In "New York Is Investigating Advisers to Pension Funds" (New York Times, November 5, 2013), Mary Williams Walsh writes that "state financial regulators have subpoenaed about 20 companies that help New York's pension trustees decide how to invest the billions of dollars under their control to determine whether any outside advice is clouded by undisclosed financial incentives or other conflicts of interest."
Conflicts of interest are not new nor are they are likely to disappear overnight. In 2010, the U.S. Securities and Exchange Commission ("SEC") adopted measures to discourage bad acts. Three elements were cited in "SEC Adopts New Measures to Curtail Pay to Play Practices by Investment Advisers" (June 30, 2010) to include the following items:
- Prohibition of "an investment adviser from providing advisory services for compensation — either directly or through a pooled investment vehicle — for two years, if the adviser or certain of its executives or employees make a political contribution to an elected official who is in a position to influence the selection of the adviser";
- Prohibition of "an advisory firm and certain executives and employees from soliciting or coordinating campaign contributions from others — a practice referred to as "bundling" — for an elected official who is in a position to influence the selection of the adviser"; and
- Prohibition of "an adviser from paying a third party, such as a solicitor or placement agent, to solicit a government client on behalf of the investment adviser, unless that third party is an SEC-registered investment adviser or broker-dealer subject to similar pay to play restrictions."
In the case of the New York State Common Retirement Fund, with nearly $161 billion in assets in Q1-2013, the single person trustee and New York State Comptroller, Thomas P. DiNapoli, describes numerous attempts to enhance transparency and avoid conflicts. From the official website, one can download files that include:
- New York State Common Retirement Fund Placement Agent Disclosure Policies and Procedures of the Office of the State Comptroller," last updated on September 11, 2013;
- "Transactions Compliance Review: New York Common Retirement Fund," dated February 22, 2010; and
- An amended list, published on May 6, 2009 and disclosing "placement agents used during the administration of Alan Hevesi. The list was amended June 18, 2009 to reflect new information provided by the State Attorney General’s office."
While the published files are a good start, it would be nice to have even more information, especially with respect to the detailed due diligence process that was or is being employed by various advisers for recommended asset managers. My understanding is that the New York Financial Services Superintendent, Benjamin M. Lawsky, has requested pitch books as well as information about compensation levels, the nature of existing relationships between investment advisers and consultants and asset managers and how performance numbers are to be reported, including a description about the assessment of investments that do not trade in a public market. This makes sense given the growth in allocations to hard-to-value positions.
Letting the sunshine in is a good thing for plan participants and taxpayers alike. It would be hard these days for anyone to legitimately criticize attempts to avoid costly conflicts of interest, especially if misaligned objectives lead to grossly imprudent investment decisions.
In recognition of the importance of good pension governance, the National Association of State Retirement Administrators ("NASRA") adopted a resolution to expressly address ethics and disclosure requirements. Excerpting from Resolution 2011-02, it is stated that "Public fund fiduciaries should carefully review the trust and conflict of interest laws applicable to the system to ensure that the fiduciaries’ relationships with other parties are not incompatible with the duties to the system, and service providers to the system should divulge pertinent business activities, relationships and alliances including, among other things i) all services the firm, its principals, or any affiliates provide that generate revenue, ii) if the firm is owned in whole or in part by other firms or organizations, or if the firm owns other firms or organizations, that sell services to public pension systems, and iii) if the firm, its principals, or any affiliate has any strategic alliances with firms that sell services to public pension systems."
As headlines about underfunding and bankrupt cities continue and fiscal policy becomes even more entwined with the investment activity of $3 trillion in public pension coffers, I predict that state and federal investigations will likely go up in number, magnitude and frequency.