By the Numbers – Private Equity at NYCERS – 2011 to 2015

Since 2011 NYCERS has dropped the following number of private equity contracts:

• 2010 – 3
• 2011 – 4
• 2012 – 7
• 2013 – 0
• 2014 – 8

It is not clear how many of these contracts were standard exits and how many were sold at a loss. NYCERS has provided no cash flow history for these dropped contracts except one. That was Allegra in 2012. That is because I requested the information. You can read about the Allegra disaster in one of my previous postings.

It is reasonable to assume that most of these dropped contracts were equally bad.

Everyone knows that the private equity industry is feeding off of the US public pension fund structure. It is a malignant cancer but no one wants to publicly admit it because that admission would make the public pension funds look like fools and would put most private equity firms out of business.

Now, for the bad news. NYCERS has continued to enter into new private equity contracts since 2010 as you can see from the numbers below:

• 2010 – 8
• 2011 – 5
• 2012 – 7
• 2013 – 7
• 2014 – 14
• 2015 – 3 (as of Sept. 30, 2014)

You would have thought that NYCERS would be quietly trying to get out from under these flawed investment deals but no. There is no end to this stupidity.

NYCERS’s private equity fees for FY-2014 were $44.1M for 142 contracts allegedly worth $4.0B. Don’t bet the ranch on that figure. There is an added charge for private equity organizational costs of $13.9M (page 120). No one knows who this money was paid to except that it has a private equity label.

The sum of the two costs is $58.0M. That is 145 basis points or a 1.45% annual charge. Another serious problem is that NYCERS is not reporting 33 of the 142 contracts in its fee schedule on page 135. Enough said.

How Asset Allocation Can Have a Huge Impact on Returns

I recently posted a chart detailing the investment performance at NYCERS over the last 14 years. I contrasted NYCER's actual returns with the market returns for a simple index(stocks)/core(bonds) portfolio. In both cases the asset allocation was an "aggressive" 70% for stocks and a 30% for bonds.

The comparision showed a large shortfall between actual and market strategies. NYCERS actual asset value as of 6/30/2013 was $47.2B. The market value was $58.2B.

Since then I have done some further analysis using different asset allocations. The results were truly startling. Higher stock allocations are assumed to be riskier but offer higher potential returns. Stated another way an 50%(stock)/50%(bond) allocation should have produced lower returns but less volatility. The numbers tell another story all together.

In a snap shot, the list below shows the 6/30/2013 closing balances for the market index/core strategy over the last 14 years using different asset allocations:

• 80%/20% : $53.2B
• 70%/30% : $58.2B
• 60%/40% : $62.9B
• 50%/50% : $67.6B
• 40%/60% : $72.3B
• 30%/70% : $76.9B
• 20%/80% : $81.5B

This experience is definitely tied into the last 14 years. Experts might question whether my simulations are refined enough. It is, however, clear to me that traditional thinking about calculating the efficient frontier curve is seriously flawed.

Over time NYCERS has scaled up its stock allocation. In 1985 it was at 30%. By 1990 it was at 50%. By 1995, NYCERS had shifted up to a 70%/30% position trying to catch the updraft of 1990's stock market. Since then NYCERS has never changed from this general allocation.

Not only have the trustees made very bad specific investment decisions over the last 14 years, they seriously misjudged the overall market.

No trustee could have been expected to push for 30%/70% asset allocation in 2002 but a 50%/50% position was well within the accepted range of prudent behavior. It would also have been much more successful. I light of the national pension crisis, we need to be more focused on the part that pension trustees have directly played in that crisis.

Blaming the benefit structure alone will miss the full extent of the disease. There are some who want the patient to die but we, as a society and a successful economy, will be far worse off without a healthy pension system in the United States.

This is a more detailed chart of NYCERS's actual June 30 closing balances and the simulated closing balances for the 70%/30% vs 50%/50% allocations over the last 14 years.

NYCERS - Actual Returns and Index/Core Returns (70%/30% vs. 50%/50%) from 2000 to 2013

Fiscal Year	Actual Close Balance	Actual Rate of Return	Index/Core Return (70%/30%)	Index/Core Return (50%/50%)	Index/Core Close Balance (70%/30%)	Index/Core Close Balance (50%/50%)
1999	$41.9B	%	%	%	$	$
2000	$42.8B	3.14%	5.52%	5.22%	$43.8B	$43.7B
2001	$38.1B	-11.86%	-7.58%	-2.09%	$40.0B	$42.2B
2002	$32.8B	-11.44%	-10.82%	-5.25%	$34.8B	$39.1B
2003	$31.5B	0.62%	2.36%	4.96%	$34.0B	$39.4B
2004	$34.2B	12.71%	12.08%	8.75%	$36.8B	$41.6B
2005	$35.5B	6.30%	5.56%	6.31%	$38.1B	$43.4B
2006	$37.3B	7.10%	4.23%	2.63%	$39.0B	$43.8B
2007	$42.5B	13.03%	14.75%	12.34%	$45.2B	$49.7B
2008	$39.7B	-7.32%	-8.10%	-3.59%	$41.9B	$48.3B
2009	$31.9B	-20.46%	-17.50%	-10.39%	$35.0B	$43.7B
2010	$35.4B	10.68%	11.63%	11.30%	$39.3B	$48.9B
2011	$42,4B	19.39%	20.94%	16.14%	$47.8B	$57.0B
2012	$42.7B	-1.14%	5.01%	6.25%	$51.0B	$61.4B
2013	$47.2B	8.81%	12.26%	8.49%	$58.2B	$67.6B

Tier 6 - Overkill and Stupid

Tier 6 is "pension reform" run wild. We will look back with nostalgia for the time when David Paterson was governor. He was able to get Tier 5 enacted without burning the house down.

Always remember that the current pension crisis in New York has been caused by three things listed in order of impact:

1. Horrible investment returns
2. Deliberate underfunding
3. Mid-career benefit enhancements

The proposed Tier 6 bill makes no attempt to fix the first two problems. Correcting investment failures and runaway investment costs would provide significant immediate cost savings. Funding reform would strengthen the pension funds long term health and remove the the temptation to cheat on annual employer contributions. While there is a need to reform the benefit structure, overkill will invite future attempts to make changes.

There are many bad ideas in the proposed Tier 6.

For example, the new defined contribution plan will provide a nice fat benefit to high paid political appointees. Without a disability benefit it will do nothing for long term employees.

Taking away the loan provision from sanitation and correction workers is strictly punitive. As of today NYPD and FDNY do not have a loan benefit for new members under Tier 3. This exclusion not only has no cost benefit. It actually takes away a valuable investment option from the pension funds. Member loans pay the pension funds a guaranteed 7% annual rate of return on 100% cash backed loan with no investment fees.

Some genius thought that the little provision below would prevent any future changes to this new benefit structure.

§ 81. No enhancement, increase or other alteration or change in the benefit structure provided herein shall be authorized.

The inherent stupidity of this attempt to prevent the world from changing is breath taking. I wonder who actually wrote this proposed legislation. There was obviously a lot of work done in putting it together. But there is a certain meanness in these changes that will eventually lead to its own undoing.

But the following Tier 6 idea is a really pernicious scheme. I've listed one of the occurrences of the the bill text below. This text applies specifically to NYCERS but the pattern is repeated for the other city pension systems. There are comparable texts for the state which are a bit more rational but still have a sting.

Here is the idea behind this scheme. Each year, the city's Director of OMB will determine what the city should pay for the pensions of new employees. If the NYCERS actuary sends the city a bill that is higher, then the new employees will have to pay half of the extra money. If the bill is less than the director's number, then the new employees will get a discount on their contributions.

By the way, the contribution rates for new employees will be either 4%, 5% or 6% depending how much they make each year with time&half overtime excluded but straight time included.

I can not begin to describe the kind of political mischief this will lead to.

The real danger is poor investment returns which cause the city's cost to be higher than the magical OMB number. For every dollar increase that the pension trustees cause by their decisions, fifty cents will come out of the pockets of the new employees. Of course, taxpayers shouldn't have to pay for incompetent trustees either. But I can see these new employees wanting to know what investment manager is contributing to which trustee when the employees are paying half the cost.

c. In years in which the employer contribution rate applicable to members of the New York city employees' retirement system who first became members of such system on or after April 1, 2012 exceeds a rate to be determined by the budget director for the city of New York, with the approval of the New York state director of the budget, such members shall be required to make additional employee contributions of annual wages in addition to those made pursuant to other sections of this chapter in accordance with the following formula: the difference of the employer contribution rate and a rate to be determined by the budget director for the city of New York, with the approval of the New York state director of the budget divided by two. In years in which additional employee contributions are made pursuant to this subdivision, the employer contribution rate to be paid by the city of New York shall be reduced by the value of such additional employee contributions.

d. In years in which the employer contribution rate applicable to members of the New York city employees' retirement system who first became members of such system on or after April first, two thousand twelve is below a rate to be determined by the budget director for the city of New York, with the approval of the New York state director of the budget, the employee contributions made pursuant to other sections of this chapter shall be reduced in accordance with the following formula: the difference of a rate to be determined by the budget director for the city of New York, with the approval of the New York state director of the budget and the employer contribution rate divided by two. In years in which employee contributions are reduced pursuant to this subdivision, the employer contribution rate to be paid by employers shall increase by the value of the employee contributions reduced pursuant to this subdivision.

Endless Dance on 8%

Based on recent newspaper articles it appears that the NYCERS actuary, Bob North, has finally decided on a new five year interest rate assumption of 7% down from the current 8%.

Ever since the summer of 2002 North has known that the 8% interest rate assumption was too high. The only question was how far off the mark was it and what was the correction going to cost.

The current mayor came into office in 2002 with a budget crisis caused by the dot.com bubble and the 9/11 attack. The last thing he want to do was start paying higher pension bills. In fact he didn't even want to pay the 8% costs. He was able to get Albany to give him a three year discount on the full 8% pension costs. So from FY-2003 to FY-2005 the city underfunded the five pension funds.

In the spring of 2004 when NYCERS needed to adopt a new five year interest rate assumption, North recommended keeping the interest at 8% in spite of serious investment losses. Since 2009 when that five year period ended, North, for three years running, has put off making his recommendation on a new five year interest rate assumption.

It now seems he is ready to propose a change from 8% to 7% along with a creative scheme to lessen the cost impact of the change. Unfortunately, even 7% is overly aggressive especially with the Federal Reserve lending the banks money at an almost zero rate. Over the last eleven years the city pension funds have earned an annual rate of return of only 5.1% even with the great closing market figures of June 30, 2011. Of course, this also assumes you believe the fairy tale values that the pension funds report for their private equity and real estate holdings.

Four Problems, Not One

There are basically four pension worlds in NYC. They are the teachers fund, the police fund, the fire fund, and everyone else. "Everyone else" includes correction officers (8,900) and sanitation workers (7,500).

This year, FY-2012, the city (not including the other employers) is ponying up $2.66B for the teachers fund , $2.20B for the police fund , $0.96B for the fire fund, and $1.58B for everyone else. There are significantly different cost structures in each of these funds. It is not constructive to talk about them as if they were one system.

It also doesn't help to throw health insurance costs into the mix. That is a totally different issue with different problems and solutions. For instance, the city could choose to self insure but that would make EmblemHealth extremely unhappy.

Each pension fund has its own particular problems. Police and fire members retire at an early age. Fire fighters have a huge accident disability issue. Since 2009, new police officers and new fire fighters are trapped in the old 1976 Tier 3 benefit with significantly lower benefits than pre-2009 members. Teachers are paid significantly higher salaries than the average city worker and their union has enormous political power. As an example in the spring of 2008 the mayor agreed to give the teachers an improved pension plan with an age 55 & 25 year service requirement. The teachers in the fall of 2009, however, agreed to lower Tier 5 pension benefits for new teachers (Chapter 504/Laws of 2009).

The average city worker ("Everone else") catches a lot of heat over their pensions. But $1.56B for 112,000 workers is a lot cheaper than $2.2B for 35,000 police officers. In light of the Tier 5 structure now in place for new state workers Albany will have to extend that structure to new general city workers.

The primary source, however, of the current pension shortfall for all city pension funds is the miserable investment returns nationwide over the last eleven years. In addition the trustees of the city pension funds have made the situation worse by their overly aggressive investment decisions and their tolerance of run away investment fees.

Last year the trustees are on record as having paid out $395M in fees. Assuming that figure is correct, this significantly increases annual pension costs. The city and the other participating employers must pay back that $395M to the pension funds in FY-2013 along with 8% per year interest (maybe 7%) for the two year lag.

While benefit reform will take years to save money, investment reform will show significant savings immediately. It is obvious that even a 6.1% rate of return over the last eleven years would have saved the pension funds $11B and if the fees were kept at $100M a year, the assets would be an additional $1.2B higher.

"Zombie" Private Equity Funds

I just came across the following "Pensions & Investments" article from its January 9, 2012 issue concerning failing private equity deals that refuse to die. They just keep on collecting their fees.

The article actually mentions the NYC pension pension funds as having to deal with this problem.

I wonder how many zombies the NYCERS trustees are dealing with in their secret executive board meetings? Well, at least one zombie died.

As of June 30, 2011 NYCERS had entered into 140 private equity contracts with 100 managers. In its FY-2011 CAFR, NYCERS failed to report the annual fees for 27 of those contracts. The total fees for the private equity contracts was reported at $41.94M. That amount is overstated because six non private equity managers were included in the list of private equity managers. The amount to be subtracted is $7.72M.

Of course, in addition there is the $26.60M charge for private equity that NYCERS is unable to identify who are the parties receiving the payments. It's like your wife telling you that she spent $29M shopping but she can't remember what she bought.

This whole program is an accounting shambles. Private equity firms generally want to hide everything they are doing. Public pension plans are required to be transparent to prevent fraud. Guess who wins out?

We are all going to learn a great deal about private equity firms because of Mitt Rommney and Bain. Pay attention. Even when they make money, they are very often putting workers out on the street.

Not Ready for Prime Time - Proposal for Central Investment Board for City Pension Funds

The Proposal

On October 27, 2011 the mayor and the comptroller issued a joint press release. The release announced an agreement in principal to reform investment governance and management of the five city pension funds. Any joint policy initiative by two political rivals is usually a significant event. Six union trustees joined in the announcement.

In the past I have commented on the lunacy and high risk investment decisions which specifically the NYCERS trustees have engaged in since 2000. NYCERS is the largest of the five city pension funds. The NYCERS trustees are established by statute and include the mayor’s representative and the comptroller, the public advocate, the five borough presidents, and three major city unions. There are definitely changes that the pension funds need to make. This proposal, however, misses the mark completely. The tools are already there but no one wants to use them.

As a rationale, the mayor's press release stated:

The proposal is intended to insulate management of pension assets from any political office, further professionalize it and make it more consistent with industry best practices. The proposal aims to increase investment returns, lower the City’s pension costs, protect and strengthen pensions for current and future retirees, enhance accountability and guard against the possibility of fraud and corruption.

Current Investment Authority

The mayor seems to be unaware that the city pension trustees already have the authority and resources to depoliticize the investment process, professionalize the investment staff, and implement "best practices". For the last ten years the mayor has not used that authority. It is significant that he chose Martha Stark be his representative at the pension boards for his first seven years in office.

The five city pension systems currently delegate, on a annual basis, their investment authority to the comptroller (Section 13-702 of the NYC Admin Code). This creates a centralized investment system managed by the comptroller. The comptroller usually hires a CIO who reports to him. The comptroller also has a permanent investment staff within his Bureau of Asset Management (BAM). The five pension systems subsidize the comptroller's operating budget to cover the costs of running these investment operations.

Section 13-702 also permits the trustees of any of the city pension funds to rescind their delegation of the comptroller at anytime. If the trustees are unhappy with interference of political forces in the investment process or the lack of investment performance, they can assume direct responsibility of their own investment process. They can hire necessary support staff. In addition, each of the five city pension already has its own outside investment consultant which the trustees have hired. These consultants could easily provide the expertise needed by the trustees to operate their own investment function.

Loss of Power for the Comptroller

The proposed investment board would clearly accomplish one thing. It will reduce the status of the comptroller in the investment process and impact his ability to raise campaign contributions. From a purely political point of view, political actors never willingly surrender power. There is a funny smell in the air here. It may not be a coincidence that federal authorities are investigating the comptroller's campaign fund raising activities.

Performance

With regards to investment performance no one with any certainty can say that the new investment board will be able to improve performance by 1% or more over the current arrangement. It is just as likely that the new board would produce a 1% drop in performance. This is the standard type of delusional comments you find in marketing propaganda.

Structure of New Board

Who will sit on the new board? It will be particularly difficult determining who will be members of the new board and what the voting structure will be. I can not imagine any trustee not wanting to be on the investment board. So much for a more simple and effective board. It is clear that the Public Advocate and the five borough presidents will want to remain involved. I am sure that the same will be true for all unions currently involved.

There will also be pressure from unions currently not on the boards. I know for a fact the Correction Force and Sanitation Force unions would love to have a seat at the table.

As seen in subsequent news articles, the mayor failed to check with at least seven of the NYCERS trustees, a majority of the NYCERS board. These trustees have made it clear that they have serious questions about the proposal.

Each of the five city pension funds has a distinct financial profile which impacts investment decisions . For example, as of June 30, 2010, the FDNY pension fund was 56% funded and NYCERS was 80% funded, a significant difference. They have different cash flow demands. The funds will continue to be separate accounting entities and trusts. The trustees of each fund are the prime legal fiduciaries of the funds. It will not be possible to remove their responsibility for the investment process of their associated fund assets.

The NYCERS fund, specifically, has other significant participating employers besides the city. In the past OTB was a major participant. There are some really complex issues embedded in these pension systems.

There is no mention in the proposal how this new investment board will be funded. There was no mention of the current civil service of the the existing staff at BAM. Who would approve the investment board's annual operating budget and the fees paid to outside managers? Assets of any of the pension funds can only be disbursed upon the public approval of the associated board of trustees.

Staff for the New Board

There is always a presumption that the compensation for investment staff should be free of government compensation limits. This opinion is tied into what type of investing you want to do. I have expressed my opinion that public pension funds should follow a lower risk/lower cost strategy. This strategy would allow the pension board effectively manage their assets with staff paid within the city pay structure. The 2008 financial crisis taught us all how irresponsible and incompetent highly paid investment professionals can be.

The mayor wants the pension funds to emulate Harvard and Yale. Pension funds are very different from endowment funds in that pension funds must make mandatory annual payouts no matter what the pension fund earns on it investments. Without mandatory payouts, endowments can tolerate higher risk profiles than pension funds. This is where higher compensation might become an issue. But then again, higher risk is not a guarantee of higher return.

The Chief Investment Officer

The proposal envisions a permanent CIO described below:

A Chief Investment Officer will lead the new investment management entity. The Chief Investment Officer will report to the new pension investment board – not to any individual elected official – and will be appointed to a fixed term that will not coincide with citywide election cycles

It will be no easier for the investment board to hire a new CIO than it is for the comptroller . The CIO will clearly be an at-will employee. There will definitely be a certain level of politics associated with the investment board. An truly independent CIO is not logical when the trustees are the fiduciaries of the five pension funds.

The Comptroller's Duties as Custodian and Disbursement Agent

By statute the comptroller is the custodian and the cash disbursement agent for the five pension funds. While the custodian function has been contracted out for many years, the disbursement function means that the comptroller is responsible for the cash management operations for the five pension funds. This separation of control is a very sound arrangement. It is a good accounting practice and guards against fraud. It should not be changed. It should, however, be reinforced. The accounting control of investment management fees is a disaster.

Recap

The more I think about this proposal, the more I am convinced that it is a public relations effort with no connection to reality.

Does Private Equity Make Sense for NYCERS? No.

Recently the Comptroller as part of his effort to increase transparency has started posting the full agendas of investment meetings held by the NYCERS Board of Trustees. NYCERS has ten of these meetings every year in addition to the ten regular meeting where administrative and disability issues are handled.

Prior to these postings NYCERS had refused my FOIL requests for these full agendas. NYCERS reason for the denial was that some of the material was discussed in executive session. Of course that is not a valid reason for denial but I didn’t have the financial resources to file a court challenge. It will be interesting to see if the Comptroller continues to make these items and future items available on his web site

What I was looking for in particular in the full agendas were the reports on private equity and real estate performance produce by the two consulting firms monitoring the partnerships.

The reports have some interesting data which allowed me to approximate the actually performance of the partnerships. The data includes the total cash-in, the total cash-out, an estimate of the “market” value of NYCERS portion of the partnership, and an estimate of the internal rate of return (IRR) for each partnership. I used quotes around the word market because there is no open market for the buying and selling of limited partnerships.

To perform an exact internal rate of return (IRR) for these partnerships you would require a full date specific history of each cash transaction between NYCERS and the partnership including all fees and the partnership would have to be dissolved with a final closing cash-out to NYCERS. I know that NYCERS is not currently maintaining the transaction data and therefore is not able to confirm the IRR of any of its partnerships. I don’t know what method the consultants are using to produce their IRR’s.

In order, however, to do some cross checking on the consultant’s estimated IRR’s I used the data from the report and the history of the estimated market values of the partnerships. This allowed me to estimate an IRR that I have more confidence in.

For example, NYCERS oldest private equity partnership, VS&A Communications Partners III, first shows up in FY-1999. As of March 31, 2011 it had a reported value of $14.56M. The consultants quoted an IRR of 6.2% for VS&A for the period from 12/15/1998 to 10/30/2010.

Not very impressive but, I suspect, overly optimistic.

The cash-in amount for the 13 years was $50.23M and the cash-out amount was $53.43M. Assuming a final cash-out payment on 6/30/2011 of $14.56M("value" as of 3/31/2011), my estimate of their IRR is a 4.3% annual rate of return.

In addition, NYCERS has paid $5.9M in fees to VS&A from FY-1999 trough FY-2011.

As a comparison, NYCERS government bond managers have an annual rate of return over the last 15 years of 7.13%. The fees in FY-2010 for NYCERS government bond portfolio with an asset value of $994.66M were $255,000. These assets are total liquid and have minimum risk.

VS&A is a typical private equity manager. With the explosion of the number of private equity partnerships in business to service the public pension arena, the rates of return will become locked into average market returns at best and more likely will average worse than the S&P 500 index but with obscenely higher fees. NYCERS has 140 private equity contracts, 4 of which have closed down without any public report by NYCERS.

I have professional opinions on what is happening here but I will let the numbers speak for themselves.

Let Sleeping Dogs Lie.

I just received my quarterly pension PR letter from Comptroller Liu. Liu couldn't resist the temptation to claim credit along with the trustees for the pension funds' good investment performance during FY-2011 (June 30, 2011).

Number one, this is like taking credit for the sunshine. The S&P 500 index went from 1030 (6/30/2010) to 1320 (6/30/2011) during FY-2011, a 28% increase.

Number two, this also means the trustees and the Comptroller are responsible for losses when they occur, like the $3.5B that NYCERS lost in the last 3 months.

The best we can hope for from the trustees is not to screw things up too much. They are the last people in the world that anyone would willing trust money to. Of course, Bloomberg has managed to raise his own personal net worth to $19.5B from $4.5B since coming to office.

Accounting Problems with Investment Fees at NYCERS

In May, 2010, in response to a FOIL request I received a copy of NYCERS internal accounting charts of investment expenses for FY-2008 and FY-2009.

This year NYCERS has chosen to deny my FOIL requests for the accounting charts for FY-2009, FY-2010, and FY-2011.

Each year, on December 31st, NYCERS files a Comprehensive Annual Financial Report (CAFR) for the previous fiscal year ending on June 30th. This report includes a detailed listing of all investment vendors under contract to NYCERS and the fees paid to the vendors. This reporting is on an accrual basis. In plain English, that means if you don’t have the billing data when you are closing the books, you make a best guess at the amount, enter that amount, and make offsetting entries in the next year report when the data comes in. You don’t leave the entry blank.

As I have mentioned in the past NYCERS does not control the payment process for the investment vendors. The Comptroller does. NYCERS is dependent on the Comptroller for the billing and payment data needed for the accounting function. It is very clear why you normally don’t run a business like this. You have no way of vouching for the correctness of your accounting statements.

In this defective arrangement, when NYCERS receives billing and payment notices from the Comptroller’s Office, it records that information in its internal spreadsheets. This should be the basis of what appears in the CAFR statement. That is not what is happening. While the CAFR amounts are incomplete, the internal charts at NYCERS are even more incomplete.

Here is what is happening at NYCERS.

NYCERS currently has 92 managers of registered securities, 141 private equity managers, and 39 real estate managers. On its face, having this many managers is a red flag of a system out of control.

The FY-2009 CAFR statement quoted investment expenses at $138.1M. The corresponding internal NYCERS accounting chart amount is $97.4M, a $40M shortage.

The FY-2010 CAFR amount was $175.2M. NYCERS is now refusing to disclose what amount is recorded in its internal accounting chart.

The FY-2009 CAFR listing was missing entries for

• 2 managers of registered securities
• 27 private equity partnerships
• 8 real estate partnerships.

The FY-2009 internal chart was missing

• 8 managers of registered securities
• 28 private equity partnerships
• 7 real estate partnerships.

The FY-2010 CAFR listing was missing entries for

• 2 managers of registered securities
• 31 private equity partnerships
• 6 real estate partnerships.

Again NYCERS will not disclose the internal accounting chart for FY-2010 and therefore we don’t know the number of missing managers for FY-2010 in this chart.

The bottom line is that NYCERS accounting for investment fees is out of control as seen from defects in both the CAFR and the internal accounting reports. Aggravating this lack of control is the enormous amounts of money at play in these fees. The fees for FY-2011 are on track to reach $220M.

The following is another sign of a system adrift. In a September 7, 2011 Bloomberg article, the Comptroller refused to disclose the recipients of $32M in fees that NYCERS paid in FY-2010 under the cover of organization fees for private equity and real estate partnerships.

The Comptroller claimed an exemption from the state Freedom of Information Law. The actual response was that the payments “are derived from information from the private equity companies and real estate partnerships which if disclosed would cause substantial injury to the competitive position” of the firms. This is the same reason NYCERS gave me for refusing my FOIL request this year for NYCERS internal accounting charts for Investment fees.

I can not imagine how disclosing what NYCERS paid a vendor would hurt the vendor’s competitive position. Independent of the state FOIL law, all NYCERS distributions are public record since they have to be approved by a resolution of the Board of Trustees. Such resolutions must be voted on in public session of a board meeting. This is all designed to protect against fraud and corruption.

As a point of reference, the NYC Teachers Retirement System does not report paying any organization fees.

All of this is a clear sign of an unacceptable risk to the integrity of the assets of the system.

The NYS Insurance Department just finished its multi-year examination of NYCERS. I will be curious if they comment on this glaring failure of financial control. The last report, unfortunately, covered only FY-2000 to FY-2002 and was only released in June, 2009.

Loss of Transparency on Investment Fees

In FY-1997 Alan Hevesi, the then Comptroller, made a power grab for full contract and payment authority of the investment managers of NYCERS. In spite of statutory requirement of two person accounting control of the payment process and no statutory authority to delegate contracting authority to a single trustee, the Law Department rolled over for the Comptroller and gave him control.

At the time, I objected to the violation of the statutory requirement that NYCERS approve all payments before the Comptroller paid them. I was amazed that the Law Department ignored the statutory language. Of course, the Comptroller would have had to give NYCERS a copy of each of the investment contracts and that would have exposed the terms of the contracts.

Since FY-1997 until FY-2010, Comptroller Thompson’s last year in office, the trustees have adopted an annual resolution granting this “authority” to the Comptroller. The resolution has always had the clause stating an estimated total cost for the coming year. For example see the clause for FY-2010, R-41 (6/11/09), listed below. In addition, the Comptroller also provided a detailed schedule of individual managers and estimated fees for the coming year.

“Resolved, that the estimated fees allocated to the System for Fiscal Year 2010 shall be approximately $159,941,361.34 and be it further “

But for FY-2011 and FY-2012, Comptroller Liu has submitted resolutions dropping the above resolve clause. See R-1 (6/22/2010) & R-35 (6/9/2011). And, of course, he submitted no detailed schedules of individual fees. The trustees now have no idea what the total amount might be or the estimated amount each manager is going to be paid.

While the Comptroller is supposed to report all payments contemporaneous to NYCERS, the reporting process has always been slipshod. The Comptroller’s office has never given NYCERS a full accounting of what fees he/she has paid in any given year. With the rising costs, however, this weakness is becoming more dangerous. The potential for fraud is huge. The fact that the Comptroller is a statutory auditor of all NYCERS payments is ironic.

The mayor could change this process by having the Law Department issue an opinion stating that the payment process must adhere to S.13-137 of the NYC Admin code and that the trustees do not have the statutory authority to delegate their contracting responsibility to one trustee.

§ 13-137 Payments from funds. All payments from such funds shall be made by such comptroller upon a voucher signed by the executive director of the retirement system.

Since 2003, these fees have accelerated out of control. For the record, the actual investment fees for FY-2010 were $175.2M, $16M more than estimated. In contrast, the fees for FY-2003 were $29.3M.

Considering the current budget constraints, these fees are obscene. On top of this, there is a clear attempt to obscure the scale of these fees.

Layoffs and the History of Investment Expenses for the Five City Pension Funds

At the beginning of May the mayor announced that as part of his FY-2011 budget he was planning to cut the city payroll by 8,270 positions. Assuming a savings of $70,000 per position per year this represents a $579M annual savings. The heaviest hit will be to teachers with a 5,200 reduction.

The following is a history of the growth in investment expenses for the five city pension funds. Fiscal years 2010-11 are based on budgeted figures and projections.

The city and the public authorities must pay back these costs plus 8% interest in the following year after the costs are incurred. For example in 2010 the city had to pay to the five pension funds $339M plus $27M in interest to cover the $339M expense incurred in 2009.

These investment expenses have gone up 336% from 2002 to 2009 and the investment performance has been terrible.

Besides their huge size and rapid growth there are two disturbing aspects about these investment expenses. One is the lack of oversight by the pension funds of these costs and the other is the fact that significant portions of the costs are not itemized and not attributable to specific vendors.

For example, NYCERS is on record in its FY-2009 financial statement as having paid $25.5M for a private equity organization cost and $1.6M to a real estate organizational cost and $1.6M for miscellaneous investment expenses. A person reading this report would have no idea who received this money. This is in sharp contrast, for example, to the clear indication that NYCERS paid $5,522 to PriceWaterhouse Coopers listed on the same page as the phantom $25M.

This vague description raises an auditing red flag. Unfortunately, the trustees have allowed the comptroller to make these payments without oversight. To make matters worse, the comptroller is the statutory auditor of these payments.

Year	Investment Expenses For Five City Pension Funds	NYCERS Investment Expenses
2011	$460.0M	$190.0M
2010	$390.0M	$160.0M
2009	$339.2M	$138.1M
2008	$310.2M	$115.3M
2007	$262.0M	$ 98.1M
2006	$192.7M	$ 69.3M
2005	$158.2M	$ 46.1M
2004	$131.6M	$ 42.9M
2003	$ 96.6M	$ 29.2M
2002	$101.9M	$ 37.6M
2001	NA	$ 33.9M
2000	NA	$ 37.2M
1999	NA	$ 24.6M
1998	NA	$ 25.5M
1997	NA	$ 25.1M