the the management structures at the state and city pension funds to get a more unfiltered view of events at the pension funds.

Or maybe they read my posting about investment consultants.

FY-2013 Investment Returns: NYCERS Fails to Match the S&P 500 Index, Again.

The Comptroller has just released the NYC FY-2013 CAFR (Comprehensive Annual Financial Report) : the city's annual financial statement. Pension investment expenses have increased significantly from FY-2012, $472.5M up from $370.3M. This is a reversal from the previous two years.

Specifically, NYCERS expenses jumped from $129.5M to $183.3M (see original expense history).

As of June 30, 2013, the NYCERS closing balance increased from $42.7B to $47.2B but given the 17.9% increase in the S&P 500 index that number should have been $48.6B (Bond Core = -.95% with a 70/30 allocation). With a waste of $150M in investment expenses NYCERS is short $1.55B for FY-2103 that a prudent investment policy would have provided. For the record NYCERS missed the Index/Core threshold by $2.6B in FY-2012.

The truly scary thought is that if NYCERS had followed a simple prudent investment strategy over the last last 14 years, the June 30, 2013 closing balance would be $58B. In this year's CAFR the actuary estimated the NYCERS current pension liability at $65.3B. A sane investment policy can go a long way in solving pension problems.

Dr. Barry Liebowitz's Retirement

I just cane across this notice below of Dr. Barry Liebowitz's upcoming retirement.

October 28, 2013
By Neal Tepel
New York, NY, - Dr. Barry Liebowitz announced that he will step down as President of Doctors Council SEIU on December 31, 2013, the nation's oldest and largest union of attending physicians and dentists. His notable leadership of Doctors Council has spanned 33 years, one of the longest tenures of a union President in New York City, during which he helped grow the organization from a few hundred members in New York City to a national union for doctors and voice for patients.

I want to take this moment to let every NYC municipal worker know what an enormous impact this labor leader/doctor had on their pension benefits. For over seven years (1981-1988) Dr. Liebowitz and the late Don Meyers fought the city in the NYS courts to stop the illegal exclusion of part-time workers from membership in NYCERS and their lawful pension rights.

After losing battles in the trial and the appellate courts Dr. Liebowitz finally won the war at the N.Y.S. Court of Appeals (Doctors' Council v. NYCERS, 71 N.Y. 2d 889 (1988)) with an unanimous reversal of the lower courts' decisions. I can not overstate how powerful this decision, along with subsequent 1992 Part-Time Pension Law (Chapter 749), was not only to the benefits of part-time workers but for all city workers.

It put the City of New York, the Law Department, and NYCERS on notice that it could not restrict pension benefits unless the state legislature gave them specific authority to curtail those rights granted by the legislature.

This was a case of a union defending its members, something that we don't see a lot these days. Not bad for a doctor!