Investment Rate of Return Assumptions Matter

It's no secret that a house needs a strong foundation to weather storms. In a similar sense, the financial health of a pension plan depends on structural strength. The amount and timing of obligations to retirees as well as the rate of return ("ROA") on investments are two determinants of a pension plan's ability to meet its obligations in a timely fashion.

Trouble occurs when realized returns turn out to be significantly smaller than expected investment-related inflows and contribution levels are too low as a result. Playing catch up is hard to do once an employer realizes that a pension plan is underfunded due to anemic asset returns. That's one of the reasons that more defined benefit plan sponsors are asking whether the historically popular annual eight percent rate still makes sense. According to Credit Suisse senior analyst David Zion, company earnings can take a serious hit if "long-term expectations for pension returns turn out to be too bullish." (See "Are Pension Forecasts Way Too Sunny?" by Jason Zweig, Wall Street Journal, January 28, 2012). 

The possible outcomes are no less dire for public pension plans. In a November 6, 2015 press release, Connecticut's Treasurer, Denise L. Nappier, applauds recently proposed changes by Governor Malloy to better fund the nearly $30 billion Connecticut Retirement Plans & Trust Funds but warns that a drop in the assumed ROA from 8.5 percent to eight percent is not enough and that 7.5 percent or lower "would be more in line" with what can reasonably be obtained. She adds that "Clearly, it stands to reason that setting return assumptions at levels more likely to be attained will strengthen the financial health of the funds over the long term." On October 5, 2015, the Wall Street Journal described a bleak outlook for Connecticut municipal workers without a major overhaul to how its retirement plans are funded. In "Connecticut, America's Richest State, Has a Huge Pension Problem," readers are told that "unfunded pension liabilities more than doubled over the past decade to $26 billion..."

In a September 2015 paper entitled "The state of public pension funding," American Enterprise Institute scholar Andrew G. Biggs explains that the amount of risk being taken is equally as important as a gap between the assumed ROA and actual portfolio yields. Worsening deficits have resulted in numerous plans taking on more risks with an increase in the percentage of risky assets from sixty-four percent in 2001 to seventy-two percent in 2013. These are large numbers. When one factors in what appears to be an emerging trend in private employer sponsored retirement plans, to be managed by states, there is legitimate concern about whether states and cities are taking on too much risk. Refer to "Retirement options dwindle and states step in. But should they?" (CNBC, November 6, 2015).

The question remains as to which retirement "house" can stand steady on its feet. Getting answers soon is key.

Investment Monitoring, Post Supreme Court Decision

As mentioned in "ERISA Litigation and Investment Monitoring" (October 22, 2015), Dr. Susan Mangiero, Attorney James Fleckner and Dr. Lee Heavner will discuss economic and governance ramifications of the U.S. Supreme Court "Tibble" decision on December 3, 2015 from 11:00 am to 12:30 pm EST.

To register for this educational webinar entitled "Life After Tibble: Investment Monitoring and Litigation Defense Considerations for ERISA Fiduciaries," click here. The sponsor, Bloomberg BNA, has arranged for continuing legal education ("CLE") credits to be offered.

Educational objectives are listed below:

  • Identify the main tenets of the Tibble decision and understand the implications of likely future litigation and enforcement;
  • Distinguish investment monitoring done in-house or by third parties;
  • Discover preemptive measures for effective investment monitoring;
  • Learn how to mount a defense against lawsuits; and
  • Cover the components of economic damage estimates as part of an investment monitoring lawsuit or regulatory enforcement action.

Given the importance and relevance of the topic, there are numerous individuals who can benefit by attending this program such as:

  • Asset manager and financial service company attorneys;
  • Auditors;
  • Banks that sell to ERISA plans;
  • Corporate board members;
  • Corporate counsel;
  • ERISA fiduciaries;
  • ERISA fiduciary liability insurers;
  • ERISA litigators;
  • ERISA transactional attorneys;
  • Financial analysts;
  • Financial regulators;
  • Financial industry journalists;
  • Investment advisors and consultants;
  • Mutual fund directors;
  • ERISA plan policymakers; and
  • ERISA plan researchers.

Dr. Susan Mangiero Earns Certified Fraud Examiner (CFE) Credential at a Time When Global Fraud is Estimated at $3.7 Trillion Per Year

Dr. Susan Mangiero, financial expert and author, has earned the Certified Fraud Examiner (CFE) credential from the Association of Certified Fraud Examiners (ACFE), having successfully met the ACFE’s character, experience and education requirements for the CFE credential, and having demonstrated knowledge in four areas critical to the fight against fraud: Fraudulent Financial Transactions, Fraud Prevention and Deterrence, Legal Elements of Fraud and Fraud Investigation. Dr. Susan Mangiero joins the ranks of business and government professionals worldwide who have also earned the CFE certification.

According to its recent comprehensive study, the ACFE estimates that the average organization loses roughly five percent of revenues each year to fraud. This translates into an estimated worldwide loss of $3.7 trillion every twelve months. CFEs on six continents have investigated more than 1 million suspected cases of civil and criminal fraud.

Dr. Mangiero is currently a Managing Director of Fiduciary Leadership, LLC and lead contributor to Pension Risk Matters and Good Risk Governance Pays. Dr. Mangiero has served as a testifying expert and behind-the-scenes forensic economist on multiple investment and financial valuation and risk assessment matters. She is a CFA® charterholder and holds the Financial Risk Manager (FRM®) designation. In addition, Dr. Mangiero has earned the Accredited Investment Fiduciary Analyst™ professional designation from Fiduciary360. She has received formal training in investment fiduciary responsibility and is certified to conduct investment fiduciary assessments.

About the ACFE

The ACFE is the world’s largest anti-fraud organization and premier provider of anti-fraud training and education. Together with more than 75,000 members, the ACFE is reducing business fraud world-wide and inspiring public confidence in the integrity and objectivity within the profession. Identified as “the premier financial sleuthing organization” by The Wall Street Journal, the ACFE has captured national and international media attention. For more information about the ACFE visit

About Fiduciary Leadership, LLC

Fiduciary Leadership, LLC is an investment risk governance and forensic economic analysis consulting company. Clients include asset managers, transactional attorneys, litigation attorneys, regulators and institutional investors.

Public Pension Fund Litigation Database

In carrying out research for a client about public pension fund trends, I came across a website called Pension Litigation Tracker. Maintained by the Laura and John Arnold Foundation, this collection of court documents and descriptions of ongoing developments in "pension reform lawsuits" looks to be a helpful resource at a time when there is increased pressure on numerous municipalities to address the challenges associated with underfunded retirement plans, including questions about the constitutionality of benefit arrangements. A drop down menu allows the user to search by state or by topics such as double dipping, increased employee contribution, pension rights and reduced benefits.

As I have discussed extensively in analyses about the impact of pension deficits on the sponsor's ability to raise capital, service debt and/or sustain economic growth, it is no surprise that litigation and regulatory enforcement that alleges either contractual non-performance or fiduciary breach (or both) is growing. Interested readers can download "Muni Bonds, Pension Liabilities and Investment Due Diligence" by Dr. Susan Mangiero, Dr. Israel Shaked and Mr. Brad Orelowitz (American Bankruptcy Institute Journal, July 2014). Also visit the Municipal Bond section of the Good Risk Governance Pays website.

These cases have the potential to be large in terms of dollar damages as well as the cost of defense. An example is the class action filed against the Board of Trustees of the Kentucky Teachers' Retirement System by its "75,000 active members, and over 45,000 annuitants."

While emphasizes the legal nature of disputes about benefit reforms proposed by cities and states, it does not showcase the large number of investment-related lawsuits wherein a public pension plan(s) files a 10b-5 lawsuit against the issuer of a security that is owned by the plaintiff, alleging securities fraud. These actions are likewise large and plentiful. More will be said about this topic in a later post.

ERISA Litigation and Investment Monitoring

Please save the date for an educational program entitled "Life After Tibble: Investment Monitoring and Litigation Defense Considerations for ERISA Fiduciaries." Produced by Bloomberg BNA, this webinar event will take place on December 3, 2015. Speakers are listed below:

  • James O. Fleckner, Esquire - Chair - ERISA Litigation, Goodwin Procter LLP;
  • Dr. D. Lee Heavner - Managing Principal, Analysis Group, Inc.; and
  • Dr. Susan Mangiero - Managing Director, Fiduciary Leadership, LLC.

In the aftermath of the U.S. Supreme Court "Tibble" decision, there are numerous questions as to what exactly comprises effective investment monitoring from a procedural prudence perspective. Given the newness of this important legal decision and little formal guidance from the High Court, the panel will present economic perspectives about what ERISA fiduciaries should do to assess, and possibly improve, their current investment monitoring process. Attention will be paid to related topics that include the delegation of investment monitoring to third parties (such as advisors, asset managers and consultants) and the kinds of information that should be communicated to plan participants about investment monitoring activities. The role of the economic expert and the factors that need to be considered in estimating damages will be addressed, along with a discussion of available industry resources. The panel will use examples from casework to illustrate some of the key points.

Further details will be posted shortly.

Is Seventy the New Thirty?

Last year, the Today show celebrated Tao Porchon-Lynch for inspiring others with her verve for life. At ninety-six years of age, she is recognized by Guinness World Records as the oldest yoga teacher and still going strong. Yoga Journal quotes her as saying "I don't want to know what I can't do. I'm only interested in what I can do."

Mental Floss Magazine likewise inspired with its article entitled "10 People Who Switched Careers After 50 (and Thrived!)." Writer Ethan Trex waxed poetic about the accomplishments of seniors such as Colonel Sanders, Tim and Nina Zagat, Ronald Reagan and Laura Ingalls Wilder. Business Insider's Richard Feloni urged readers that it's never too late to follow one's dream, citing exemplars such as Vera Wang, Julia Child, Henry Ford, Grandma Moses and Taikichiro Mori in "20 People Who Became Highly Successful After Age 40."

Hollywood appears poised to convey a similar message about the advantages of wisdom and experience for those who are no longer twenty-one. In "The Intern," Robert De Niro plays a seventy year old widower who is not ready to retire. An ex-sales and marketing executive, his character joins a start-up company as an intern to the CEO and quickly grabs the hearts and minds of his younger co-workers. In "A Walk in the Woods," Robert Redford and Nick Nolte are septuagenarians whose characters are based on the bestselling book by Bill Bryson. They hike the Appalachian Trail, rekindle their friendship, evade grizzly bears and remember how nice it is to keep trying to challenge one's self. In "I'll See You In My Dreams," Blythe Danner discovers romance and purpose past sixty.

The implication seems to be that many individuals around the world prefer to keep working. According to the UK newspaper, the Daily Mail, "One in 20 people still have a job when they're over 70 - a figure that has doubled in the past decade..." USA Today's Rodney Brooks interviewed various individuals who extolled the virtues of never retiring, even though they could afford to stop working. In some cases, the goal was to try something altogether different.

George Burns "began a solo career when he was nearly 80." Although he missed his engagement to perform in London on his centennial birthday by a matter of months, he urged people to keep in mind that "You can't help getting older, but you don't have to get old."

With that truism in mind, one cannot forget that it takes money to:

  • Retire early;
  • Forego the salary and benefits of a steady job to tackle something new like start a company; and/or
  • Live large on a fixed income only.

For some individuals, the gap between one's retirement piggybank and monetary requirements is a reason to return to the workplace or never exit in the first place. For others, there is a true passion to stay in the game, whether that entails work, volunteering or something else. Most people strive for the ability to choose. That in turn requires a commitment early on, and thereafter, to identify, measure and effectively mitigate retirement portfolio risks.

Pension Plans, Valuation and Venture Capital

No sooner had I penned "Unicorns, Valuation and the Search for Investment Returns" for my compliance blog, I opened the New York Times this morning and discovered an article about so-called unicorns or companies with venture capital ("VC") backing and an estimated valuation of at least one billion dollars. According to the author of "The Hidden Risk of a Billion-Dollar Valuation in Silicon Valley," law school educator and pundit Steven Davidoff Solomon, venture capital firms want to get paid first in the event of a portfolio company sale which is why they negotiate hard to include a liquidation preference before committing capital. He cites a study by law firm Fenwick & West that confirms the prevalence of this downside protection and suggests that it is one reason why VC firms don't balk about what others may decry as valuations that are "too high." Interested readers can click here to download "The Terms Behind the Unicorn Valuations" by Barry Kramer, Michael Patrick and Nicole Harper (March 31, 2015). Professor Solomon points out that this kind of return insurance is a boon for venture capitalists but could be a disaster for founders who may end up with little or nothing if a liquidity event yields too few dollars. In an attempt to avoid this unhappy outcome, founders with sufficient voting power could nix a potential sale. Should that occur, investors then face greater risks due to less liquidity.

What is missing from the various analyses about unicorns and jumbo valuations of private companies overall is a discussion about the potentially adverse impact on institutional investors. In the event that valuation numbers are truly disconnected from economic reality, a limited partner may well end up paying too much in fees to its venture capital fund manager(s). Moreover, any institutional investor that allocates money to venture capital as part of its grand strategic asset allocation design may well fall short of its goals if valuations are "too high." Failure to realize a target return, satisfy a minimum funding ratio rule and/or diversify its portfolio are a few of the "nasties" that could ensue, thereby putting investment committee members at risk for allegedly breaching fiduciary duties.

One response, proffered by researcher Ashby Monk, is for institutions to invest directly and cut out the middlemen. This tact is likely to appeal to the bigger endowments, retirement plans and sovereign wealth funds that can afford to hire staff and put the requisite due diligence and technology infrastructure in place to vet and then monitor its investments. Even then, there is the peril of improperly relying on imprecise valuations that in turn drive so many other decisions.

As Dame Agatha Christie declared, "Where large sums of money are concerned, it is advisable to trust nobody." Investment fiduciaries need to understand how asset managers come up with the valuations they report to their limited partners and how their valuation numbers are revised over time to reflect changing conditions.

Fiduciary Frenemies

As senior ERISA litigation attorney Steve Rosenberg points out in a recent blog post, a service provider with a wayward institutional client could end up in a lose-lose situation. Ignore questionable or illegal conduct and co-fiduciary liability might lead to allegations of breach and a costly fallout for the advisor. Inform authorities and one is likely to lose that client and accompanying revenue.

Referencing a Plan Adviser article entitled "Do Retirement Plan Advisers Have a Duty to 'Rat?'," Attorney Rosenberg describes this dilemma as a real problem. I concur and offer that the growth in outsourcing arrangements could be a catalyst for further friction unless all parties understand how work is to be allocated and are equally committed to a high standard of care. With over $1.2 trillion categorized as "outsourced assets," there is a lot at stake.

In 2014, the ERISA Advisory Council had an entire forum on the topic of outsourcing of employee benefit plan services. On the topic of duties, law professor Colleen E. Medill testified that "... the courts have not provided much guidance on whether one fiduciary has the right to sue another fiduciary for equitable relief under ERISA.  She noted that this issue will be of increased importance as more employers and other named fiduciaries look to outsource fiduciary functions.  Likely, in a co-fiduciary situation, one fiduciary is more culpable than the other.  Thus, while both fiduciaries are jointly and severally liable under ERISA, the less culpable fiduciary may wish to sue the other fiduciary for damages in a contribution or similar action."

Based on my experience as an expert witness, service provider disputes can arise for a number of reasons, including, but not limited to, what I call an expectations gap wherein some task is left undone because it has not been formally assigned. In other situations, a conflict may exist that makes it hard for a third party to act independently on behalf of its institutional client. Of course, an investment committee member(s) may likewise have a conflict that impedes the advisor's ability to do what he or she is supposed to do. A pay-to-play kickback that involves a trustee with authority to hire an advisor is one example.

As I've written about many times, vetting and overseeing service providers by an investment committee is critical. As Attorney Rosenberg reminds his Boston ERISA Law blog readers, knowing one's customer is likewise important. After all, some lawsuits are brought by plan participants against both internal and outsourced fiduciaries. It is not unreasonable to conclude that working with a governance-focused client and vice versa redounds to the advantage of both buyer and seller.

Fiduciary Education Considerations

Rumor has it that regulatory exams of retirement plans continue to include explicit questions about whether a formal education program exists and, if it does, what it contains. Certainly the topic is not new. In 2002, the Working Group on Fiduciary Education and Training made recommendations to the U.S. Department of Labor to include the following:

  • Ensure that everyone understands that a fiduciary must "perform competently" which means, by extension, that he or she must be educated about duties and responsibilities;
  • Appoint someone to lead fiduciary education and outreach on a national basis;
  • Expand guidance as to what constitutes "best practices," adding to guidelines such as "A Look at 401(k) Fees for Employers";
  • Recognize that fiduciaries of smaller plans will likely have different training needs than those of larger plan fiduciaries; and
  • Provide helpful tools such as a dedicated hotline, a primer about fiduciary duties and conferences. 

A visit to the U.S. Department of Labor website entitled "Getting it Right - Know Your Fiduciary Responsibilities" yields a treasure trove of educational publications and hyper links to various online tools such as The ERISA Fiduciary Advisor. In addition, there are countless organizations that provide extensive fiduciary programs, some of which lead to certifications should one pass exams and meet experiential mandates. I myself have both taken and led various workshops about investment fiduciary subjects and continue to satisfy the requirements to be an Accredited Investment Fiduciary Analyst.

Yet with the plethora of available information about what it takes to carry out one's fiduciary duties, allegations of breach continue and on a grand scale. During a recent program entitled "ERISA Litigation and Enforcement: The Role of the Independent Fiduciary and Best Practices for Financial Advisors," my co-presenters and I talked about the importance of education and the consequences of not being up to speed on what has to be done on behalf of participants.

Some have suggested that formalizing a training requirement makes sense, adding that guidelines can demonstrate good faith and thereby serve as a defense in the event that a lawsuit is filed against investment fiduciaries down the road. Others counter that too much specificity may not allow for changes in circumstances or be inadequate to the multiple tasks of selecting advisors for more than one specialized asset class or strategy. 

Based on my experience, documentation about how internal fiduciaries are selected, let alone developed, is something of a rare bird. Likewise uncommon is a written policy that explains how investment committee members should be evaluated in terms of performance and by whom. In contrast, nearly all jobs have a specified description, an established pay scale and clear criteria about what makes for a "good" job versus performance that is deemed "unacceptable." Though one might be tempted to conclude that the absence of a formal procurement protocol for a retirement plan fiduciary means that the role is unimportant, nothing could be further from the truth. Serving as a fiduciary is a real job in every sense of the word and should be acknowledged accordingly.

Fiduciary Standard TV Ads

I have long professed my concern that retirement issues get short shrift when it comes to political speeches and public discourse. I am not talking about industry discussions which occur all the time. I am referring instead to Main Street outreach. Even today, there seems to be scant mention by U.S. presidential candidates about how to strengthen programs like Social Security and reform tax laws to encourage savings. Of course what the pundits call the "silly season" has just begun, with many months of campaigning to go. Imagine my surprise then when, in between news segments this week, several ads appeared on television about impending changes. In one ad, a man and a woman are chatting in a car about their concern that talking to their advisor will become more expensive and they will end up talking to a robot. Another ad showcases a small business owner who worries that new regulations will make it harder for him to keep offering a 401(k) plan to his employees. Viewers are urged to call their lawmakers.

Research suggests that the ads are sponsored by the Secure Family Coalition. Its website lists organizations that include the following:

  • American Council of Life Insurers;
  • Association for Advanced Life Underwriting;
  • Insured Retirement Institute;
  • National Association for Fixed Annuities;
  • National Association of Independent Life Brokerage Agencies; and
  • National Association of Insurance and Financial Advisors.

On the opposite end of the spectrum are groups such the Institute for the Fiduciary Standard. Its website cites advocacy, research and education of the public as ways for "all those willing to help" to get involved.

Regardless of one's stance about the U.S. Department of Labor proposal (and discussions by other regulators and lawmakers), the hope is that further conversations about retirement planning will encourage a long overdue focus on the abysmal state of readiness in this country and around the world.

If ads are hitting the airwaves now, is a Hollywood movie next?