Pension Blog Turns 11 On Same Day As National Fiduciary Day

Last year, I celebrated a decade of posting investment governance insights to Pension Risk Matters. This year, I have two reasons to say "hooray." March 23 marks the eleventh year of posting analyses, research updates and essays about managing money, retirement planning and mitigating uncertainty. In addition, it is the debut of National Fiduciary Day. Sponsored by Fi360, the goal is to encourage individuals to be good stewards of other people's money. 

Given our shared commitment to investment fiduciary best practices and the fact that I am certified by Fi360 as an Accredited Investment Fiduciary Analyst, I asked the organization's top officers for their thoughts on this special day. They were kind enough to oblige.

Executive Chairman Blaine Aikin says "Happy Anniversary, Susan! Congratulations on having achieved 11 highly productive years of blogging. It's only fitting that this comes on Fi360's National Fiduciary Day. Keep up the great work and thank you for your valuable contributions to the profession!" Fi360 Director J. Richard Lynch adds "We have appreciated our long standing relationship with Susan as an AIFA designee and in particular, her contributions to the fiduciary discussion through her blog and as a past speaker at our annual conference."

There are lots of us who long ago recognized the importance of perturbing the conversation about investment governance. This includes the roughly 1.2 million visitors to Pension Risk Matters, many of whom have not been shy about offering their views. I am grateful to them all and look forward to a continued exchange of ideas.

Can A Retirement Plan Have Too Much Risk Management?

The issue of excess has been on my mind lately, mostly focused on my fragrance collection but now expanding to the topic of investment risk management. More specifically, as I continue to lead workshops about retirement plan risk management for the Professional Risk Managers' International Association ("PRMIA"), I am pondering whether too much of a so-called "good thing" makes sense. 

By way of background, friends and family know I am a perfume aficionado. Yes, the ubiquitous "free" gift with purchase is a plus but I do truly enjoy trying new scents. I'm not alone. According to a February 23, 2016 article on the Beauty Stat website, 2015 sales of "prestige beauty" products grew more than seven percent to $16 billion and "mass beauty" product sales climbed two percent to nearly $22 billion in the United States.

Colleagues know that I have spent several decades in the risk management industry with positions that include trading, compliance and expert testimony, depending on the year. I am the author of an entire book and dozens of articles about investment risk governance. I strongly believe in the importance of establishing an appropriate risk management protocol, following said policies and procedures and regularly reviewing whether risk management actions are effective or need to be tweaked. I likewise believe there are lots of retirement plans that should be doing much more when it comes to identifying, measuring, managing and monitoring relevant risks.

Coming back to this issue of "too much" risk management, the critical question is whether investment fiduciaries can be too cautious. Most reasonable people would likely say "yes." Regardless of plan design, if an investment portfolio is overly skewed to seemingly safe assets or funds of "safe" assets, expected return could be insufficient to meet long-term needs. A discussion about what constitutes "safe" assets is left for another day except to say that every investment has some risk. Even putting one's money under the bed could be risky if the house burns down. Another consideration is the cost of hedging. There is no free lunch. All fees and expenses associated with risk management, including the cost of putting a good technology system in place, should be part of any risk-adjusted performance assessment.

Retirement plan fiduciaries and their advisors are well served by identifying primary goals, major obstacles and both short-term and long-term nightmares that would generate serious pain for participants. Said differently, risk management, like perfume, is a good thing unless it prevents someone from achieving important milestones. As for me, I just bought a new bottle of perfume but resisted buying the other two I wanted. This should help me with my goals of decluttering and save more money.

Dr. Lee Heavner Joins Dr. Susan Mangiero to Discuss Derivatives and Fiduciary Duty

As a follow-up to my January 12, 2017 announcement about retirement plan risk management education with the Professional Risk Managers' International Association ("PRMIA"), I am delighted to announce a co-presenter for the March 2, 2017 learning event. Distinguished economist Dr. Lee Heavner will join me to talk about hedging techniques, the valuation of derivatives and structured products and the monitoring of investment-related risk as part of "Use of Derivatives in Pension Plans." Click here to read Lee Heavner's impressive bio as a managing principal and financial expert with Analysis Group, Inc. Dr. Heavner and Dr. Mangiero have worked on multiple investment disputes and are the authors of "Economic Analysis in Fiduciary Monitoring Disputes Following the Supreme Court's 'Tibble' Ruling" (Bloomberg BNA Pension & Benefits Daily, June 24, 2015).

Session Two will convene from 10:00 am EST to 11:15 am EST live this Thursday. If you cannot make it in real time, the event can be downloaded for later viewing. It is the second event of four CPE-qualified events. Speakers will examine risk management for retirement plans from both a governance and economics perspective. Topics to be discussed include the following:

  • Current usage of derivatives by retirement plans for hedging purposes;
  • Financially engineered investment products and governance implications;
  • Fiduciary duties relating to monitoring risks and values of derivatives and structured products; and
  • Suggested elements of a Risk Management Policy Statement.

Join us for this talk about an important issue - risk management for retirement plans!

Establishing Risk Management Protocols for Defined Benefit Plans and Defined Contribution Plans

As a follow-up to my January 12, 2017 announcement about retirement plan risk management education with the Professional Risk Managers' International Association ("PRMIA"), I am delighted to announce a co-presenter for the February 23, 2017 learning event. Distinguished attorney Meaghan VerGow will talk about ERISA litigation and fiduciary risk management as part of "Establishing Risk Management Protocols for Defined Benefit Plans and Defined Contribution Plans." Click here to read Meaghan VerGow's impressive bio as law firm partner and ERISA expert with O'Melveny & Myers LLP.

Session One will convene from 10:00 am EST to 11:15 am EST live this Thursday. If you cannot make it in real time, the event can be downloaded for later viewing. It is the debut event of four CPE-qualified events. Speakers will examine risk management for retirement plans from both a governance and economics perspective. Topics to be discussed include the following:

  • Procedural prudence and the costs of ignoring fiduciary risk;
  • Risk management differences by type of retirement plan;
  • Industry norms and pitfalls to avoid;
  • Role of Chief Risk Officer, investment committee members and in-house staff; and
  • Suggested elements of a Risk Management Policy Statement.

Visit the PRMIA website to register for Session One and read about course content for Sessions Two through Four. Our exciting roster of co-speakers for these future events will be posted shortly on this blog at

Thank You for Blog of the Week Recognition

I was recently informed by Fiduciary News editor Chris Carosa that my blog post entitled "Effective Retirement Plan Communications" (January 8, 2017) was selected "Blog of the Week" for the second week of January. Thank you to Chris and his loyal readers. I really appreciate the recognition. It's always terrific to get feedback about what topics are of interest to financial industry professionals.

Investment Policy Statements and Trading Authority

For those who are unaware, I created an investment compliance and risk management blog a few years ago called Good Risk Governance Pays®. Although I mostly provide insights that are unique to each website, from time to time I do repeat an entry if it makes sense. In the spirit of providing educational write-ups about topics that are important to all types of institutional investors, I invite readers of Pension Risk Matters® to check out "Trading Ahead of Investment Policies and Procedures" and to sign up for email notices when new items have been added to the Good Risk Governance Pays® blog. This February 1, 2017 entry addresses the advantages of having guidelines such as an Investment Policy Statement. Otherwise, it could be challenging to detect rogue trading.

Pension Risk Management for Retirement Plans

I'm delighted to work with the Professional Risk Managers' International Association ("PRMIA") in delivering four (4) educational webinars about retirement plan risk management. According to its website, PRMIA is a "non-profit professional association" with forty-five chapters in various countries around the world. Click to download the PRMIA brochure for more information about membership. I hope you will join us in February and March for what should be an exciting and timely quartet of live events. If you cannot attend in real time, the webinars will be archived for later use. See below for details.

           Lead Instructor: Dr. Susan Mangiero, AIFA®, CFA®, CFE, FRM®, PPC™

                               Thursdays from 10:00 - 11:15 am EST / 3:00-4:15 GMT
                                       February 23 | March 2 | March 9 | March 16

                                                     A Virtual Training Series

This series consists of four webinar lectures, each one delivered with the goal of providing actionable information that can be used by the audience right away.

With approximately $100 trillion in global assets under management, retirement plan fiduciaries and their attorneys and advisors face numerous challenges in the aftermath of the worldwide credit crisis that began in 2008. Market volatility, investment complexity and compliance with new accounting standards and government mandates, alongside a strident call for better accountability and transparency, are a few of the pain points that keep pension executives up at night. Litigation and regulatory investigations are on the rise. As a result, enlightened pension decision-makers are turning their attention to risk management technology and techniques as a way to mitigate economic, legal and operating trouble uncertainties. Those who ignore the adverse impact of longer life spans, statutory capital requirements, binding financial statement reporting rules and broader fiduciary duties are destined for trouble. In some countries, trustees may be personally responsible for poor plan governance and may have to pay participants from their own pockets.

Who Should Attend

This series should be of interest to a broad range of financial and legal professionals since poor governance and/or too few resources being devoted to pension risk management within a fiduciary framework can (a) force benefit cutbacks for participants (b) lead to a ratings downgrade which increases a sponsor’s cost of capital (c) force a plan sponsor to come up with millions of dollars (pounds, euros, etc.) in cash for contributions (d) result in a costly lawsuit and/or regulatory enforcement (e) thwart a merger, acquisition or spin-off and/or (f) cause a sponsor to be out of compliance with financial and statutory reporting requirements.

Both senior-level decision makers and staff members can benefit from viewing this series of webinar lectures. Representative titles of likely audience members include: • Directors of the board • CFOs, treasurers, controllers and VPs of finance • Members of a sponsor’s pension investment committee • Pension consultants • Pension advisors • Pension and securities attorneys • Pension and securities regulators • Rating analysts • Financial journalists • Derivatives traders • Executives with derivatives and securities exchanges • ERISA, municipal and sovereign bond and D&O liability insurance underwriters • International, U.S. federal and state lawmakers • Think tank researchers • Industry associations • Chambers of Commerce in various countries • Economists who cover demographic patterns and • Risk management students.

Session One (February 23, 2017): Establishing Risk Management Protocols for Defined Benefit Plans and Defined Contribution Plans

Session One examines risk management for retirement plans from both a governance and economics perspective. Topics to be discussed include the following:

  • Procedural prudence and the costs of ignoring fiduciary risk;
  • Risk management differences by type of retirement plan;
  • Industry norms and pitfalls to avoid;
  • Role of Chief Risk Officer, investment committee members and in-house staff; and
  • Suggested elements of an Investment Policy Statement.

Session  Two (March 2, 2017): Use of Derivatives in Pension Plans

​Session Two looks at how derivatives are used by retirement plans, whether directly or indirectly. Topics to be discussed include the following:

  • Current usage of derivatives by retirement plans for hedging purposes;
  • Financially engineered investment products and governance implications:
  • Fiduciary duties relating to monitoring risks and values of derivatives; and
  • Suggested elements of a Risk Management Policy Statement.

Session Three (March 9, 2017): Liability-Driven Investing and Other Types of Pension Risk Transfer Strategies

Session Three examines the reasons why the number of pension restructuring deals is on the rise, especially in the United States and the United Kingdom, and the type of transactions being done. Topics to be discussed include the following:

  • Nature of the pension risk transfer market and various approaches being utilized;
  • Regulatory considerations for fiduciaries in selecting an annuity provider;
  • Action steps associated with implementing a pension risk transfer; and
  • Case study lessons learned.

Session Four (March 16, 2017): Service Provider Due Diligence

Session Four looks at the growth in the Outsourced Chief Investment Officer (“OCIO”) and Fiduciary Management markets and explains service provider risk. Topics to be discussed include the following:

  • Fiduciary considerations of delegating investment responsibilities to third parties;
  • Risk mitigation practices for selecting and monitoring vendors such as asset managers and advisors;
  • Types of lawsuits that allege fiduciary breach on the part of third parties and related regulatory imperatives; and
  • Identifying warning signs of possible vendor fraud.

Fee: Fee includes access to all four live sessions (75 minutes each), access to the recorded session for 60 days, and digital program materials.

  • Sustaining Members: $355.00
  • Contributing Members: $395.00
  • Free/Non-Members: $465.00

Registration: You may register for this course by clicking on Register at the bottom of the page. For questions regarding registration please contact PRMIA at

Cancellation: A refund (less a 15% administration fee) will be made if formal notice of cancelation is received at least 48-hours prior to the date of the first session. We regret that no refunds will be made after that date. Substitutions may be made at no extra charge.

Important Notice: All courses are subject to demand. PRMIA reserves the right to cancel or postpone courses at short notice at no loss or liability where, in its absolute discretion, it deems this necessary. PRMIA reserves the right to changes or cancel the program. PRMIA will issue 100% of registration refund should cancelation be necessary.

CPE Credits: This webinar series qualifies for 6 CPE credits subject to certain rules about required attendance. Email for more information about obtaining continuing education credits.

About the Presenter:

Dr. Susan Mangiero is a forensic economist, researcher and author. With a background in finance, modeling and investment risk governance, Susan has served as an expert on numerous civil, criminal and regulatory enforcement actions involving corporate retirement plans, government retirement plans, hedge funds, private equity funds, foundations and high net worth individuals. She has been engaged by various financial service organizations to provide business intelligence insights about what institutional investors want from their vendors. As founder of an educational start-up company, Susan raised capital from outside investors, created a fiduciary-focused content library and developed a governance curriculum for institutional investors and their advisors. Prior to her doctoral studies, Susan worked at multiple bank trading desks in the areas of fixed income, foreign exchange, interest and currency swaps, financial futures, listed options and over-the-counter options.

Susan Mangiero is a managing director with Fiduciary Leadership, LLC. She is a CFA® charterholder, Professional Risk Manager™, certified Financial Risk Manager®, Accredited Investment Fiduciary Analyst®, Certified Fraud Examiner and Professional Plan Consultant™. Her award-winning blog, Pension Risk Matters®, includes nearly 1,000 essays about investment risk governance and has well over a million views. She is the creator and primary contributor to a second blog about investment compliance at Susan is the author of Risk Management for Pensions, Endowments and Foundations. Her articles have appeared in multiple publications such as RISK Magazine, Bloomberg BNA Pension & Benefits Daily, Corporate Counsel, American Bankruptcy Institute Journal, Mergers & Acquisitions, Business Valuation Update, CFO Magazine and the Journal of Corporate Treasury Management.

Susan has testified before the ERISA Advisory Council and a joint meeting of the Organisation for Economic Co-operation and Development (“OECD”) and the International Organisation of Pension Supervisors (“IOPS”). She lectured at the Harvard Law School and addressed groups such as the American Institute of CPAs (“AICPA”) – Employee Benefits Section, Financial Executives International, and the National Association of Corporate Directors. She can be reached at or followed on Twitter @SusanMangiero.

Five Retirement Fiduciary Events That Made a Big Difference in 2016

Kudos to Chris Carosa for his continued efforts as publisher of Fiduciary News. I share his mission to educate and provide independent insights. That is why I was delighted to be one of the contributors to his recent article, "These Five Developments Dramatically Changed the Retirement Fiduciary World in 2016."

My view is that it is hard to pinpoint standalone issues. So many areas overlap. For example, a discussion about fiduciary litigation frequently involves questions about the reasonableness of fees. A conversation about fees often means talking about asset allocation as well. An analysis of asset allocation trends is commonly linked to investment performance realizations. When one talks about returns, it is usually in the context of economic forecasts. Overlay regulatory mandates, including the imminent U.S. Department of Labor Fiduciary Rule, and it becomes apparent that retirement plan governance is complex territory. Nevertheless, Chris did a noble job of listing significant and distinct trends with his readers. His list includes the following:

  • Capital Markets - Low interest rates continue to challenge both institutional and individual investors. The pension risk transfer market is experiencing unprecedented growth as sponsors seek to focus less on retirement plan management and more on operating their core businesses. Post-election, the U.S. market seems poised for better returns in 2017 although it is thought that low-cost index funds will remain popular.
  • Excessive Fee Litigation - The attention paid to fee levels and the process of assessing reasonableness continues to grow. Some believe that the proliferation of lawsuits has resulted in improved governance regarding the selection and review of various funds. I am quoted as saying that "...investors in search of turbo-charged performance struggled with the reality that the costs of alternatives, derivatives and structured products are generally higher than passive funds."
  • Fiduciary Rule - Uncertainty is the watchword with multiple plan sponsors unsure about what they might want to delegate to a third party. Consulting firms that offer independent fiduciary services have an opportunity to help their clients solve real compliance problems.
  • State Sponsored Private Employee Retirement Plans - Deemed controversial by some, these arrangements to help small business employees are being rolled out by states throughout the nation. The goal is to encourage savings over the long-term although I have doubts about accountability and redress for disgruntled participants. Click to read "State Retirement Arrangements for Small Business Employees" (June 9, 2016) and "Public-Private Retirement Plans and Possible Fiduciary Gaps" (June 5, 2016).
  • Presidential Race - Carosa writes "Of all the events of 2016, nothing will have had more of an impact than the presidential election." Perhaps he is correct. Already the yearend markets have been chugging upward and optimism is on the rise. Yet there are questions about whether regulations such as the Fiduciary Rule will be weakened or perhaps eliminated altogether. Should that occur, financial service industry executives will need to respond.

The article lists other developments including restructuring deals. I am quoted as saying "Restructuring deals have made 2016 a notable year in terms of the number of pension risk transfers and the outsourcing of the responsibilities of a Chief Investment Officer to a third party. Bankruptcy has catalyzed the restructuring of multiple plans, much to the dismay of the savers who have been asked to accept lower benefits. Service providers who have been ordered by the courts to take less favorable terms as swap counterparties or consultants are correspondingly glum."

President John F. Kennedy declared "Change is the law of life. And those who look only to the past or present are certain to miss the future." I concur. Where there is disruption, there is always the opportunity to address a problem and win the hearts and wallets of investors.

Here's to a terrific 2017. Happy holidays!

Improving the RFP Process

A few months ago I was asked to complete a Request for Information ("RFI") by the sponsor of a large pension plan. Their goal was to hire an independent outside party to vet the investment management policies and procedures of its outsourced manager. I've long maintained that it is an excellent idea to have someone review operations and render a second opinion about how asset managers perform relative to a retirement plan's objectives, how much risk is being taken to generate returns, the extent to which the asset manager is mitigating risks and much more.

While this type of "kick the tires" engagement is not as common as many think it should be, that could change quickly. The Outsourced Chief Investment Officer ("OCIO") business model (sometimes referred to as the Delegated Investment Management or Fiduciary Management approach) is rapidly growing at the same time that recent mandates such as the U.S. Department of Labor's Fiduciary Rule, along with a flurry of lawsuits that allege breach, call more attention to how in-house plan fiduciaries hire and monitor their vendors.

Given the relative newness of this type of engagement and the fact that a review can mean different things to different people, I strongly recommend that the hiring party consider how much work they want done and what budget applies. In the case of the aforementioned invitation to submit a work plan and detailed budget, my colleagues and I were told by the plan sponsor they weren't really sure what should be done. Our suggestion was to carry out a preliminary review of existing policies, procedures and operations, report the findings to the trustees and then discuss what could be done as a subsequent and more granular assessment, if needed. This would get the ball rolling in terms of identifying urgent concerns and avoid having to write a big check. Even with an opportunity to ask questions of the hiring plan, there were still many unknowns. For example, would the plan sponsor be willing to pay for a complete investigation of items such as vendor's data security measures, adherence to its compliance manual, growth plans, risk management stance, employee personal trading safeguards, measures to avoid conflicts of interest, business strength, type of liability insurance in place and verification (if true) that back office cash management was separate from trading or instead have an examiner concentrate on a subset? When the plan sponsor said it wanted to have an outside reviewer look at historical investment performance numbers, was its goal to assess data frequently or over a longer period of time, relative to a selected benchmark, relative to an asset-liability management hurdle, based on risk per return units and so on?

Anyone who has reviewed bid documents from public and corporate plan sponsors will likely conclude that there is not much consistency, especially for due diligence and governance assignments. That's not ideal. Yes, it's true that facts and circumstances will differ but clarity in terms of what a hiring plan wants can be a plus for everyone. I think it would likewise be helpful for the bid document to state a budget number or "not to exceed" range and let the respondents suggest what work could be reasonably done for that fee. Both the buyer and seller would know at the outset whether it makes sense to proceed with discussions. Another way to go would have the plan sponsor hire someone to interview its in-house fiduciaries, identify and rank their major concerns and then use that information to create a structured Request for Information or Request for Proposal ("RFP") that would be distributed to potential review firms. This exercise would entail a short-run expense but could save money in the long-run by ensuring that the plan sponsor and the review team are in sync about expectations and deliverables.

The bidding process is often a tough one for both buyer and seller. In 2015, I interviewed the co-CEO of a company called InHub, Mr. Kent Costello. I have no economic connection with this company. I had asked for a demo after reading about the use of technology to help fiduciaries with their search and hiring of third parties. In answer to my question about the limitations of the existing RFP process for the buyer, Kent said "It can be difficult for investment committees to put together a list of questions that will help them to effectively compare firms and service offerings ... Poorly crafted, irrelevant, or repetitive questions will lead to a weak due diligence process and leave the committee confused and frustrated. Worse yet, it could mean the selection of an inadequate vendor." Just as important, he pointed out that sellers could be reluctant to take the time and money to prepare a detailed proposal, "given the low likelihood of winning the business..." Click to read "Electronic RFP Process and Fiduciary Duty."

Process improvement is always a plus, whether applied to crafting a bid document, responding with a proposal or implementing the work, once hired.

Surveys Highlight Importance of Fiduciary Focus When Hiring Advisors

According to an August 17 press release from Fidelity Investments, "fiduciary responsibility tops plan sponsors' reasons for hiring advisors." What's more, this poll of nearly 1,000 defined contribution plan decision-makers makes clear that knowledgeable third parties have an edge in being hired and retained, especially if they can offer input about plan design and investment selection. Cited areas of concern include the following:

  • Increasing employee participation;
  • Properly measuring investment performance; and
  • Making sure that investment risk goals are heeded.

A 2016 Mass Mutual survey reveals similar findings that plan sponsors want help with plan design, discharging fiduciary duties and investment selection. Moreover, about two-thirds of respondents said they want an advisor who works with companies like theirs. 

It's no surprise then that educational initiatives continue to develop in response to changing regulations and an enhanced focus on fiduciary duties. As announced last month, the American Retirement Association has partnered with Morningstar "to develop a fiduciary education and best practices program for advisors."

April 2017 will be a busy month for many as they seek to comply with large chunks of the U.S. Department of Labor Fiduciary Rule.

Company Worries About Retirement Readiness

According to a new report from Willis Towers Watson, corporations worry that employees cannot afford to leave the labor force on schedule. Fearing higher costs, many employers describe anemic retirement readiness as a "top risk" yet few monitor this on a regular basis. Researchers write "These findings suggest that sponsors have an opportunity to improve the governance of DC plans by increasing the frequency with which they monitor retirement readiness, as specific metrics on readiness would offer sponsors insight on the overall effectiveness of their plan." For a full read of this report, click to download "Unlocking Value From Effective Retirement Plan Governance."

Unfortunately, if results of a new FINRA Investor Education Foundation study reflect widespread reality, Corporate America may have an uphill and expensive battle on their hands. Nearly eighty percent of respondents self-identified as financially literate despite low scores on a quiz they took to test their knowledge. Making matters worse, financial education is a rarity. Six out of ten persons answered "No" when asked "Was financial education offered by a school or college you attended, or a workplace where you were employed?" 

Notably, the 2015 National Financial Capability Study reveals a financial literacy income gap with persons earning less money seemingly in need of greater help. If, as some predict, the U.S. Department of Labor Fiduciary Rule makes it harder for smaller investors to access financial advice, employers may need to pick up the slack. If that occurs, expect companies in search of long-term labor cost savings to incur bigger short-term cash outflows to provide employees with adequate financial education (to the extent allowed).

The takeaway is that retirement plans have a bottom line impact on shareholders. Companies offer programs to attract and retain talent but are mindful of the cost-benefit tradeoff.

Pensions and Politics

Since I started this blog a decade ago, I've repeatedly lamented the unfortunate situations when investment decisions are determined by politics rather than based on prudent process. As I read "Teachers Union and Hedge Funds War Over Pension Billions" by Brody Mullins (Wall Street Journal, June 28, 2016), I can't help wonder if pensions are once again being used as political ping pong balls.

Mind you, I am not advocating a particular strategy or asset class for any of the teacher funds mentioned in the article. One would have to examine relevant facts and circumstances, investment goals and risk tolerance, at a minimum. However, as a taxpayer and fiduciary expert, I am disturbed by the possibility that asset managers are being lopped off an approval list (or added as the case may be) on the basis of whether they disagree (or agree) with the views of the American Federation of Teachers ("AFT").

In 2015, multiple organizations (including the AFT) published "All That Glitters Is Not Gold," a thirty-nine page analysis of eleven U.S. public pension plans that invested in hedge funds. Authors of the study urge decision-makers to:

  • Carry out "an asset allocation review to examine less costly and more effective diversification approaches" and
  • Mandate "full and public fee disclosure from hedge fund managers and consultants" to include information about performance.

These recommendations seem to make sense and should be applied to all asset classes with two qualifiers. First, cost is not necessarily the sole determinant. Selection and monitoring should consider numerous factors such as how an asset manager mitigates risks, safeguards against rogue traders and ensures operational excellence. Second, performance numbers should be consistently measured across asset managers, go beyond historical numbers, be adjusted for risk-taking and much more.

My prediction is that we'll have lots more news about politics and pensions. This could be a good thing if actions by lawmakers and public pension trustees evidence improved oversight and good governance. Otherwise, questions asked about dubious practices may get answers too late to effect meaningful change.

Note: In terms of full disclosure, I was part of the team that reviewed New York City Employee Retirement System ("NYCERS") operations. I was not involved with any discussions about changing asset allocations.

More About the Fiduciary Gap

Thanks to the many people who shared their insights about various state retirement arrangements for eligible private company employees and the need for a proverbial umbrella to address the fiduciary gap.

Let me start with the Nutmeg State program since I discussed it in two earlier posts. Interested parties can click to download the final legislation that sets up the Connecticut Retirement Security Exchange. (Note the new name.) Several changes caught my eye.

  • On page 156 of 298, there is a provision that "If a participant does not affirmatively select a specific vendor or investment option within the program, such participant's contribution shall be invested in an age-appropriate target date fund that most closely matches the participant's normal retirement age, rotationally assigned by the program." If "rotationally" means "random," it will be helpful to know how board members identify age cohorts and select (and monitor thereafter) a particular product for each group.
  • Regarding a provision that allows the sitting governor to individually select the board chair without the advice and consent of the General Assembly, a best practice is that the engagement process be transparent. Interested parties want to know that the appointment reflects the right person for the job
  • It would be helpful to know the basis for why the voluntary opt-in for small businesses with more than five employees was removed. After all, forced regulation could end up costing firms so much in terms of paperwork and payroll set-up that hiring plans are put on hold.
  • It would be helpful to know how the three percent default contribution level will be tracked so that legislators will know whether to seek an increase later on. It's a low number, especially given the math for what can be done privately. Suppose a person makes $50,000 per year in wages. The three percent deduction translates into $1,500. In 2016, the IRA contribution limit for someone younger than fifty years is $5,500. Should an individual decide to allocate the maximum, participation in the state program will logically require that the individual go elsewhere to invest the additional $4,000. Why doesn't that individual simply invest the full $5,500 with one reputable organization? I assume the counter argument is that an individual who would not max the annual IRA limit needs a nudge in the form of the state program.

As I wrote in "State Retirement Arrangements for Small Business Employees," there are multiple state endeavors and one would need to examine the details of each one to assess economic impact and pension governance implications. Questions about federal programs exist as well. Putting aside dire long-term projections about the U.S. Social Security Trust Fund, absent reforms, several critics are unhappy with what they see as a fiduciary gap for anyone enrolled in the myRA program. By way of background, there are no fees to the individual enrollee. This is good but the guaranteed return is low because it is tied to federal debt security yields. For June 2016, the number is 1.875 percent APR. There is a lifetime maximum of $15,000 for eligible persons. A person's employer must agree to facilitate automatic deductions which means you must be employed.

One attorney I called today said he did not think there is a fiduciary in place for this federal product. Chris Carosa, editor of Fiduciary News, has another take. In "Does "myRA breach fiduciary duty?" he lays out reasons why he thinks the myRA product is "blatantly ill-suited for retirement savers." He decries the "oozing irony" of political leaders who want the Fiduciary Rule applied to others but not to themselves, adding there is no diversification potential and the selling firm (i.e. the U.S. Treasury) is conflicted by distributing its own product. Another retirement industry professional wants to know "What fiduciary would MANDATE that a twenty-five year old invest his or her retirement assets in a short to intermediate term government bond fund and expect to avoid liability?

You get the picture. We need to understand where the fiduciary gaps exist and then strive to close them as quickly and efficaciously as possible.

State Retirement Arrangements for Small Business Employees

After posting "Public-Private Retirement Plans and Possible Fiduciary Gaps," a senior legal expert kindly informed me that Connecticut's legislation draws extensively from U.S. federal pension law. (ERISA does not directly apply to most government plans and the U.S. Department of Labor has proposed a safe harbor that would exempt states from being tagged as ERISA fiduciaries.) Interestingly, a word search for "fiduciary" in the Public Act No. 16-29 document comes up empty. Specifically, as laid out in Section 6, entitled "Board Duty To Act With Prudence And In Interest of Participants," the Connecticut Retirement Security Authority board of directors are to act with the "care, skill, prudence and diligence under the circumstances then prevailing that a prudent person acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of like character and with like aims" and solely "in the interests of the program's participants and beneficiaries."

Regarding legal redress, my understanding is that individuals who allow their employers to deduct three percent of their taxable wages to be placed in an "age-appropriate target date fund" or similarly allowed investment will not have the right to sue individual members of the Connecticut Retirement Security Authority Board nor will they have the right to sue the State of Connecticut. They will have to rely on authorized directors and the Attorney General to properly oversee selected service providers and take corrective action to improve things going forward. However, even if participants can demonstrate economic harm, they would not be able to recover past damages.

Programs offered by other states vary. One would have to research dozens of legal documents to compare and contrast governance, investment opportunities and conflict of interest avoidance mechanisms. Interested parties can visit the Pension Rights Center's State-based retirement plans for the private sector or the AARP's State Retirement Savings Resource Center. I am not sure how often these websites are updated.

I remain skeptical and am not alone. Michael Barry, president of the Plan Advisory Services Group, explains his reservations in "Are State Plans the Answer?" (Plan Sponsor, November 2015). Paul Schott Stevens, president and CEO of the Investment Company Institute, gives a thumbs up to private initiatives such as expanding multiple employer plans or MEPs to include smaller companies. Another way forward would be to simplify 401(k) plan regulations to encourage employers to better help their workforce save for retirement. See "State-Run Retirement? Better to Go Private" (Wall Street Journal, February 7, 2016).

My lack of enthusiasm for these state-run programs has more to do with philosophy and a desire to encourage economic growth. Here is some food for thought.

  • Small businesses around the world are drowning in a sea of regulations. According to an article in Small Business Trends, there is an inverse relationship between company formations and the number of pages in the Federal Register. These "little engines that could" create jobs are not leaving the train station, discouraged by too many rules.
  • As any free market economist can handily demonstrate, unintended consequences often occur, resulting in added expense and unwelcome behavior. Instead of spending X hours per month on growing sales and profit, a small business owner that is obliged to complete paperwork may now forego hiring new employees or cut back on existing perks.
  • Some of the states that are setting up retirement programs for private company workers have a poor track record as evidenced by underfunded pension plans for municipal staff.
  • Unless one is convinced that small company employees are unable or unlikely to set up an IRA on their own, these state-involved arrangements are not needed. CNBC reports that "Employees participating in auto enrollment tend to contribute less than people who sign up for 401(k) plans on their own, often because their employers set a low default contribution level."
  • It's not clear to me that individuals will have a better level of consumer protection by being part of a state-run program versus setting up an IRA account directly with a reputable financial institution. So far, no one has convinced me to the contrary.

I'm all for encouraging individuals to save for the long-term but I seriously wonder why government has to be involved with every decision someone makes. Hopefully I will be proven wrong and these state programs for private company employees will succeed.

Note: I welcome insightful essays and commentaries on this and other relevant pension governance topics. If you would like to be a guest contributor, please email with your idea or write-up.

Susan Mangiero, PhD Joins Financial Women's Association Panel About Fiduciary Rule

Dr. Susan Mangiero will join a panel of esteemed experts to talk about the U.S. Department of Labor's Fiduciary Rule on June 21, 2016. Sponsored by the Financial Women's Association, New Jersey chapter, CPE credit is available (CLE credit is pending). Meeting at the Seton Hall School of Law in Newark, this timely event features the following speakers:

  • Gregory F. Jacob, Esquire - Moderator - Former Solicitor of the U.S. Department of Labor, Partner in the Washington, DC office of O'Melveny & Myers and a member of the Financial Services and Labor and Employment Practices;
  • Susan Mangiero, PhD and Accredited Investment Fiduciary Analyst - Panelist - Forensic economist, investment risk governance expert and author/researcher with a focus on ERISA and non-ERISA fiduciary best practices;
  • Kathleen M. McBride, AIFA - Panelist - Founder of The Committee for the Fiduciary Standard and The Institute for the Fiduciary Standard, a nonprofit, nonpartisan think tank dedicated to providing research, education and advocacy on the fiduciary standard's impact on investors, the capital markets and society; and
  • Margaret Raymond - Panelist - Vice President of T. Rowe Price Group, Inc. and T. Rowe Price Associates, Inc. and managing counsel with a focus on legal matters relating to retirement savings, including ERISA fiduciary principles and other retirement plan administration topics.

 Some of the many topics to be addressed include the following:

  • Features of the Fiduciary Rule and how different market segments are likely to be impacted;
  • Past, present and future characteristics of the IRA marketplace;
  • Use of robo advisors;
  • Product availability and asset allocation, post regulation; and
  • Legal challenges being filed to forestall the implementation of the DOL Fiduciary Rule.

For further information and to register, click here. A special thanks to Dr. Dubravka Tosic and Attorney Gregory Jacob for putting this event together and arranging for continuing education credit.

Note: Prior to June 21, it was decided to reschedule this event in the fall of 2016.

Public-Private Retirement Plans and Possible Fiduciary Gaps

Hot off the press, a study from Pew Charitable Trusts ("Pew") examines retirement benefit planning by geography. Key takeaways from "A Look at Access to Employer-Based Retirement Plans in the Nation's Metropolitan Areas" and a summary by Pew's Director of Retirement Savings, John Scott, include the following:

  • At least four out of ten full-time employees work for private companies that do not offer a retirement plan;
  • Where one works can influence whether an individual has access to an employer-provided retirement plan;
  • Data shows that access is lowest in Florida, Texas and California; 
  • Access is typically lower for employees of small companies;
  • Workers who earn more than $100,000 per year generally have greater access to an employer-sponsored plan than individuals who earn less than $25,000; and
  • Underserved employees (in terms of access to a company-provided retirement plan) are clustered in large cities.

These insights validate what many know. Millions of people worldwide are not saving enough by far for retirement. One response (not surprisingly) is for government involvement to encourage individuals to save more. On November 16, 2015, the U.S. Department of Labor ("DOL") announced its proposed regulation to enable states to facilitate retirement plans for uncovered private sector employees without being subject to the Employee Retirement Income Security Act ("ERISA"). Read "State Savings Programs for Non-Government Employees" for details.

As the result of this suggested safe harbor (as I don't believe the DOL regulation has been passed yet), lots of states are jumping on the retirement bandwagon. Besides the State of Washington, California and Illinois require or encourage mostly smaller employers to offer a plan or engage in getting their employees to join a state network.

Not everyone is shouting with glee. According to "Initiatives for private-sector retirement moving to states" by Hazel Bradford (Pensions & Investments, January 25, 2016), certain financial service organizations fear increased compliance costs due to a patchwork approach across fifty states. Another concern is whether participants in newly formed state programs will be adequately protected. Even if a state private-public program is run by those who have sufficient experience and knowledge, will they be held to a fiduciary standard? If not, why not? If so, how will the fiduciary standard compare with ERISA norms if ERISA does not apply? In my discussions with several persons involved in this area, they too share the concern about a fiduciary gap.

Consider the case of Connecticut. After threatening to veto the bill to create the Connecticut Retirement Security Board in mid May 2016, the Nutmeg State's governor signed the act on May 27 with operations planned to commence in 2018. According to the original text for sHB 5591, if an employee does not "affirmatively opt in" then a "qualified" employer must enroll each employee and deduct three percent of taxable wages "up to normal IRS limits." An employee can opt out by indicating a contribution level of zero. The chairperson and other directors of the Connecticut Retirement Security Board will be selected by the governor in concert with the General Assembly. The board members must "act with care and solely in the interests of the program participants" with power given to the attorney general to "investigate violations of this requirement and to seek injunctive relief regarding violations." Board members are to have "protection from individual liability."

I will defer to attorneys to hash the legal niceties about individual state endeavors to assist private company employees. From a governance perspective, I belief strongly that private company employers, plan participants and taxpayers must have answers to critical questions such as those listed below:

  • How will board members be protected? If they are to be covered by some kind of liability insurance policy, who will pay the premiums and determine the adequacy of coverage? Will taxpayers be asked to pay anything if something goes awry and the insurance policy is insufficient?
  • Who will monitor the performance of board members to assess possible conflicts of interest?
  • Will board members be term limited?
  • Will board members be compensated and who will pay their compensation?
  • In the event of a major snafu, do participants have any redress? If so, to whom and on what basis? Litigation? Mediation? Arbitration? Other?
  • When would board members act as fiduciaries? Will their actions be evaluated on the basis of state trust law? If so, how does the state trust law compare to ERISA fiduciary duties? Weaker? Stronger? Same?
  • Would individuals have stronger protection if they transact directly with a financial service company and open up an IRA on their own?

In the aftermath of the passage of the U.S. Department of Labor Fiduciary Rule (acknowledging several legal challenges just filed), the concept of fiduciary duty is foremost on the minds of numerous industry executives and policymakers. Will public-private retirement plans receive the same scrutiny or is there a fiduciary gap? If the latter, who is on the hook in case of a problem?

The DOL Fiduciary Rule, Seller's Exception and Independent Fiduciaries

How does a service provider determine whether it is making a recommendation to "independent fiduciaries of plans and IRAs with financial expertise?" This is a key question that could determine whether an organization or individual is tagged as an ERISA fiduciary and subject to added liability as a result.

According to "Chart Illustrating Changes From Department of Labor's 2015 Conflict Of Interest Proposal To Final," one of several modifications includes the following: "Providing an expanded seller's exception for recommendations to independent fiduciaries of plans and IRAs with financial expertise and plan fiduciaries with at least $50 million in assets under management is not fiduciary advice."

As always with legal issues, I defer to knowledgeable attorneys to parse this language. However, given an implementation deadline, compliance professionals of firms that sell to ERISA plans and IRA owners no doubt want to clarify definitions and concepts such as "independence" and "financial expertise."

One attorney with whom I spoke suggested the intent is to lower the chance of a conflict such as when a fiduciary receives compensation for a vendor or product he helped put in place. Another attorney put forth the notion that fiduciaries of a "larger" plan (in this case, a trust with assets above $50 million) could be seen as more "sophisticated" and "informed." I'm not convinced that the ambiguity of the final language can be dispatched without addressing a series of questions, some of which are listed below.

  • Is a consulting firm that seeks an exception and wants to sell its delegated investment management or Outsourced Chief Investment Officer ("OCIO") services thereby prohibited from pitching any of its own proprietary products and using them if it wins a contract?
  • When a C-level executive such as a Chief Financial Officer sits on a plan investment committee, who will assess whether her decisions are made solely in the interest of plan participants and not to plump up a bonus tied to a particular decision or outcome?
  • Can a seller avoid fiduciary classification if the client is a plan or IRA with assets less than $50 million but managed by knowledgeable fiduciaries?
  • Might a seller fail to procure an exception if it is later shown that a plan or IRA with more than $50 million in assets is "large" but managed by fiduciaries who do not possess financial expertise?
  • How do sellers intend to determine whether "financial expertise" exists and can they do so without insulting potential buyers?
  • How will existing "know your customer" guidelines change to accommodate the notion of "financial expertise?"
  • How do regulators intend to determine whether "financial expertise" exists?
  • If there are multiple fiduciaries and some possess "financial expertise" but others do not, is the seller at risk for losing the exception or not obtaining it in the first place unless it can verify that all in-house fiduciaries are competent?
  • If a plan fiduciary or IRA owner or manager changes, does the seller need to assess "financial expertise" for the replacements? Does the U.S. Department of Labor need to do likewise? 
  • On what basis is the $50 million determined? At a point in time or as a rolling average? Are assets to be based on market value or book value or something else? Will regulators review Form 5500 numbers to determine if the $50 million test has been met?

If anyone knows of an article or webinar that addresses these issues, please kindly email I would like to share resources about "independence" and "financial expertise" with readers of Pension Risk Matters.

Note: Interested persons can click to download "Pension risk, governance and CFO liability" by Dr. Susan Mangiero (Journal of Corporate Treasury Management). The phone number listed on the article is not current. 

Fiduciary Certification and Training

Last week, I had the pleasure of speaking to Dr. Anna Tilba with the Newcastle University Business School in the United Kingdom ("UK"). A mutual colleague had suggested we speak since we both work in the governance area. Dr. Tilba has studied the fiduciary practices of investment intermediaries. Her report fed into the UK's Law Commission publication about current fiduciary standards and areas for improvement.

One of the topics that arose during our conversation was the need for adequate fiduciary education and what she referred to as the professionalism of investment stewards. I agree that having experienced and knowledgeable individuals in place is critical. Even if the intent is to outsource certain services to others, investment committee members are tasked with making an informed decision about what to delegate and to whom.

Stateside, the U.S. Department of Labor ("DOL") continues its Fiduciary Education Campaign. Each seminar covers topics such as those listed below:

  • Comprehend the nature of each ERISA plan offered;
  • Apply rigor in selecting and monitoring service providers; and
  • Steering clear of prohibited transactions.

DOL website visitors can access something called the ERISA Fiduciary Advisor for information and answers to questions about duties. It's a tool that should help beginners although the DOL cautions that content is not "intended to be a substitute for the advice of a retirement plan professional."

So far, there is no uniform set of answers to questions such as the following:

  • How should in-house fiduciaries be selected?
  • How should in-house fiduciaries (individually and as a group) be assessed in terms of demonstrating procedural prudence?
  • Should in-house fiduciaries receive a bonus for achieving certain plan-specific goals?
  • Does everyone on an investment committee need to be equally proficient in a particular subject area or should someone serve as a Sarbanes-Oxley type of "financial expert?" 
  • Do in-house fiduciary term limits make sense?
  • How do variables such as plan design and characteristics of the workforce impact the kind of fiduciary education needed?
  • How should training differ for small to medium sized plans as addressed by the "Report of the Working Group on Fiduciary Education and Training?"

The good news is that data exists to benchmark myriad types of retirement plan decisions in terms of process and not just outcomes. Furthermore, there is a large array of training opportunities. Click here to download the "Retirement Plan Professional's Designation & Certification Guide" to learn about several dozen available offerings. Note that this document has a 401k focus. The bad news is that not all programs are created equal in terms of topic coverage. Even if they were sufficiently similar, facts and circumstances for a given retirement plan often dictate the need for specialized training not required elsewhere. 

Although fiduciary training is uneven across plans, sponsors and geographic location, I predict that lawmakers here and outside the United States will eventually impose universal certification requirements for retirement plan fiduciaries. I don't think a "one size fits all" approach to fiduciary training is ideal but political pressures will almost surely prevail. As the collective pension crisis worsens (and I acknowledge that lots of plans are in great shape), participants and taxpayers will want to know who was in charge of troubled schemes and how they made decisions. Proverbial heads tend to roll when voters' wallets shrink.

Pension Risk Matters Blog Turns Ten Years Old

A decade after its debut on March 23, 2006, Pension Risk Matters is still going strong with well over 1 million visitors and over 1, 000 commentaries. At the time of its inception, there weren't too many economic blogs devoted to topics such as pension governance and risk management. I'm not sure why. Then and now, these areas command attention. Nevertheless, I want to express my heartfelt thanks to readers, commenters and individuals who allowed me to interview them and also to Pensions & Investments for its recognition of Pension Risk Matters as a "best blog."

As I reflect on the last ten years of blogging, I decided to pen ten takeaways about my experiences. Here they are:

  1. Blogging can be enjoyable if you like to write (and I do). However, it does take time and not everyone has the inclination to research a topic, write about it and then edit their work. On average, I review each blog post for grammar, spelling and consistency two or three times before I hit the "publish" button. In addition, I test any embedded web or file links to make sure that they work.
  2. When it comes to blogging about a time-sensitive topic, not everyone can respond quickly. Many companies have social media policies that strictly prohibit an employee from posting to a blog or other platform without having content pre-approved by a compliance officer.
  3. A blogger should have a mission that makes it easy to return to the keyboard over and over. In my case, I have long been a believer in the importance of sharing information about industry trends and best practices. I strive for neutrality by writing in a way that hopefully educates and informs rather than taking an advocacy position about a particular investment or service provider.
  4. Identify a good technology vendor with whom you can collaborate. Originally, I created blog posts as part of a company website but soon found that approach wanting. As a result, I searched for a company that could provide added functionality. I ended up selecting Lex Blog to design Pension Risk Matters as a standalone blog destination. Later on, I asked Lex Blog to design a second blog - an investment compliance blog called Good Risk Governance Pays. Luckily I have not had too many reasons to contact customer support. When I have, they have responded quickly. Another advantage of working with a dedicated blog company is the ability to bounce ideas around about content delivery and enhancing traffic.
  5. Know the parameters of what is likely to work in terms of ease of use and access. Last year, I had Lex Blog migrate content on Good Risk Governance Pays to a responsive platform that allows readers to quickly view blog posts on a smart phone or tablet. I plan to do that soon with Pension Risk Matters.
  6. Add humor whenever possible. It's not easy to spin jokes about serious subjects such as due diligence or reasonableness of fees. What I do instead, when appropriate, is to choose colorful photos that stand out or begin a commentary with an attention-grabbing quote or anecdote. I'm always happy when readers tell me that they enjoyed reading a post because it was funny or at least memorable.
  7. If you use photos (and I recommend that you do), make sure that you have permission. I am a paid subscriber to several stock photo services, each of which has its own terms and conditions and rate schedule. Whenever someone contacts me with a request to use a photo, I suggest that they contact one of these photo services directly.
  8. Link back to earlier posts if it makes sense to do so. I mark each of my essays as belonging to one or more categories such as Fiduciary Education, Hedge Funds or Valuation. By doing so, life is simpler later on. I can click on any category link to refresh my memory about a preceding analysis that may have relevance to the topic du jour. For example, I just wrote about possible private equity obligations to a portfolio company with an underfunded pension plan(s). I did not remember the exact dates of an earlier set of posts I authored but clicked on Private Equity to quickly find four related posts. In a few minutes, I was able to retrieve and embed various links in my April 2, 2016 write-up.
  9. Be curious and stay abreast of industry happenings. This should be occurring anyhow, especially as the financial services industry continues to shake out from changing regulations, competitive pressures and market events. It's straightforward to set up Google alerts for various keywords and sign up for magazine newsletters. Make notes when attending conferences or webinars. Ask readers for suggestions about what they want to know. I never have a shortage of ideas. 
  10. Have fun. While true that numerous business bloggers commit time and money as part of an overall marketing and sales campaign, it is equally rewarding to be able to interact with professionals about how to stay current and seek to do the best job possible. If one of my blog posts is the springboard to such a discussion, so much the better.

Note to Readers: Many thanks again for your continued interest. If you want to guest blog about the financial services industry and are amenable to writing an educational essay, please email your topic idea and contact information.

Fiduciary Rule: Instant Gratification or Panic

If you haven't viewed Tim Urban's TED Talk about procrastination, I urge you to do so when you have a short break. He spins a tale of prioritization woe by referencing different parts of our brain. There is the Instant Gratification Monkey who tries to lure the Rational Decision-Maker from productive endeavors. This playful little fella holds sway until deadlines force the appearance of the Panic Monster. Someone then responds by pulling an all-nighter or two until the next crisis. As this illustrator and Wait But Why blog site co-founder explains, it's not an enjoyable way to manage tasks and seldom generates good results. It is far better to prepare in advance and schedule "must do items" accordingly.

Occasionally, planning ahead is difficult. Other times, it is easy. As Mr. Urban illustrates during his fifteen minute "eat your peas" presentation, there are signposts that indicate when acceleration is required. In his case, it was the appearance of his photo and bio in a TED Talks program that gave a date certain he could not ignore. For investment professionals who anticipate the eventual passage of the U.S. Department of Labor Conflict of Interest Proposed Rule into law, it is clear that significant change is afoot. Even if the exact final language or timing is unknown today, fiduciaries (now and later) may not want to sit back and wait.

Already there is talk of increased delegation to organizations that are willing to serve as either an ERISA 3(21) or 3(38) fiduciary, acknowledging that nothing eliminates risk completely. As Pension Resource Institute CEO Jason Roberts opines in an Investment News interview, "...while these offerings can limit fiduciary responsibility for advisers at the plan level, advisers could still be exposed at the participant level."

Others advance the idea that the so-called fiduciary rule will catalyze creative problem-solving, especially in the technology area, and that smart money is on first movers. See "Fiduciary Rule May Spur Product Innovation" by Andrew Welsch (Financial Planning, March 16, 2016). If you missed my earlier posts on this topic, see "Retirement FinTech Gets Another Suitor - Goldman Sachs" and "Financial Technology and the Fiduciary Rule."

Whatever path is decided on will require a minimum amount of time for contracting and setting up operations. Starting late could be costly for everyone involved. Lest you figure out a way to be able to succumb to the Instant Gratification Monkey (unlikely in the case of regulations and rules that require sufficient compliance), now is a good time for procrastinators to address priorities. Expending time right away may not be fun but is nonetheless necessary.

February 2 Hearing On New Fiduciary Bill

Grab the popcorn. At 10 am EST on February 2, 2016, the Education and Workforce Committee of the U.S. House of Representatives will live stream its hearing on H.R. 4293, the Affordable Retirement Advice Protection Act. Click here to access the website if you want to watch the hearing in real time. Click here to download the text of H.R. 4293.

The event promises to be lively. Already, industry whisperers portend an expedited 50-day review by the Office of Management and Budget ("OMB") instead of its customary 90 days of this well-watched legislation. (The U.S. Department of Labor ("DOL") sent its Conflict of Interest Rule - Investment Advice, Regulation Identifier Number ("RIN") 1210-AB32, last week.) Click here to download various proposed text.

Some still question the costs associated with compliance. According to "Bills to Replace DOL Fiduciary Rule to Get Marked Up on Tuesday" by reporter Melanie Waddell (Think Advisor, January 29, 2016), the U.S. Chamber of Commerce would like the OMB to ask DOL to rethink its economic analysis of the rule's impact. Stephen Ellis with Morningstar estimates that adhering to the fiduciary standard could cost $2.4 billion or twice the "$1.1 billion price tag" that shows up in official studies. See "Morningstar Details DOL Impact" (Think Advisor, February 1, 2016).

Others think this new mandate, if passed into law, is long overdue. Read "Fiduciary rule could make 2016 good for investors" by Mark Miller (Reuters, January 7, 2016).

Whatever happens tomorrow, there are more headlines to follow.

ERISA Investment Committee Governance

For those who missed the January 27 webinar entitled "ERISA Plan Investment Governance: Avoiding Breach of Fiduciary Duty Claims," click here to download the slides for this educational program. There were three presenters, each of us sharing a different perspective about this important topic. I spoke about economics and governance. Executive Rhonda Prussack (Berkshire Hathaway Specialty Insurance) provided information about ERISA fiduciary liability insurance. Attorney Richard Siegel (Alston & Bird) offered his takeaways for investment committee members as the result of recent litigation decisions.

As with most discussions about fiduciary considerations, there never seems to be enough time to address core concepts. So it was with this Strafford CLE event. Ninety minutes quickly came and went. Here are some of the highlights from my talk.

  • Expect more surveillance of ERISA investment committee decisions. A $25+ trillion retirement money pot and regulatory developments are two reasons. Just a few days ago, the Office of Compliance Inspections and Examinations ("OCIE") of the U.S. Securities and Exchange Commission ("SEC") emphasized conflicts of interest and disclosures as two components of its Retirement-Targeted Industry Reviews and Examinations Initiative.
  • It is a good idea to regularly review the Investment Policy Statement for each plan and either revise asset class limits or rebalance to reflect material changes such as rating downgrades of securities owned, changes in company ownership, large reported contingencies that could adversely impact cash flow or corporate recapitalization.
  • Consider crafting a companion Risk Management Policy Statement or beef up the risk sections in the Investment Policy Statement(s).
  • Document the process that dictates how new investment committee members are selected, whether they are trained (and by whom) and how they are reviewed, by whom and how often.
  • Consider installing a central figure or team to negotiate all vendor contracts and clarify exactly who does what. The goal is to avoid an expectation gap that arises when a contract is ambiguous or silent on tasks that an investment committee needs to have done but a service provider does not want to do or thinks it is not obliged to perform. 
  • Double check the compensation of investment committee members to minimize the risk of conflicts of interest. Suppose for example that a Chief Financial Officer ("CFO") sits on an ERISA plan investment committee at the same time that he is eligible for a bonus if he can cut costs.
  • Engage ERISA plan counsel to put together a "kick the tires" team of economists and attorneys who can render an objective assessment of existing internal controls, governance structure and investment policies and procedures and then recommend changes as needed. 

As with any exercise in good stewardship, taking (and documenting) relevant precautionary actions can be a good defense for an ERISA plan investment committee, especially at a time of heightened scrutiny.

Chief Retirement Officer Redux

Skittishness about an individual's financial ability to retire is one factor that I believe underlies continued ERISA litigation activity. As I suggested to Wall Street Journal reporter Anne Tergeson, "'There has been quite a focus on the retirement crisis which has created significant nervousness about this gigantic pool of' 401(k) money and whether it is being managed properly." See "Lawsuit Alleges Anthem 401(k) Plan Exposed Participants to Higher Fees," January 8, 2016. (As an aside, I am not involved in this litigation and did not comment on this case for the article.)

Perhaps these same jitters about retirement readiness explain why some might consider the installation of a Chief Retirement Officer. Senior ERISA attorney Stephen D. Rosenberg writes that this idea is "so simple...and so brilliant..." in his commentary entitled "What Can a Chief Retirement Officer Do for You?" (December 9, 2015). In my piece about the same topic, I countered that hiring this kind of C-level executive may still prevent ERISA puzzle pieces from snapping easily into place. In "Chief Retirement Officer and a Seat at the Table," I cite the challenges of finding someone knowledgeable enough to navigate complex issues that transcend law, corporate finance, human capital enhancement, governance and investment management. I further question whether a Chief Retirement Officer would help or hinder the work of a Chief Risk Officer if one exists.

Stirring the pot further, Dr. Richard Glass, president of Investment Horizons, shared with me his view that a Chief Collaboration Officer may be a smarter move. Such a person would have a "primary duty" "to break down corporate and consulting silos." His view is that "These silos prevent the successful implementation of talent management (including engagement efforts) and business strategies and thus the level of profitability." Coincidentally, I spent nearly an hour on the phone today in a lively discussion about how to adjust enterprise value to reflect defined benefit plan underfunding. Earnings, share price and overall corporate worth is impacted by ERISA plan economics.

A "silo mentality," as defined by, is "A mind-set present in some companies when certain departments or sectors do not wish to share information with others in the same company. This type of mentality will reduce the efficiency of the overall operation, reduce morale, and may contribute to the demise of a productive company culture." A reasonable person could quickly conclude that a failure to communicate across functions is fraught with problems. Using case studies and her knowledge of anthropology, prominent Financial Times editor Dr. Gillian Tett makes the case for getting rid of organizational walls in her 2015 book entitled The Silo Effect: The Peril of Expertise and the Promise of Breaking Down Barriers.

Fortunately, there is a solution as long as corporate management has the will to create a unifying vision and motivate management teams to work towards common goals. Forbes contributor and management consultant Brent Gleeson adds that people must be properly incentivized and that goals must be measurable. Read "The Silo Mentality: How to Break Down The Barriers" (October 2, 2013) for more of his insights.

Applied to ERISA plans, the temptation to hoard information is ill-advised. If true that corporate power grabs exist and impede the ability for investment fiduciaries to carry out their duties, a Chief Retirement Officer might not have the clout to coalesce competing interests. Unlike a Chief Risk Officer who reports to a corporate board to ensure her authority and independence, a Chief Retirement Officer would likely wear the hat of fiduciary and have to put participants' interests ahead of those of shareholders. (The plot thickens when plan participants are contemporaneously shareholders by virtue of investing in company stock as part of a 401(k) line-up.) I defer to ERISA attorneys to address the separation of fiduciary "church and state" but could see someone crying foul if a Chief Retirement Officer communicates too often with company directors. Interested readers can download "Pension risk, governance and CFO liability" by Dr. Susan Mangiero for comments about two-hat conflicts. (Note that my work affiliation is Fiduciary Leadership, LLC.)

One step in the right direction towards effective pension governance is to appoint fiduciaries who have different backgrounds and can therefore facilitate a thorough discussion of various and important topics around the unifying theme of duty and care. Other ingredients of a well-baked set-up include having sensible metrics in place to assess whether fiduciaries are doing a good job. Rewarding them when they step around silos to make better decisions is likewise needed.

Whether a Chief Retirement Officer can assist here is unclear. Surely more discussions about this role make sense.

ERISA Plan Investment Committee Governance Webinar

Back by popular demand, a panel of esteemed speakers will present on January 27, 2016 about the fiduciary risks and litigation trends faced by ERISA investment committee members. Sponsored by Strafford Publications, Inc. and eligible for Continuing Legal Education ("CLE") credits, the program is entitled "ERISA Plan Investment Committee Governance: Avoiding Breach of Fiduciary Duty Claims."

Faculty speakers include:

  • Dr. Susan Mangiero - Managing Director with Fiduciary Leadership, LLC;
  • Ms. Rhonda Prussack - Vice President and Fiduciary Liability Product Manager with Berkshire Hathaway Specialty Insurance; and
  • Richard Siegel, Esquire - ERISA attorney with Alston & Bird.

The panel will review key issues such as those listed below:

  • What are the ERISA regulations with which investment committees must comply?
  • How should plan sponsors vet fiduciary risks when selecting an investment committee?
  • What litigation techniques can be implemented to minimize the likelihood of a finding of breach of fiduciary duty by an investment committee?
  • What is the role of the economic expert in assessing investment committee performance and investment monitoring, post-Tibble?
  • What is the role of ERISA fiduciary liability insurance?

Inasmuch as many ERISA lawsuits cite the entire investment committee as defendants, there is a need for each member to understand her personal and professional liability as well as the risks that arise if other members are ill-prepared, are conflicted and/or lack sufficient knowledge and experience. In other words, a best practice is for the entire committee to recognize the seriousness of fiduciary obligations and behave accordingly.

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.

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.

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?

Fiduciary Standard Thrust and Parry Continues

In the aftermath of the recent U.S. Department of Labor hearings about the fiduciary standard, the debate continues with fervor. In the last few days, I have seen television ads that are subtle but seem to impugn attempts at getting a final rule in place. Elsewhere, estimates suggest that regulations could be costly. According to "SIFMA: DOL Fiduciary Rule To Cost Firms Over $5 Billion" (Wealth Management, July 20, 2015), the Securities Industry and Financial Markets Association posits that broker-dealers will incur a large start-up outlay of about $5 billion and then ongoing costs thereafter in excess of $1 billion. Others counter that the benefits are considerable and worth the incremental expense.

Ongoing lively debates may not make a difference if Plan Sponsor's John Manganaro is correct. In "DOL Stands Firm on Fiduciary Rule Despite Negative Comments" (August 12, 2015), the point is made that Secretary Perez feels strongly that the U.S. Department of Labor (a) has been diligent in vetting critics' comments and (b) making modifications to hopefully ensure flexibility.

School is still out as to the "what, when and how." I predict that the aftermath may offer unexpected surprises. As with so many mandates, there are plenty of people who immediately look for the loopholes and act accordingly.

U.S. Department of Labor Hearings About Conflict of Interest and Fiduciary Role

Though it may seem arcane to those outside of the financial services industry, the current debate about who serves as a fiduciary, compensation and duties is a big deal. Depending on what you read and with whom you speak, millions of retirees could be materially impacted. In the spirit that what happens next is newsworthy, you may want to tuck the hearing URL away and check back often. As the four days of public hearings proceed, the U.S. Department of Labor is expected to publish a transcript of what witnesses say. Besides a chance to know what professionals from a wide variety of backgrounds aver (both pro and con), interested parties can download nearly 2,600 comment letters. Click here to access the Public Hearing Agenda for the period from August 10, 2015 through August 13, 2015. Click here to download and read the following: (a) requests to present during public hearings (b) comment letters and (c) petitions.

An Economist's Perspective of Fiduciary Monitoring of Investments

I am delighted to share my recent article with readers of this pension blog. Entitled "An Economist's Perspective of Fiduciary Monitoring of Investments" (by Dr. Susan Mangiero and published in Bloomberg BNA Pensions & Benefits Daily, May 26, 2015), I wrote this article in the aftermath of the May 18 Tibble v. Edison decision by the U.S. Supreme Court.

A central thesis is that "ongoing oversight is an exercise in risk management" and that "[r]isk management is a never ending process." The article emphasizes the importance of (a) examining multiple risk factors and not relying on performance numbers alone (b) understanding the presence of financial leverage (should it exist) (c) clarifying the role of a service provider when an outside party is used and (d) letting participants know about the type of monitoring being done by an investment committee.

The topic of this article readily lends itself to at least one lengthy book as there is a considerable amount to say. I am co-writing a sequel article with fellow economist, Dr. Lee Heavner.

If you are interested in discussing investment fiduciary monitoring as relates to trustee training, compliance or dispute resolution, please email

ERISA Litigation Webinar Transcript Now Available

Seeking to accomplish a goal without having the right tools can result in frustration and possible failure. One solution is to get outside help when needed as long as the party being hired is knowledgeable and independent. Otherwise, what looks like a solution could quickly become a problem. Applied to ERISA plans, trouble might take the form of costly and time-consuming enforcement and/or litigation. Over the last few years, that reality has set in for more than a few employers.

Recognizing the importance of abiding by good governance principles, several of us agreed to speak as part of an educational webinar on April 8, 2015 about fiduciary tools, pitfalls and lessons learned. Sponsored by fi360 and entitled "ERISA Litigation and Enforcement: The Role of the Independent Fiduciary and Best Practices for Financial Advisors," this webinar joined Attorney Tom Clark (Counsel with the Wagner Law Group), Dr. Susan Mangiero (Managing Director with Fiduciary Leadership, LLC) and Mitchell Shames, Esquire (Partner with the Harrison Fiduciary Group) to address the (a) use of an independent fiduciary (b) clarifying what an outside vendor should be doing and (c) avoiding legal and economic landmines that have revealed themselves in prominent court cases and regulatory examinations.

If you missed the event, email for a copy of the slides. Click here to download the written transcript. Edited for clarity (and because the audio file is spotty in some places), this fourteen page document lays out cornerstone concepts and includes suggestions for plan sponsors and the advisers who serve them. These include, but are not limited to, the following:

  • The outsourced fiduciary market is growing in the United States and elsewhere.
  • When an outside party is hired by a plan sponsor, it is critical to specify responsibilities and contract accordingly. When an "expectations gap" exists, some critical tasks may be left wanting or not addressed at all.
  • When multiple fiduciaries are in place, a plan sponsor must ensure that a central person or team is adequately coordinating the efforts of all fiduciaries.
  • The newly proposed Conflict of Interest rule is predicted to materially change the landscape of fiduciary relationships between plan participants and retirement advisers.
  • A fiduciary status may exist due to either a contractual agreement or by virtue of the functions assumed by an individual or organization.
  • ERISA litigation is getting more attention these days, with a particular focus on fees, use of proprietary funds, revenue-sharing and disclosure of compensation paid to investment consultants, advisers and asset managers.
  • Demonstrating procedural prudence in part depends on what others in the industry are doing (or not doing as the case may be) and whether actions make sense for a given plan.
  • A renewed focus on disclosure and transparency is in the works according to comments made by the U.S. Department of Labor.
  • An independent fiduciary can be engaged for a singular transaction or for a task that continues over a long period of time.
  • An independent fiduciary can be engaged by either a defined contribution plan or defined benefit plan or both.
  • When there is a perception or reality of a conflict of interest, it may be prudent for an independent fiduciary to be engaged. The participants pay for said party because the independent fiduciary works on behalf of the participants.
  • The concept of co-fiduciary status is important and should be paid heed by any adviser who has an ERISA plan as a client.
  • Before delegating duties (to the extent allowed) to a third party, a plan sponsor should decide what financial issues should be vetted. Liquidity, the use of leverage by asset managers and asset allocation are a few of the many topics that a delegated fiduciary could be asked to measure, monitor and manage.
  • A fiduciary audit can be extremely helpful as a tool for identifying areas of improvement for an ERISA plan sponsor.

It may be no surprise that over 500 people registered for this educational webinar about fiduciary foibles. After forty years since its inception, ERISA remains a force that cannot be ignored.

ERISA Litigation Predicted To Rise

I have just returned from Chicago where I spent two days listening to transaction attorneys, litigators and insurance company executives talk about trends in ERISA enforcement and legal disputes. Sponsored by the American Conference Institute, this assembly about ERISA litigation included sessions on class actions, Employer Stock Ownership Plan ("ESOP") problem areas, the role of economic experts in litigation, challenges to the church plan exemption, questions about excessive fees, de-risking, stock drop defense strategies, health care reform, how much ERISA fiduciary liability insurance to purchase and much more.

I took a lot of notes and intend to write about implications for plan sponsors and their service providers through an economic and governance lens.

It may be coincidental but certainly not trivial that the United States Department of Labor released its fiduciary proposed rule about conflicts of interest on the second day of this important ERISA litigation convening, i.e. on April 14, 2015. The thinking is that the adoption of a more rigorous rule could open the door wide to a multitude of further disputes and heightened examinations. Click here to access the language of the proposed rule and supporting documents.

It sounds like many will be even busier in the coming months.

Pension Risk Governance Blog Still Going Strong After Nine Years

Nine years today marked the debut of Since then, I am proud to say that traffic has steadily grown, with continued feedback and suggestions about all sorts of topics. I am deeply grateful to visitors to this independent website for their time and encouragement. While the specific feedback tends to vary by issue or job function, a central theme is clear. Ongoing education about topics such as due diligence, fees, risk management, asset allocation, hedge funds, liquidity and valuation is both needed and desired. In 2015, this award-winning blog will continue its focus on providing objective and helpful information about important subjects that challenge investment stewards and their advisors, attorneys and regulators who oversee the management of more than $30 trillion.

As I point out in "Financial Expert Susan Mangiero Celebrates Ninth Year as Lead Contributor to Pension Risk Governance Blog" (Business Wire, March 25, 2015), "There is never a shortage of subjects to discuss, thanks to ongoing suggestions and contributions from readers and the significant realities of changing demographics, market volatility and new accounting rules."

To date, there are over 900 published analyses, research updates and guest interviews that can be readily accessed by category and keyword. Simply click on the Archives section of For a complimentary subscription to this blog, as posts are published, click here to sign up. Click here to read our Privacy Policy. If you are interested in contributing an educational essay or letting us know about a relevant news item or rule change, please email

Until the next blog post, thank you for your interest!

Calvin Ball and ESOP Governance

Calvin and Hobbes has long been a favorite treat of mine. (I don't have permission to embed a likeness but you can click here for a peek.) This long-running cartoon strip ceased in 1995, ten years after the creation of a mischievous six-year old and his furry feline friend. The brainchild of cartoonist Bill Watterson, Calvin entertained and moralized at the same time, charming a global audience of adults and children alike. In a rare interview, Washington Post reporter Michael Cavna (March 10, 2015) learned from the somewhat reclusive Mr. Watterson that "fantasies are drawn more realistically than reality, since that says a lot about what's going on in Calvin's head." In "America's Most Profound Comic Strip" (Wall Street Journal, March 6, 2015), senior editor at the Weekly Standard, Christopher Caldwell, adds that "...Calvin keeps running into evidence that the world isn't built to his ... specifications" and that his "favorite sport is 'Calvinball,' in which he is entitled to make up the rules as he goes along."

I thought of Calvin and his world views yesterday as I listened to ERISA attorney Ted Becker talk about Employee Stock Ownership Plan ("ESOP") governance. As the lead speaker for an NCEO-sponsored webinar entitled "What the DOL v. GreatBanc Trust Co. ESOP Court Settlement Means for ESOPs," this Drinker Biddle & Reath LLP partner gave some nuts and bolts recommendations that are concrete and therefore radically different from the actions of ERISA trustee "Calvins" who comfort themselves that sloppy work is okay.

Mr. Becker and co-speaker Loren Rodgers (Executive Director of the National Center for Employee Ownership) explained that changing regulatory emphasis on employer security valuation led to what is known as the Fiduciary Process Agreement. Described as a "playbook," the U.S. Department of Labor ("DOL") and "GreatBanc Trust Company agreed that it could be used for future transactions by an ESOP fiduciary in which the ESOP purchases or sells employer securities that are not publicly traded." Engaging an independent and qualified valuation advisor and then adequately reviewing (and understanding) the resulting information used to carry out the valuation are two of the recommendations for trustees.

In the official source file ("Agreement Concerning Fiduciary Engagements And Process Requirements For Employer Stock Transactions" dated June 2, 2014), readers are reminded of the importance of process for multiple tasks. Among other things, this roadmap details what should be documented by the ESOP Trustee when choosing a valuation advisor, to include:

  • "The reason for selecting the particular valuation advisor;
  • A list of all the valuation advisors that the Trustee considered;
  • A discussion of the qualifications of the valuation advisors that the Trustee considered;
  • A list of references checked and discussion of the references' views on the vauation advisors;
  • Whether the valuation advisor was the subject of prior criminal or civil proceedings; and
  • A full explanation of the bases for concluding that the Trustee's selection of the valuation advisor was prudent."

This guiding document likewise lays out suggestions about process regarding the fiduciary review of any potential transaction such as buying or selling employer securities that are not publicly traded, the reliance on the valuation report and much more. As independent fiduciary Mitch Shames writes in "Once Again, Strong Process and Substance Matters" (September 11, 2014), "... DOL requires that the fiduciary be an active participant in an ESOP transaction...far from a passive role."

Having been trained as an appraiser and someone who has (a) rendered opinions of value (b) reviewed others' valuations (c) critiqued valuation models (d) taught valuation courses and (e) served as an expert witness, I know firsthand that inappropriate assumptions, bad data and short cuts are likely to create headaches. Quality of valuations that are used for statutory and commercial reasons can and do vary - sometimes materially so. A "quickie" appraisal that ignores fundamentals about an industry let's say or proceeds from grossly inflated management projections are two potential vulnerabilities. The danger is that an inadequate valuation report potentially creates a domino effect of unwanted outcomes because it is used as a driver to make subsequent decisions. For example, ESOP trustees with multiple suitors may select the "wrong" buyer or approve a recapitalization that would not otherwise occur had a better valuation assessment been used. Valuation numbers are frequently inputs as opposed to the end goal.

Big numbers are involved so it's no surprise that ESOP governance is garnering close scrutiny. According to "The Current State of ESOPs," 2012 ESOP assets exceeded $1.059 trillion with 13.824 million participants in 6,908 plans.

On a separate note, I am speaking at the annual conference of the National Center for Employee Ownership, to be held this year in Denver from April 20, 2015 to April 23, 2015. Entitled "Effective Boards of Directors: Obligations, Recruitment and Compensation," my panel will "cover the standards and responsibilities of directors in the board room, how committees function, building a sustainable board structure and standards and surveys for establishing and measuring compensation to reward the performance of directors." Attorney Kevin G. Long (Shareholder with Chang Ruthenberg & Long PC) and Ms. Nancy Wiefek (Research Project Director with NCEO) will co-present.

Fiduciary Outsourcing Considerations

I try hard to avoid duplication when contributing to this retirement plan blog ( versus writing about investment compliance on a broader scale ( However, there are times when I believe a topic has equal appeal to both plan sponsors and their advisers, attorneys, asset managers and other types of vendors.

With that in mind, I invite you to read "Fiduciary Outsourcing Considerations." As I have said both in private conversations and in public speeches, my work as a forensic economist (and sometimes testifying expert witness) leads me to predict that disputes between institutional investors and service providers are unlikely to disappear any time soon. The good news is that those who take governance seriously have a wonderful opportunity to develop and maintain business with risk management focused pension funds, endowments, foundations and other types of buyers.

ERISA Litigation Costs

After having just blogged about the April 13-14, 2015 American Conference Institute program about ERISA litigation in Chicago, it was somewhat coincidental that an article on the same topic crossed my desk today, painting a grim picture of what could happen to a plan sponsor in the event of a lawsuit.

While only two pages long, "An Ounce of Prevention: Top Ten Reasons to Have an ERISA Litigator on Speed Dial" invites readers to consider the advantages of staying abreast of increasingly complex rules and regulations as part of a holistic prescription for mitigating legal risk. Authors Nancy Ross and Brian Netter (both partners with Mayer Brown) cite "heightened interest" in ERISA by U.S. Supreme Court justices, a rise in U.S. Department of Labor enforcement and court decisions about the importance of having a prudent process. They add that de-risking compliance, disclosure requirements, conflicts of interest, large settlements and attorney-client privilege restrictions are other potential landmines for a public or private company that offers retirement benefits.

Elsewhere, Employee Benefit Adviser contributor, Paula Aven Gladych, predicts that the U.S. Supreme Court review of Tibble v. Edison International ("Tibble") could increase ERISA litigation risk for plan sponsors, regardless of its decision. In "Edison decision could be 'slippery slope' for plan fiduciaries" (February 26, 2015), she writes that "the court focused its attention on duty to monitor fees and investments, generally by investment committees and plan administrators of 401(k) plans." Interested readers can download the February 24 2015 Tibble hearing transcript.

Recent events reflect multi-million dollar resolutions, even when an ERISA litigation defendant feels strongly that it is in the right. In "Settlements offer lessons in breach suits" (Pensions & Investments, February 23, 2015), Robert Steyer reports that publicly available documents can shed light about what types of disputes are being settled, the dollar amounts involved and any non-monetary requests made by the plaintiffs. Competitive bidding as part of selecting a vendor is one example. He goes on to say that regulatory opinions are thought to be particularly helpful when they are viewed by the retirement industry as de facto guidance.

I will report back after attending the ERISA litigation conference in a few weeks although I suspect that judges, litigators and corporate counsel who speak will convey a similar message with respect to fiduciary scrutiny. As Bob Dylan sang, "the times they are a-changing."

ERISA Litigation Conference Addresses Timely Fiduciary Issues

Dr. Susan Mangiero announces the sponsorship of a forthcoming conference about ERISA litigation and regulatory issues by Fiduciary Leadership, LLC. Produced by the American Conference Institute ("ACI"), this mid-April event pairs attorneys (including corporate counsel) with jurists to address timely topics that include, but are not limited to, the following:

  • Excessive fees;
  • Church plan lawsuits;
  • Fiduciary liability insurance;
  • Use of independent fiduciaries;
  • Enforcement risk;
  • Ethics;
  • Employee Stock Ownership Plan ("ESOP") litigation;
  • Proceedings related to company stock in ERISA plans; and
  • Health care mandates and related compliance.

Interested readers of or can read more about the program, speakers and venue by downloading the ERISA litigation conference brochure. There is a $200 discount off the current price for any blog reader who calls 888-224-2480 or visits

I look forward to seeing you in the Windy City in a few weeks. With the just announced push by the White House for fiduciary conflict of interest rules, U.S. Supreme Court activity in Tibble v. Edison International and news of multi-million ERISA litigation settlements, this conference is expected to be informative and important.

X Marks The Spot Approach to Pension Risk Management

Anyone who has been on the receiving end of major surgery may tremble after reading "How to Make Surgery Safer" (Wall Street Journal, February 16, 2015). Journalist Laura Landro describes a panoply of horribles such as operating on the wrong body part or leaving a foreign object inside a patient's body. Honing in on "never events" (i.e. those that are serious and should never occur), she describes attempts by hospitals to reduce human error in a quest to contain the rate of injury, minimize the number of deaths and avoid the billion dollar whack for serious faux pas. Besides the collection and analysis of big data to glean lessons learned and track performance, the writer describes how operating room teams are being prepped to emphasize safety in numerous ways. These include, but are not limited to, the following:

  • Adding radio frequency tags to instruments and sponges;
  • Empowering nurses to override a doctor's orders to wrap up if questions exist about missing items;
  • Convening as a team to agree on strategy before any cuts occur;
  • Identifying ahead of time what procedure should take place and on what part of the body;
  • Training all staff about how to use electrical equipment;
  • Creating, and then following, an appropriate checklist; and
  • Asking patients to actively participate by getting into good shape ahead of time and scrubbing with anti-bacterial soap prior to surgery.

In the pension world, setting a risk management objective by proverbially marking the target spot with a big X merits consideration. After all, if the goal (or set of goals) is vague or flat out wrong, chances are that the "operation" will fail. Should that happen, the "patient" (i.e. participants) could suffer.

The concept of proper goal-setting is far from trivial. Fiduciary breach allegations are undeniably here to stay, courtesy of an increasingly active plaintiffs' bar. Settlements can cost sponsors millions of dollars, even when a company feels strongly that it has done everything correctly. Changing regulations could up the ante. According to "President Obama to Address DOL Fiduciary Redraft at Monday AARP Meeting" (Think Advisor, February 22, 2015), proposed standards put forth by the U.S. Department of Labor appear to be moving closer towards some type of final conflict of interest rule. In a January 13, 2015 memo, the White House seems to be taking the view that retirement plan fees are often too high and have cost savers more than $6 billion. No doubt the financial industry will continue to rebut these estimates.

Based on my experience as a forensic economist and someone who has served as a testifying expert, goal-setting is hugely important when it comes to resolving disputes. An inevitable question is whether something went awry and, if so, what monetary damages should be paid (and to whom). Answering inquiries about whether wrongdoing occurred (and its magnitude) has to start with identifying the objective(s) and then examining the achievement of said goals (or lack thereof).

Similar to the health care profession, continuing to up its game in terms of process improvement, retirement plan sponsors (and their service providers) have a vested interest in creating goals that are (a) clear (b) measurable (c) realistic and (d) appropriate for the situation at hand.

ERISA Whistle Blowers

In the aftermath of the November 17, 2014 Strafford CLE webinar entitled ERISA Plan Investment Committee Governance, I asked several attorneys for their thoughts about whistle blower protection.

Attorney Stephen P. Wilkes, Of Counsel to The Wagner Law Group, took time out of a busy schedule to share his thoughts about a hypothetical scenario. He wrote the following:

Person X, a corporate officer, is a member of the Investment Committee for the corporate retirement plan ("Plan"). Person X determines that a specific course of action is in the best interest of the Plan (e.g. remove employer securities as an investment option or replace Bank Y with Bank Z as trustee). However, the Chief Financial Officer ("CFO") of this made-up company inappropriately steers the decision to one that serves the corporate interest and not the Plan interest (e.g. maintain employer securities as an investment option or continue to use Bank Y as trustee because it is providing corporate finance services to the company at below-market prices).What is Person X to do? He or she has a duty to serve the company and its shareholders, yet as an ERISA fiduciary, is there is a duty owed in this instance to the Plan and its participants? Person X complains to the U.S. Department of Labor ("DOL"). Five months later, Person X is terminated from employment by the CFO for "performance issues."

There is an inherent conflict of interest when corporate officers serve in an ERISA fiduciary capacity. The DOL and the U.S. Supreme Court have each determined that one can wear dual hats (sometimes an ERISA fiduciary, other times not an ERISA fiduciary),

In this hypothetical situation, Person X is clearly wearing the ERISA fiduciary hat when engaged in Plan Investment Committee work and owes the corresponding duty at that time to the Plan and its participants and beneficiaries.

The very purpose of the whistleblower statutes (such as ERISA Section 510 or Sarbanes-Oxley Section 1514A) is to root out problems and protect the reporting individual (the "whistleblower") from retaliation in this sort of scenario.The legal mechanism is in place to protect whistleblowers.There are some legal distinctions yet to be fully resolved about whether or not a particular retaliation is unlawful or not. They turn on whether an employee "has given information or has testified or is about to testify in any inquiry or proceeding." In other words, there are some open legal issues about whether unsolicited grievances are protected (as compared to whistle-blowing about ERISA violations during an active or ongoing investigation).

The question as to whether the presence of senior management who serve alongside mid-level or junior-level employees at the ERISA fiduciary table creates a "chilling" effect is a good one. Though the answer ultimately turns on the compliance culture of each company, potential problems can be mitigated well in advance with solid corporate governance and ERISA fiduciary training, as well as having appropriate policies and procedures in place with regard to risk management.

On behalf of the readers of Pension Risk Matters, thank you Attorney Wilkes.Your insights are much appreciated.

ERISA Plan Investment Committee Governance

In case you missed "ERISA Plan Investment Committee Governance: Avoiding Breach of Fiduciary Duty Claims" with Dr. Susan Mangiero (Fiduciary Leadership, LLC), Ms. Rhonda Prussack (Berkshire Hathaway Specialty Insurance) and Attorney Richard Siegel (Alston & Bird), click to download the November 17, 2014 presentation or visit the Strafford CLE website to obtain the audio recording.

Given the importance of the investment committee governance topic and emerging market trends in the area of outsourcing, my comments focused on committee structure, guiding documents, training and implications when third parties sign on as fiduciaries. Points I made during the webinar include, but are not limited to, the following:

  • The ERISA Advisory Counsel, in its 2014 Issue Statement about outsourcing employee benefit plan services, cites a desire to understand how vendor contracts address provisions such as termination rights, indemnification, liability caps and service level agreements.
  • An evaluation of the outsourcing business model is not surprising given a service provider push to serve as an Outsourced Chief Investment Officer or Fiduciary Risk Manager. (An Asset International publication refers to the OCIO movement as a fast-growing segment of investment consulting.)
  • Once an investment committee has been authorized by the sponsor's board of directors, a core set of qualifications and experience needs can be assembled. Plan counsel can play a vital role in explaining fiduciary obligations.
  • Beyond that core base, facts and circumstances such as plan design, company size, industry structure and investment strategy should be taken into account as part of determining requisite training and experience.
  • Regular meetings are encouraged with frequency being determined in part by what has to be done by the investment committee and related time sensitivity of completing a task(s).
  • Notwithstanding the voluntary nature of having an Investment Policy Statement ("IPS") in place, an ERISA plan investment committee should establish one nevertheless that makes sense for a particular plan. Some organizations have been questioned after creating an IPS but not following it.
  • Creating (and following) an appropriate Risk Management Policy can likewise be useful, especially for ERISA plans that utilize derivative instruments and/or allocate money to more complex products or strategies.
  • Training is another mission-critical area. (According to "DOL Investigators Quiz Plan Sponsors On Training of Fiduciary, Attorneys Say" by Bloomberg BNA contributor Joe Lustig, fiduciaries are being asked by regulators whether training programs exist.)
  • Continuing education is beneficial since regulations, market conditions and plan-related objectives and strategies can change over time.

Someone from the audience asked whether it made sense for an investment committee to consist of a senior corporate executive such as a Chief Financial Officer and her direct reports. The point is that each fiduciary is equal at the investment committee "table" but otherwise unequal. This can present a big problem if any or all of the investment committee members disagree with the Chief Financial Officer. Worse yet, a subordinate (in corporate organization terms) may be reluctant to whistle blow about an imprudent decision made by the CFO while wearing her hat as ERISA fiduciary. I will leave the question as to legal protection to attorneys. However, in doing some research, it turns out that U.S. federal pension law does address whistle blower protections. Interested persons can click to read "ERISA Has a Whistleblower Provision? Yep." by Seyfarth Shaw attorneys Ada Dolph and Robert Szyba (June 19, 2014).

There is a lot more to say on the topic of investment committee governance, notably because ERISA lawsuits that are adverse to a plan sponsor tend to include all investment committee members as defendants. An effective infrastructure and good governance policies and procedures can help to mitigate fiduciary personal and professional liability and position the investment committee to better serve participants.

Susan Mangiero of Fiduciary Leadership, LLC Earns the "Professional Plan Consultant" (PPC) Credential

Trumbull, CT (November 6, 2014) – Dr. Susan Mangiero is pleased to announce her designation by Financial Service Standards, a division of fi360, Inc. (Pittsburgh, PA) in the area of retirement plan consulting.  She is the recipient of this specialized designation known as the Professional Plan Consultant or PPC.

Recent regulatory changes to the qualified retirement plan industry have sparked an urgency to ensure that retirement plan service professionals have specialized training and resources to help sponsors meet their fiduciary obligations and a means of documenting that prudent practices are being followed in the management of an employer-sponsored plan.  Those professionals that help retirement plan fiduciaries and their counsel are seeking accreditation and certification to demonstrate a high level of knowledge and the ability to provide sponsors with the tools necessary to manage their plan effectively.

The Professional Plan Consultant™ designation was developed by Financial Service Standards with a goal of helping professionals that work with employer-sponsored retirement plans specialize in this increasingly regulated niche of the financial industry.  Program graduates must sit for either a two-day training class or complete the equivalent web-based training program, pass a comprehensive final exam, sign off on the FSS Code of Ethics, and commit to ongoing training in retirement plan management. 

Susan Mangiero is a Managing Director with Fiduciary Leadership, LLC. She is a CFA charterholder, certified Financial Risk Manager and Accredited Investment Fiduciary AnalystTM. Dr. Mangiero has been working within the investment management industry for over twenty years. She provides a variety of investment risk governance and valuation services to attorneys, regulators, asset managers, investment committees and other types of fiduciaries. Services include board training, business intelligence surveys, calculation of damages for dispute resolution purposes, expert witness testimony, investment best practices research, white papers, financial model reviews and procedural prudence assessments. She is the author of Risk Management for Pensions, Endowments and Foundations and the lead contributor to the award-winning blog,

According to Dr. Mangiero, she is proud and excited to have received this distinguished designation. "It requires industry experience and reflects my dedication to raising the service standards in the retirement plan industry, whether for 401(k) plans, defined benefit ("pension") plans, Employee Stock Ownership Plans ("ESOP"s) or other types of employee benefit arrangements. This designation is an indicator that a professional has added to her knowledge and can access unique tools and resources that can help plan sponsors meet certain industry requirements."

Sharon Pivirotto, Founder & Managing Director of Financial Service Standards of Pittsburgh congratulates Dr. Mangiero on this achievement and "applauds her initiative to help customers plan, build and maintain a successful and compliant company-sponsored retirement plan. This kind of commitment and service approach ultimately means better retirements for many employees."

The 40lk Service Training Program, sponsored by Financial Service Standards, has been accepted for 12.5 continuing education credits by the Certified Financial Planner Board of Standards Inc. The PPC designation is listed on the FINRA website.

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.

UK Survey Highlights Fiduciary Management Trend

According to a September 8, 2014 press release, a survey of 359 UK pension professionals by Aon Hewitt suggests that investment complexity and a busy schedule are driving the increase in demand for outside help. Notably, researchers found that strategies such as liability-driven investing require a lot of analysis and that "trustees are spending less time dealing with these decisions, with 73% of trustees devoting no more than five hours each quarter to investment issues, up from 67% in 2013." Other highlights include an observation that larger plans may opt for some help whereas smaller plans, i.e. those with assets of 500 million GBP or less "are the most likely to opt for full fiduciary management." See "Aon Hewitt Fiduciary Management Survey 2014 finds the majority of schemes opting for tailored measurement of provider performance."

The issue of time and a long list of tasks that must be carried out is not unique to the UK. In "Beyond the Beauty Contest" (June 2014), Russell Investments describes its Outsourced Chief Investment Officer ("OCIO") solution for a Canadian defined benefit plan committee that was "spending most of their time hiring and firing managers."

Acknowledging that firms with third party service offerings have a vested interest in being hired by overloaded pension executives (many of whom have full-time jobs on top of committee work), the issue as to how persons with fiduciary responsibilities spend their time is an important one to discuss.

In "The Investment Committee: Pitfalls to Avoid," the Association of Governing Boards recommends that there not be "too many" members and to adhere to an agenda. Group think is discouraged as it "can result in bad decisions that reflect the prevailing consensus of what has worked recently..." Organizations with strong support staff enjoy the advantage of having a lot of time-consuming analyses done ahead of oversight and strategy meetings. Creating and then following documents such as a clear Investment Policy Statement and Committee Charter likewise has value.

There never seems to be enough time for any investment professional. When billions of dollars are at stake, effective scheduling and use of available resources is critical.

Decision Making When You Don't Like Your Colleagues

As an independent economic consultant, I am fortunate to have flexibility as to project selection and the make-up of my team. From what I hear from colleagues, others don't feel as lucky. They tell me they feel stuck in a situation where they have important duties to carry out but do not necessarily trust or like their work mates. This could be dangerous, especially since plan fiduciaries are exposed to personal liability.

I've heard some say that you can dislike someone yet still have respect for their knowledge and integrity. Others suggest that you may want to break bread with an individual over lunch but want to avoid having to depend on their judgment about serious matters. I supposed the ideal is to both like and trust someone to be careful about things such as vendor selection, changing an investment line-up, freezing a plan and so on. When the perfect combination of sparkle, professionalism and gray matter is non-existent, what should a fiduciary do?

I haven't seen much on this topic about how to select someone to serve as a fiduciary of a pension fund with respect to their personality and integrity. One public plan trustee asked for my opinion about a committee on which he served. His concern had to do with what he deemed to be anemic attempts on the part of one of his colleagues to gather information about various asset managers and asset classes. His fear was that this person would vote "yea" or "nay" without a proper basis. I told him that his anxiety was far from trivial. Based on my experience, this gentleman was right to be scared. When a fiduciary breach complaint is filed, all past and present members of the investment committee are often cited as defendants. The notion is that the fiduciaries were making important decisions on a collective basis.

In my view, there is room for improvement as to how pension plan fiduciaries are selected, trained, monitored for appropriate performance and terminated, as needed. It wouldn't hurt to assess the friendliness factor of each candidate either. Not that everyone has to bond over Friday night pasta but the investment committee typically works as a team. It is important that the members of said team can have an open and meaningful exchange among one another, debate various topics in depth and decide what makes sense for participants thereafter. Speaking in plain language helps. See "Even Pension Board Members Can't Understand Pension Jargon" by Ari Bloomekatz (Voice of San Diego, September 5, 2014), for an interesting example of questions that fiduciaries are right to ask and the disparate level of investment knowledge reflected on a board.

If you have a good story to tell about investment committee dynamics, email  

U.S. Supreme Court and Tibble v Edison International

According to, Glenn Tibble, et al. v. Edison International, et al ("Tibble v Edison") is seeing continued action after a petition for a writ of certiorari was filed on October 30, 2013 by counsel of record for the petitioners. Click here to download the 319 page document. On February 7, 2014, attorneys for respondents filed a brief in opposition. On March 3, petitioners' counsel filed a supplemental brief. Thereafter, on March 24 of this year, the Solicitor General was asked to file a brief in this ERISA fee case. That brief has now been filed and can be accessed by clicking here. (Thank you to Fiduciary Matters lead blogger, Attorney Thomas Clark, for sending the file.)

According to this 29-page "Brief For The United States As Amicus Curiae," the Solicitor General, the Solicitor of Labor and others conclude that the petition for a writ of certiorari should be granted with respect to the question as to "[w]hether a claim that ERISA plan fiduciaries breached their duty of prudence by offering higher-cost retail-class mutual funds to plan participants, even though identical lower-cost institutional-class mutual funds were available, is barred by 29 U.S.C. 1113(1) when fiduciaries initially chose the higher-cost mutual funds as plan investments more than six years before the claim was filed."

As an economist who leaves the legal issues for attorneys to vet, it seems that this filing opens the door to another review of ERISA matters by the U.S. Supreme Court. Whether that is good or bad, depends on your perspective. I would like to think that further discussions about fiduciary best practices by the highest U.S. court would be a positive outcome.

New is Not Necessarily Better and Could be Worse

Every now and then, my husband likes to remind me that older is better in terms of quality. His father's tools still get used, our washer and dryer from twenty years ago are in place and his 1989 Honda was only recently sold when I nudged him to buy a car with air bags. Incidentally, the CRV was sold with 400,000 miles to a neighbor who still drives it on a regular basis. I was reminded of his words when I read a New York Times article on the failure of "new math." More recently the concept that new can be counterproductive came to light when a meeting organizer insisted on using technology that was so "cutting edge" that a few of us could not join because we did not have the requisite equipment. As a result, we have to schedule anew, costing time that could have been avoided.

Applied to pensions, adding too much complexity by trying something untested and/or sold as "the next big thing" can spell trouble. As I wrote in "Investment Complexity Risk" (August 1, 2014), transactions that are hard to explain make it difficult for an investor to "appropriately identify the right benchmark to track performance." When that occurs, tasks such as portfolio rebalancing, assessment as to whether fees paid are "reasonable" and/or constructing an effective hedge strategy are difficult to achieve.

While "new" does not automatically mean "complex," the reality is that capital markets and service providers such as asset managers are increasingly dependent on one another. What happens with one organization can have a far-reaching impact on others. Consider Goldman Sachs Group Inc. ("Goldman"). Its plan to retract prime brokerage services to some hedge funds while increasing fees to those that remain as clients will impact the institutional investors that have exposures to asset managers that either need to look elsewhere for capital or will pay more money to Goldman. See "Goldman Sachs Cuts Roster of Hedge-Fund Clients" by Justin Baer and Juliet Chung (Wall Street Journal, August 4, 2014).

Some institutional investors are throwing their proverbial hands in the air when it comes to in-house management. Pensions & Investments reporter Douglas Appell describes a trend in seeking third party help as the result of "today's volatile markets." Refer to "Complexity of investments pushes funds to seek outsourcing help" (July 9, 2012). Asset managers are similarly outsourcing certain tasks such as performance measurement and attribution. According to "Managing complexity and change in a new landscape: Global survey on asset management investment operations" (Ernst and Young, 2014), partners Alex Birkin and Alan Fish write that "Firms are only beginning to realize the opportunity in outsourcing more complex processes."

Contracting others to augment one's core business is not bad or good on its face. Importantly, end-users must understand what they are buying and what may not be covered by the agreement. Based on my experience as a forensic economist and investment risk governance expert, disputes often arise when expectations - even those that are codified with a letter of engagement - differ. Ambiguous language is one culprit. In-house and external counsel as well as those tasked with dotting the due diligence "i's" can play a vital role in clarifying the terms of outsourcing. Similarly, attorneys can work with their institutional investor clients to ensure that a Request for Proposal ("RFP") questionnaire includes ample questions about the nature of the contracts in place between asset managers being considered and the vendors to said asset managers.

The principles of good contracting are tried and true. Some may sneer at old fashioned ideas but they have a place in one's investment risk governance toolbox. When the lights go out, a pencil has a lot more value than a computer that doesn't work.

ERISA Advisory Council Investigating Fiduciary Management

According to a 2014 statement, the ERISA Advisory Council intends to investigate the nature of retirement plan outsourcing and report its research to the U.S. Department of Labor ("DOL"). "Outsourcing Employee Benefit Plan Services" cites objectives to include the following:

  • Discussion about current practices in outsourcing and whether variables such as plan size or type impact the services provided to ERISA plans;
  • Clarification of "the legal framework under ERISA for retaining outsourced service providers..." and possible areas for regulatory guidance;
  • Getting suggestions about the management of potential conflicts of interest;
  • Further discussing the "scope of co-fiduciary liability in the outsourcing context" for 3(16), 3(21) and 3(38) relationships;
  • Discussion about how contracts are put together between an ERISA plan and a service provider to address issues such as termination rights, indemnification, liability caps; and
  • Examination of insurance coverage and ERISA bonds when an outsourcing arrangement exists.

This news is not particularly surprising. The topic of fiduciary management continues to attract attention, in part because it appears to be growing as a business model in the United States, United Kingdom and elsewhere. According to a survey of 73 pension plans and their advisors, Buck Consultants found that 70% "had at least considered going down that route." For those schemes that that had engaged a fiduciary manager, they cited motivations such as "improved speed in the decision making process, greater focus on the end game, and improved expertise." At the same time, UK-based Brian McCauley, Head of Fiduciary Evaluation at Buck Consultants, added that the governance burden is still "huge." In "Perceptions of Fiduciary Management," Stephenson Harwood attorney Fraser Sparks addresses concern about conceivable conflict of interest trouble spots when "an advisor turns into a provider." One offered solution is to engage an independent third party to evaluate the qualitative and quantitative characteristics of fiduciary manager short list candidates.

Stateside, ERISA legal experts debate the pros and cons of the outsourced fiduciary approach. In "New flavor of outsourced fiduciary for retirement plans hits the market" Investment News reporter Darla Mercado writes that "This latest service offering is popping up in an era when plan sponsors have a heightened awareness of their fiduciary responsibilities and are looking to offload some of them so that they can get back to the day-to-day work of running their business." Drinker Biddle & Reath attorney, C. Frederick Reish, talks about "3(16) lite" and the need to "[r]ead the fine print." The April 2, 2014 piece emphasizes that "...plan sponsors still have the responsibility of choosing and monitoring their service providers."

In "Expert Q&A on Outsourcing Fiduciary Investment Responsibilities" (Practical Law, February 2014), Groom Law attorneys David N. Levine and Allison Tumilty explain the legal dimensions of outsourcing fiduciary investment responsibilities and the advantages and disadvantages of passing the baton for certain delegated tasks. They add that outsourcing "can be appropriate for defined benefit and defined contribution plans of all sizes."

From my perch as a forensic economist who is sometimes hired to give expert testimony, I have observed a larger number of cases being filed that address the relationship between plan sponsor and service provider. Whether that trend continues remains to be seen. Given the foregoing, the ERISA Advisory Council inquiry is likely to be both timely and informative.

ACI ERISA Litigation Conference - New York City

I have the pleasure of announcing that Fiduciary Leadership, LLC is one of the sponsors of this recurring educational conference. For a limited time only, I am told that interested parties can register early and receive a discount. Contact Mr. Joseph Gallagher at 212-352-3220, extension 5511, for details.

Besides two full days of interesting and timely presentations, the American Conference Institute conference about ERISA litigation gives attendees a chance to hear different perspectives. Scheduled speakers include investment experts, corporate counsel, defense litigators, plaintiffs' counsel, class action specialists, judges and fiduciary liability insurance executives, respectively.

Click to download the ACI ERISA Litigation Conference agenda or take a peek at the list of topics as shown below:

  • Fifth Third v. Dudenhoeffer and the Impact of the Decision on the Future of Stock Drop Case and Litigation Regarding Plan Investments;
  • ERISA Class Actions Post-Dukes and Comcast: Standing, Commonality, Releases and Arbitration Agreements, Monetary Classes, Issue Certification, Certification of “Class Of Plans”, Class Action Experts and Halliburton, and More;
  • The Affordable Care Act, Health Care Reform and New Claims and Defenses in Workforce Realignment Litigation;
  • 401(k) Fee Cases: Current Litigation Landscape and Recent Decisions, Evolving Defense Strategies, DOL Enforcement Initiatives, Impact of Tussey and Tibble, Excessive Fund Fees, and More;
  • Retiree Health and Welfare Benefits: M&G Polymers USA, LLC v. Tackett and the Yard-Man Presumption;
  • Multiemployer Pension Plan Withdrawal Liability;
  • Independent Fiduciaries: Working with Them to Manage Plan Assets, Handle Administrative Functions and Authorize Transactions; and the Latest Claims Involving Failure to Monitor Independent Fiduciaries and/or Keep Them Informed;
  • ESOP: New and Emerging Trends in Private Company ESOP Litigation, Lessons Learned from Recent Decisions in ESOP Cases, and the Latest on DOL Investigations and Enforcement Priorities;
  • Benefit Claims Litigation: the Latest on ERISA-Specific Case Tracks Aimed at Discovery Disputes, Attorney Fees Post-Hardt, Limitation Periods in Plans, Addressing Requests for Evidence Outside of the Record in “Conflict” Situations, Judicial Review of Claims Decisions and the Battle Over Discretion, and More;
  • Fiduciary Liability Insurance: Assessing Current Coverage and Future Needs & Strategic Litigation and Settlement Considerations;
  • New Trends in Church Plan Litigation;
  • New Trends in Top Hat Plans: The Latest Litigation Risks;
  • Public Pension Developments and Trends; and
  • Ethical Issues That Arise in ERISA Litigation: The Fiduciary Exception to Attorney-Client Privilege, the Question of Who Really Is Your Client.

In April of this year, I presented at the ACI ERISA Litigation conference in Chicago about working effectively with an economic and/or fiduciary expert. Click to access the slides entitled "Expert Coordination: Working With Financial and Fiduciary Experts" by Attorney Joseph M. Callow, Jr. (Keating Muething & Klekamp PLL), Attorney Ronald S. Kravitz (Shepherd, Finkelman, Miller & Shah, LLP) and Dr. Susan Mangiero (Fiduciary Leadership, LLC). For a recap of this session, click to read "ERISA Litigation and Use of Economic and Fiduciary Experts" (May 5, 2014).

On October 28, 2014, I will be part of a panel about public pension fund issues. I will be joined by Attorney Elaine C. Greenberg (Orrick, Herrington & Sutcliffe LLP) and Attorney H. Douglas Hinson (Alston & Bird LLP). Topics we plan to cover are shown below:

  • Overview of Public Pension Market - Scope, Size and Funding Levels;
  • Government Plan Hot Button Issues;
  • Pension Reform:
  • Pension Obligations and Bankruptcy, With Discussion of Detroit;
  • SEC Enforcement Actions, With Discussion About the State of Illinois;
  • New Accounting and Financial Reporting Standards;
  • Use of Derivatives by Municipal Pension Plans;
  • Fiduciary Breaches as They Relate to Due Diligence; and
  • Suggestions for Risk Mitigation and Best Practices.

I hope to see you in the Big Apple in a few months!

New GAO Study Addresses Performance Audit Reports

Courtesy of the U.S. Government Accountability Office, a new study looks at performance audits for different types of pension plans. The report is entitled "Oversight of the National Railroad Retirement Investment Trust" (May 2014) and responds to requests from members of the U.S. Congress for information about this $25 billion retirement plan. Based on countless interviews with regulators, private fiduciary experts (and yes, I did answer some questions about benchmarking) and pension fund executives, the authors put forth the idea that performance audits could be mandated to occur more often. Interestingly, GAO researchers point out that "the frequency with which the Trust has commissioned performance audits is comparable to or exceeds most state efforts," adding that "...nine state plans are audited at least once every 2 or 3 years" with interviewees from 19 states pointing out that retirement plans "were subject to audits at longer set intervals that varied from state to state or were not reviewed according to any established time frame."

Pension fund accounting and performance benchmarking is certainly getting its share of attention. U.S. Securities and Exchange Commissioner Daniel Gallagher recently decried what he believes is an under-reporting of "trillions of dollars in liabilities. In his May 29, 2014 speech before attendees of the Municipal Securities Rulemaking Board's 1st Annual Municipal Securities Regulator Summit, Commissioner Gallagher talks about pension and OPEB liabilities as a serious threat and warned that " is imperative that bondholders know with precision the size of the potential pension liabilities of the entities in which they are investing. And yet, they do not." He adds that the "threat has been hidden from investors." As Lisa Lambert and Lisa Shumaker describe, government officials say that these sharp remarks sting and will scare people into thinking that a systemic problem exists. Read "Pension groups strike back at SEC commissioner's criticism" (Reuters, June 16, 2014). In its Q1-2014 update, the National Association of State Retirement Administrators ("NASRA") show that public pension fund assets have grown to $3.66 trillion, up slightly from the year-end 2013 level of $3.65 trillion.

On the rule-making front, the Governmental Accounting Standards Board ("GASB") just published an update to its pension accounting standards and posted a pair of brand new proposals to "improve financial reporting by state and local governments of other post-employment benefits, such as retiree health insurance." See "GASB Publishes Proposed Accounting Standards for Government Post-Employment Benefits" by the editor of, Michael Cohn. You can download the three documents by visiting the GASB website. Click to access GASB's microsite about Other Postemployment Benefits ("OPEB").

The good news, as I have said all along, is that initiatives for heightened transparency are underway. For more difficult situations, don't be surprised if litigation about disclosures continues to occur. In case you missed the February 24, 2014 Practising Law Institute ("PLI") CLE webinar, you can purchase the slides and audio recording of "Muni Bonds, Pensions and Financial Disclosures: Compliance, Litigation and Regulatory Trends." I co-presented with Orrick, Herrington & Sutcliffe LLP partner, Elaine Greenberg. My focus was on risk management, valuation, performance and investment decision-making.

Headline Risk For Investment Fiduciaries

Following up my May 12, 2014 post entitled "Golf Course RFPs and Other Mistakes That Retirement Plan Fiduciaries Make," the source of that wisdom has given readers even more food for thought about the topic of service provider selection. In "More on the Golf Course RFP," senior ERISA attorney Steve Rosenberg warns that appointments "to smaller and mid-size companies, where benefit plans, particularly 401(k)/mutual fund programs, may be chosen by a company owner simply based on the vendors that are already in the owner's social circle, such as, yes, those at his or her country club." He adds that "picking a plan's vendor in that manner will most certainly come back to the bite the company owner" and that, "in a fiduciary duty lawsuit over that plan," such a selection would be deemed a "smoking gun used to show poor processes and a corresponding breach of fiduciary duty."

Attorney Rosenberg raises some good points about company size. Smaller to mid-size firms often have ownership that is concentrated in the hands of its owners or top managers. Diversification considerations can differ from those made by bigger plan sponsors as a result. That said, I have worked as a forensic and fiduciary expert on matters that entail carrying out an analysis of the service provider selection process used by various large companies.

More than a few investment fiduciaries have told me that they worry about personal and professional reputation in addition to liability for actions taken (or not as the case may be). A central take away is that standing out for the wrong reasons can have disastrous consequences.

2nd Annual Tri-State Institutional Investors Forum

I have the pleasure of moderating a timely and topical panel on June 11 for US Markets Center for Institutional Investor Education. Entitled "Fiduciary Responsibility for Management & Trustees," this session will focus on the importance of the Board in creating good governance practices. Topics to be discussed include the role of audits as a way to monitor activities, creating proper standards that allow for stakeholder transparency and lines of authority and reporting. The role of staff, the investment consultant and investment manager will likewise be covered. Panel participants are shown below:


  • Dr. Susan Mangiero, Managing Director, Fiduciary Leadership


  • Charles Tschampion, Director of Special Projects, CFA Institute
  • Edward M. Cupoli, Board Member, New York State Deferred Compensation Plan
  • Patricia Demaras, Senior Counsel, Xerox Corporation.

Click to download the entire program for the 2nd Annual Tri-State Institutional Investors Forum. Click to register. I hope to see you there!

Golf Course RFPs and Other Mistakes That Retirement Plan Fiduciaries Make

Litigation attorney and uber ERISA blogger, Steve Rosenberg, recently shared his slide deck entitled "Common Mistakes of Plan Sponsors."  Part of an educational presentation to U.S. Department of Labor examiners, Steve addressed the importance of getting competitive bids, thoroughly investigating service providers before selecting one or more individuals or firms and avoiding what he coins the "Golf Course RFP." He worries that members of a retirement plan investment committee could bypass best practices in selecting a bank, advisor, consultant, third party administrator and/or asset manager and instead rely too much on a vendor's brand name or overly friendly relationship with someone who works at a company before considered. Deciding to hire someone on the basis of a handshake over a glass of beer or chatting on the greens is ill-advised if it shortcuts proper research about the abilities of a service provider, fees they intend to charge and whether their offerings are likely to meet the needs of a particular defined contribution or defined benefit plan.

Steve warns about other mistakes to avoid, including the identification of who will do what tasks, how often they will be performed and whether a service provider contracts to be a fiduciary. In particular, he frets that members of an ERISA plan committee may select a provider to serve as an investment fiduciary and then incorrectly assume that they have passed the baton and no longer have any liability.

Other errors he cites are part of what he calls the "ESOP Private Company Valuation Problem." These concerns include "insufficient reliance on outside experts" and not hiring an independent fiduciary to oversee a transaction when there are clear conflicts of interest or further expertise is needed.

Interested readers may want to investigate the following educational resources to include:

ERISA Litigation and Use of Economic and Fiduciary Experts

On April 29, 2014, I presented with Attorney Joseph Callow and Attorney Ron Kravitz on the topic of case management and the use of experts. Having spoken several times at this relevant periodic conference about ERISA litigation for the American Conference Institute, I heard attorneys repeatedly emphasize the importance of good experts without ever going into much detail. As a result, I volunteered to develop this program and am appreciative of the time and knowledge of my esteemed panelists. Entitled "Expert Coordination: Working With Financial and Fiduciary Experts," the workshop consisted of a perspective from the defense, courtesy of Keating Muething & Klekamp PLL partner, Joseph M. Callow. The plaintiff's view about the use of experts was presented by Shepherd, Finkelman, Miller & Shah, LLP partner, Attorney Ronald S. Kravitz. I offered comments from the perspective of someone who has served as a testifying expert, calculated damages and provided forensic analyses as a behind-the-scenes economist.

Notably, our individual observations about what makes for a smooth process were similar, including the reality of tight litigation budgets and the desires of corporate General Counsel or Litigation Counsel to avoid excessively large invoices. We gave multiple suggestions. For example, one way to keep costs in check is to engage an expert on an incremental analysis basis with each work segment tied to a limited scope. Another idea is for an expert and supporting number crunchers to put together a budget. This disciplined projection of time and related fees, created at the outset, allows counsel and expert to share expectations about what is needed and how much money it will take to accomplish those tasks. Moreover, if an insurance company has to approve defense costs, putting together a detailed budget can help to avoid delays. The creation of a budget is likewise a tool for deciding whether a litigator and/or expert can accept a flat fee for non-testimony work. If the scope of work is ill-defined, it will be harder for either counsel or expert or both to commit to a flat fee at the same time that corporate clients favor the flat fee approach.

We all agreed that the engaging attorney and his or her litigation team reap benefits when the expert provides suggestions about further data and document evaluation. In other words, the attorneys look to the expert to be pro-active and helpful with respect to fact gathering and subsequent assessment of said information. Working with an expert who is relatively easy-going as opposed to an individual with a "difficult" personality is a plus for the legal team.

Timing matters too. If an expert is hired early on, he or she can make recommendations during discovery. If the expert is engaged too late in the process and discovery has ended, that expert's report could be adversely impacted in terms of completeness. 

Attorney Callow repeatedly urged litigators to do their homework when selecting an expert. Attorney Kravitz talked about the high price tag of having to replace an expert, once hired, in the event of poor quality work. In reply to my question about the use of lawyers as fiduciary experts, both gentlemen said that judges may not be receptive to having an attorney testify. If an attorney is needed, the better approach is to have that person serve as a consultant.

Click to access the April 29, 2014 slides for our session about the use of financial and fiduciary experts for ERISA litigation matters. Click here to read "Tips From the Experts: Working Effectively With A Financial Expert Witness" by Dr. Susan Mangiero and published by the American Bar Association.

Pension Usage of Swaps

I have been writing, training and consulting about the use of derivatives by pension plans for many years. There is no shortage of topics, especially in the aftermath of the Dodd-Frank Wall Street Reform and Consumer Protection ("Dodd-Frank") and the fact that pension investing and derivatives trading are significant elements of the capital markets. The OECD estimates the size of the private pension system in 2012 at $32.1 trillion. The Bank for International Settlements estimates the June 2013 global derivatives market size at $692.9 trillion.  

Given the importance of the topic of pension risk management and the evolving regulatory landscape, it was a pleasure to have a chance to recently speak with Patrick S. Menasco. A partner with Steptoe Johnson, Attorney Menasco assists plan investors, investment advisers and broker-dealers as they seek to navigate the laws relating to hedging, swaps clearing and much more. Here are a few of the take-away points from that discussion.

Question: Do the swaps provisions embedded in the Dodd-Frank legislation contradict the netting rules that are part of U.S. bankruptcy law?

Answer: No, the netting provisions of the Bankruptcy Code remain intact and should be taken into account in negotiating swap agreements. To the extent feasible, a performing counterparty wants to be able to net obligations in the event of a counterparty insolvency and default.

Question: Your firm obtained Advisory Opinion 2013-01A from the U.S. Department of Labor ("DOL") on February 7, 2013 regarding swaps clearing, plan assets and ERISA fiduciary duties. Explain the importance of identifying plan assets in the clearing context.

Answer: ERISA, including its prohibited transaction rules, governs "plan assets." Thus, it is critical to determine whether margin posted by a plan in connection with swaps clearing and the swap positions held in the plan's account are considered "plan assets" for ERISA purposes. Among other things, Advisory Opinion 2013-01A gives comfort that (1) margin posted by the investor to the clearing agent generally will not be considered a plan asset for ERISA purposes and (2) clearing agents will be able to unilaterally exercise agreed-upon close-out rights on the plan's default without being deemed a fiduciary to the plan, notwithstanding that the positions are plan assets.

Question: The headlines are replete with news articles about swap transactions with pension plans that could be potentially unwound in the event of bankruptcy. Detroit comes to mind. Should non-pension plan counterparties be worried about a possible unwinding in the event of pension plan counterparty distress?

Answer: Yes and no. The case in Detroit (which is currently on appeal) illustrates the risk that, notwithstanding state or local law to the contrary, federal bankruptcy judges may disregard the legal separation between municipal governments and the pension trusts they sponsor, treating those trusts as part of the estate. This may present certain credit and legal risks to the trusts' swap counterparties, although the Bankruptcy Code's swap netting provisions may mitigate some of those risks. I doubt that we will see anything similar to Detroit in the corporate pension plan arena because ERISA not only recognizes, as a matter of federal law, the separate legal existence of such plans, but also affirmatively prohibits the use of plan assets for the benefit of the sponsor. Separately, many broker-dealers negotiate rights to terminate existing swaps upon certain credit events, including the plan sponsor filing for bankruptcy or ceasing to make plan contributions.

Question: How does Dodd-Frank impact the transacting of swaps between an ERISA plan and non-pension plan counterparties such as banks, asset managers or insurance companies?

Answer: Dodd-Frank does a number of things. For one, it adds a layer of protection for ERISA and government plans (and others), through certain "External Business Conduct" standards. Generally, these standards seek to ensure the suitability of the swaps entered into by the investors. Invariably, swap dealers will comply by availing themselves of multiple safe harbors from "trading advisor" status, which triggers various obligations relating to ensuring suitability. Very generally, these safe harbors seek to ensure that the investor is represented by a qualified decision-maker that is independent of, and not reliant upon, the swap dealer. Under protocol documents developed by the International Swaps & Derivatives Association ("ISDA"), the safe harbors are largely ensured through representations and disclosures of the plan, decision-maker and swap dealer (as well as underlying policies and procedures).

Question: Dodd-Frank has a far reach. Would you comment on other relevant requirements?

Answer: Separately, Dodd-Frank imposes various execution and clearing requirements on certain swaps. These requirements raise a number of issues under the prohibited transaction rules of ERISA and Section 4975 of the Internal Revenue Code. Exemptions from those rules will be needed for (1) the swap itself (unless blind) (2) the execution and clearing services (3) the guarantee of the trade by the clearing agent and (4) close-out transactions in the event of a plan default. This last point presents perhaps the thorniest issue, particularly for ERISA plan investors that direct their own trade swaps and thus cannot avail themselves of the Qualified Professional Asset Manager ("QPAM"), In-House Asset Manager ("INHAM") or other "utility" or "investor-based" class exemptions. The DOL expressly blesses the use of the QPAM and INHAM exemptions in the aforementioned Advisory Opinion 2013-01A, under certain conditions. Senior U.S. Department of Labor staff members have informally confirmed that the DOL saw no need to discuss the other utility exemptions (including Prohibited Transaction Class Exemption ("PTCE") 90-1, 91-38 and 95-6) for close-out trades because they assumed they could apply, if their conditions were met.

Question: Is there a solution for those ERISA plans that direct their own swap trading?

Answer: It is unclear. There are only two exemptions, at least currently, that could even conceivably apply: ERISA Section 408(b)(2) and Section 408(b)(17), also known as the Service Provider Exemption. The first covers only services, such as clearing, and the DOL has given no indication that it views close-out trades as so ancillary to the clearing function as to be covered under the exemption. In contrast, the Service Provider Exemption covers all transactions other than services. But it also requires that a fiduciary makes a good faith determination that the subject transaction is for "adequate consideration." If the close-out trades are viewed as the subject transaction, who is the fiduciary making that determination? The DOL's Advisory Opinion 2013-01A says that it isn't the clearing agent. Thus, to make the Service Provider Exemption work, you have to tie the close-out trades back to the original decision by the plan fiduciary to engage the clearing agent and exchange rights and obligations, including close-out rights. That argument has not been well received by the DOL, at least so far.

Many thanks to Patrick S. Menasco, a partner with Steptoe & Johnson LLP, for taking time to share his insights with readers. If you would like more information about pension risk management, click to email Dr. Susan Mangiero.

Fifth Third Bancorp v John Dudenhoeffer

For those unable to attend the April 2, 2014 U.S. Supreme Court hearing, a review of the transcript of Fifth Third Bancorp et al v. John Dudenhoeffer et al (No. 12-751) may be of interest. Appearances were made by Robert A. Long, Esquire and partner with Covington & Burling LLP (on behalf of Petitioners), Ronald Mann, Esquire and Albert E. Cinelli Enterprise Professor of Law with the Columbia Law School (on behalf of Respondents) and Edwin S. Kneedler, Esquire, Deputy Solicitor General, Department of Justice (on behalf of the United States, as amicus curiae, supporting Respondents.)

I will leave the legal interpretation to attorneys. The bullet points shown below are excerpted from the transcript and by no means reflect the totality of today's discussion. No doubt we will soon get insights from practicing attorneys who can properly parse the legal issues, ahead of a formal opinion from the U.S. Supreme Court bench.

From my perspective as an economist, I think it is always good whenever further guidance is provided about the important role of the ERISA fiduciary. Notwithstanding this notion of "more is better" in terms of shedding light on fiduciary duties, I envision a kerfuffle as it relates to the discussion about stock valuation. Encouraging the use of an independent appraiser makes sense. However, the valuation community has already been vocal about its fears that an expanded fiduciary standard could increase its liability and thereby cause some firms to exit the market and push up the price of an appraisal as a result. As an aside, during her April 1, 2014 presentation before Practising Law Institute pension plan investment workshop attendees, Counsel for Appellate and Special Litigation, Elizabeth Hopkins mentioned that ESOP enforcement continues to be an active area for the U.S. Department of Labor, with a particular emphasis on the valuation of company stock.

  • There were several questions about what constitutes "prudence," along with comments about the value of a stock that is issued by the plan sponsor and related disclosure requirements if the price of said stock is deemed to be "overvalued".
  • Throughout the proceeding, there were questions and comments about ERISA versus SEC Rule 10b-5 with respect to the use of information known by company executives.
  • Justice Kennedy asked about the landscape relating to the use of an independent fiduciary. Attorney Long commented that not all problems would be solved that way since "you'd have to have a monitoring trustee who would have to give the independent trustee any inside information that they had."
  • Justice Alito asked if an ERISA fiduciary can "take into account the interests of the participants as employees as opposed to their interests as investors" and offered that "It doesn't seem to me that those will necessarily be the same. And there may be situations in which something that would be potentially good for the participants as investors would be quite bad for them as employees." For example, individuals could lose their jobs if decision-makers for an Employee Stock Ownership Plan ("ESOP") stop buying company stock and this signal possibly leads to "bankruptcy and liquidation for the company."
  • Attorney Mann started to address what he called a "rock and a hard place" issue. Various justices commented thereafter, asking what a fiduciary is supposed to do when they have information about a stock. His reply was that, similar to a "corporate context where directors ordinarily are protected by the business judgment rule, if a situation arises in which their interests patently diverge from the interests of the shareholders, they don't simply decide to represent both interests but pick one over the over. They instead step aside and appoint...allow independent people to represent the shareholders."
  • Justice Kennedy asked Attorney Mann how he would write a statute to promote employee ownership of company stock.
  • Attorney Kneedler began his comments with a reference to Section 1104 and the focus of "operating the plan for the exclusive purpose of providing benefits to participants and their beneficiaries, which means the interests of employees are taken into account only insofar as they are participants in the plan, not more generally." He agreed with Justice Sotomayor that a "stock drop in and of itself" is not necessarily proof of poor procedural prudence. He added that "fiduciaries have an obligation to actually exercise their discretion and actually investigate...monitoring of the ... investment."
  • Justice Breyer inquired about the materiality issue, i.e. how much "in assets is accounted for by the ownership" of company stock by an ERISA plan.
  • Subsequent questions and comments focused on the notion of selling existing positions of company stock versus not buying anymore when material information suggests that the stock is expensive relative to its intrinsic worth.
  • When the podium returned to Attorney Long, he stated that "There is no circuit split on the issue that we've spent all our time discussing this morning. The only circuit split is on whether this presumption applies at the motion to dismiss stage." He cited the intent of Congress to encourage company ownership and suggested that rendering ESOPs "unworkable" would "basically cause many companies to say we can't put fiduciaries in that situation, so we're not going to have ESOPs at all."

The case was submitted at 11:30 a.m. Click here to download the Fifth Third Bancorp v. John Dudenhoeffer hearing transcript.

Deciding When to Tweak or Overhaul a Pension Plan

People in my family buy things to last. It doesn't always work out the way we want. For example, we can't watch internet movies through our television set because we have yet to upgrade to a newer box that has the technology to allow this to happen. However, sometimes it is better to upgrade, even if there is a short-term incremental cost to do so. I learned this lesson the hard way in recent weeks. Sick of an old laptop that constantly froze on pages with too many graphics and a printer that only worked when I cleaned the print head (and that became a frequent occurrence), I made a beeline to Staples. During my discussion with the technology salesperson, he agreed with me that the immediate outlay of buying new productivity tools would be a lot cheaper than upgrading with the purchase of a few parts. The speed, storage and ability to use newer versions of software were a few of the advantages we discussed.

Change can be a good thing or not. The concept of evaluating when to tweak plan design or asset allocation mix (or a host of other decisions), as compared to carrying out a complete overhaul, applies to retirement plans. Of course this assumes that it is even possible to modify. For a defined benefit plan that is grossly underfunded or a defined contribution plan that is set up to keep workers happy by offering a particular group of investments, reversing course could be problematic. On the flip side, a sponsor that can effect change that would be deemed advantageous by participants but does not take action could be accused of bad practices or worse. Keep in mind that lots of ERISA lawsuits allege actions that a fiduciary committee could have taken. The important thing is to be vigilant about what has to be done on an ongoing basis and respond accordingly,

At least some plan sponsors are taking heed of the need to review where things stand. According to a recent Aon Hewitt survey, 62 percent of polled 220 U.S. companies with traditional pension benefit offerings vowed to "adjust their plan's investments to better match the liabilities in the year ahead." Some respondents affirmed their intent to consider increased allocations to fixed income securities and hedging strategies, once their funding status improves. One out of eight companies queried are evaluating plan funding status as often as once per day. Click to download "2014 Hot Topics in Retirement: Building a Strategic Focus."

I have a t-shirt that reads "Change is good. You go first." It always makes me chuckle. Even when change is not warranted, it is important to demonstrate that at least someone has thought about risk factors and alternative ways to mitigate those identified uncertainties.Maybe the t-shirt should instead read "Assessing whether change makes sense is an important part of a fiduciary's responsibilities."

Pensions, Politics and the ERISA Fiduciary Standard

Thanks to the folks at the Mutual Fund Directors Forum for disseminating a January 13, 2014 letter from members of the New Democrat Coalition to the Honorable Thomas Perez, Secretary of the U.S. Department of Labor ("DOL"). The gist of the four-page communication is that these members of the current U.S. Congress would like to see regulatory coordination in order to "protect investors while reducing confusion." They add that they are still concerned that a new version of the fiduciary standard, when proposed anew, might discourage plan participant literacy and disclosures. The worry seems to be that individuals with low or middle incomes as well as small businesses could be adversely impacted, depending on the ultimate version.

According to the Securities Industry and Financial Markets Association ("SIFMA") website, Republicans have likewise communicated their concerns to the U.S. Department of Labor as well as the Office of Management and Budget. These ranged from "the impact on an individuals' choice of provider to potential unintended consequences limiting access to education for millions of individuals saving for retirement." Click to access SIFMA's DOL Fiduciary Standard Resource Center.

On October 29, 2013, the Retail Investor Protection Act (H.R. 2374), sponsored by U.S. Congresswoman Ann Wagner (Republican, 2nd District of Missouri), was approved by the United States House of Representatives in a vote of 254 to 166. According to the Gov Track website, U.S. Congressman Patrick Murphy (Democrat, 18th District of Florida) joined as a co-sponsor on September 19, 2013. The stated legislative intent is to preclude the "Secretary of Labor from prescribing any regulation under the Employee Retirement Income Security Act of 1974 (ERISA) defining the circumstances under which an individual is considered a fiduciary until 60 days after the Securities and Exchange Commission (SEC) issues a final rule governing standards of conduct for brokers and dealers under specified law." It further prevents the SEC from implementing a rule "establishing an investment advisor standard of conduct as the standard of conduct of brokers and dealers" prior to assessing the likely impact on retail investors. Click to read more about the Retail Investor Protection Act. Click to read the mission of the United States Department of Labor which states "To foster, promote, and develop the welfare of the wage earners, job seekers, and retirees of the United States; improve working conditions; advance opportunities for profitable employment; and assure work-related benefits and rights."

As I have repeatedly predicted in this pension blog and elsewhere, the retirement crisis, not just in the United States but around the world, is increasingly showing up as a political hot button issue. No one wants to lose votes from retirees who are struggling and employees who cannot afford to stop working any time soon. In his State of the Union address, U.S. President Obama described a new type of retirement account, i.e. "myRA," that is meant to help millions of individuals whose companies do not offer retirement plans. See "What you need to know about Obama's 'myRA' retirement accounts" by Melanie Hicken (CNN Money, January 29, 2014). More details will no doubt follow.

There is a lot we don't know about how politics will impede or enhance the state of the global retirement situation. As a free marketeer, I am not particularly optimistic about new rules and regulations that prevent an efficient supply-demand interaction from taking place. However, this is a lengthy topic and the hour is late so I will leave a discussion about the positive and normative aspects of capitalism for another day.

Working With Financial and Fiduciary Experts

I am delighted to join the panel about how to work with financial and fiduciary experts on ERISA (and more broadly, investment management) cases. This panel, entitled "Expert Coordination: Working With Financial and Fiduciary Experts," is part of the upcoming 7th National Forum on ERISA Litigation. Produced by the American Conference Institute, this Chicago event will run from April 28 to April 29, 2014. I will speak from 10:45 am to 11:35 am on April 29, 2014. See below for more details.

Many ERISA litigators will admit that the quality and communication skills of an economic expert can greatly impact the outcome of a case. Getting the right expert(s) in place sooner than later can be a distinct advantage. When that does not occur, important items may be excluded from discovery or pre-motion analysis. This panel will focus on the challenges associated with tight client budgets, working with multiple experts, knowing when to bring an expert(s) on board and evaluating how much information to share.

Fiduciary Management For Pension Plans

Besides being knowledgeable about medicine, nutrition and state-of-the-art health research, my doctor has a great sense of irony. He says things that make me laugh out loud. When I saw him recently, I mentioned how much I was enjoying reruns of some older television shows like Quincy, M.E. He replied, in typical clever fashion, "yea, but Sam did all the work and Quincy took the credit." It struck a chord because his statement is mostly true. In case you never watched the popular series about a coroner who helps the police solve crimes, veteran actor Jack Klugman (now deceased) applies Criminal Scene Investigation ("CSI") like smarts and tenacity in pursuit of justice. Sam Fujiyama (played wonderfully by actor Robert Ito) is likewise a medical doctor. He works alongside Dr. Quincy and is portrayed as an integral part of uncovering the truth.

In pension land, it is often the case that sponsors think they have hired someone to play the role of helpful Sam. The notion is that the advisor, consultant or fund of funds professional will be paid a fee to carry out a certain level of due diligence about action items such as setting up or revising an appropriate investment strategy, selecting or terminating an asset manager, redesigning a plan or evaluating pension transfer structures. Once the engagement letter is signed and a retainer fee is in place, the plan sponsor, like Dr. Quincy, can breathe a sigh of relief. Help is supposedly on the way - maybe. The safety net concept attached to bringing a third party on board, combined with what a colleague of mine describes as fiduciary fatigue, is reflected in the global growth of firms that describe themselves as fiduciary managers. While the retirement plan regulatory regime varies by country, the investment outsourcing model is gaining sway in the United States, the United Kingdom, the Netherlands and elsewhere. The undeniable trend to delegate merits discussion.

Before employers get too comfortable and think that their pension problems now belong to someone else, it is noteworthy to acknowledge that there are more than a few lawsuits that have been filed against third parties. Some of them allege breach on the basis of a failure to properly oversee and respond accordingly.

My observations come from firsthand experience. I have served as an economic analyst or testifying expert on disputes between an institutional investor such as a retirement plan, endowment, foundation or family trust. For other matters, I have provided due diligence training to fiduciaries and board members or reviewed the risk practices in place prior to a vendor being selected or as part of a later review of said vendor, once hired. As the founder of an educational start-up company a few years ago, I had a front row seat to the ongoing discussions between buyers and sellers of investment, risk and valuation services. Information in the form of repeated and in-depth surveys and numerous conversations about what pensions, endowments, foundations, family offices and other types of trust investors want and need from those who provide advice is telling. One issue that came up often from institutional investors was how to benchmark the quality of the work being provided by a delegate. This is a critical subject, especially for those outsourced professionals who are doing a terrific job and want their clients to be satisfied.

The topic of service provider due diligence is timely, important and the focus of my presentation on October 25, 2013 as part of the American Conference Institute's 6th Annual ERISA Litigation Conference. Interested readers are welcome to download my fiduciary due diligence slides.

Enterprise Risk Management, Board Governance and the Art of Cleaning Dirty Dishes

Old habits sometimes die hard. In my husband's case, he insists on soaking the dishes before putting them into the dishwasher. I prefer to scrub them with a sponge, rinse and put them aside until the current load is finished, the machine is emptied and there is room to add the next set. After twenty-two years of otherwise marital bliss, you would think that we would have the whole kitchen clean-up dance choreographed and down to a science. Yet, here we are on a Sunday night, talking about the best way to clean the dishes...again. The good news is that we have squeaky clean dishes. The less than good news is that it would be better in my view to discuss the issue thoroughly, agree on a process and then allocate work accordingly instead of each of us spending time on a basic task that should be easy enough to master without repeatedly going over the same thing.

Now if talking about cleaning dishes is the extent of disagreement in any relationship (marriage or otherwise), life is good. It does get you thinking however about interpersonal dynamics, leadership and how to accomplish a goal, especially when things are more complicated.

Managing enterprise risk management ("ERM") is a good example of a task that requires care and coordination and is arguably more complex than pulling out a scrub brush. According to a recent McKinsey & Company survey about improving board governance, others concur. In their August 2013 write-up of results, authors Chinta Bhagat, Martin Hirt and Conor Kehoe write that "...most boards need to devote more attention to risk than they currently do. One way to get started is by embedding structured risk discussions into management processes throughout the organization."

In "Risk Management and the Board of Directors" by Martin Lipton et al (Bank and Corporate Governance Law Reporter, February 2011), the role of oversight is distinguished from "day-to-day" risk management. The authors write "Through its oversight role, the board can send a message to the company's management and employees that comprehensive risk management is neither an impediment to the conduct of business nor a mere supplement to a firm's overall compliance program, but is instead an integral component of the firm's corporate strategy, culture and business operations."

According to a 2009 publication entitled "Effective Enterprise Risk Oversight: The Role of the Board of Directors" by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO"), board oversight entails several important actions. These include the following:

  • Comprehend an organization's philosophy about risk and "concur with the entity's risk appetite," otherwise defined as its risk tolerance for alternative ways to create shareholder wealth;
  • Assess whether management has put effective risk management processes in place in order to identify, measure and manage key sources of uncertainty;
  • Regularly carry out a study of an organization's portfolio of risks in the context of stated risk tolerance goals; and
  • Evaluate whether management is "responding appropriately" to factors that could seriously erode enterprise value.

Hopefully, readers agree that the topic of risk management oversight should be important to pension plans and other types of institutional investors that invest in companies directly or by purchasing corporate stocks and bonds. Looking askance or ignoring the topic altogether is ill-advised.

In a recent conference call about vendor selection for a relatively large ERISA plan, I was surprised when one of the callers admitted to not having yet vetted the risk management controls in place for a candidate service provider. Worse yet, he thought doing so was a bad idea since "the numbers spoke for themselves."

Certainly insurance underwriters are taking a further look at their exposure. Professors David Pooser and Kathleen McCullough, on behalf of the Professional Liability Underwriting Society ("PLUS") Foundation, explain that more attention is being paid to the oversight role of directors in the aftermath of recent financial crises. In "How is Enterprise Risk Management Affecting the Directors' and Officers' Liability Exposure?" (September 1, 2013), they write that "Better governance control through ERM should make a firm a more appealing risk for D&O insurers to write. ERM becomes especially important if it signals that the corporation is less risky and better controlled than others, and therefore may be a useful tool to D&O insurers, regulators, and other monitors."

Understanding Directors and Officers ("D&O") oversight of a firm's enterprise risk management activities is not exactly the same thing as settling on how best to get the dishes clean. However, both activities are important, require that collaborative discussions take place and actions ensue.

Effective Investment Stewards Should Take a Bow

In case you missed it, check out the quirky indie film "In A World..." If you like movies as I do, you will enjoy this lighthearted comedy about the supposed rough and tumble world of voice-overs. The first few minutes are devoted to the memory of Don Lafontaine, the uber vocal artist of countless trailers and commercials who died at the age of 68 in 2008. The story then proceeds to chronicle the efforts of a character played by actress Lake Bell, Carol Solomon, in competing for gigs in a mostly male-dominated industry. (Kudos to Ms. Bell for writing, directing and producing this cinematic gem as well.) Various sub-plots involve the reinforcement of a shaky marriage, connecting anew with a less than supportive father and getting "used" by a female film executive who sees dollar signs in empowering women at the expense of boosting Carol's ego.

Aside from its entertainment value, the production stayed on my mind, hours after the popcorn was gone. Here is why. In a final scene, Carol decides to help young women with squeaky voices learn how to better present themselves. She asks "Are you ready to be heard?"

Applied to the pension world, the question is apt. In an era of rising enforcement and litigation activity, I have often wondered why more governance-focused plan sponsors are refusing to take a bow. In speaking to several of their representatives, the feedback I received is that visibility can be a two-edged sword. My understanding of what others have said to me is that affirmative "best practice" communications might be viewed as a defensive tactic to hopefully keep participants happy and therefore unlikely to sue. The danger is that those same statements could be seen as raising awareness of issues that will lead to questions and unwelcome attention to topics such as fees, risk management and vendor selection.

The subject of how much information to provide is certainly an important one to address. The president of retirement plan services at Lincoln Financial Group, Chuck Cornelio, writes that "The move away from process-focused messages, such as how to enroll, plan mechanics and investment selection, to conversations around the projected outcomes of a participant's savings behaviors and strategies, including future monthly retirement income, spending power and retirement lifestyle, will not happen overnight." Click to read "5 critical elements of retirement plan communication" (Benefits Pro, November 12, 2012).

A recent court action has shed light on the attorney-client privilege as relates to ERISA plan communications. Interested readers can download the presentation about the fiduciary exception rule by Attorney James P. McElligott (Partner, McGuireWoods) and Attorney Ronald S. Kravitz (Liner Grode Stein Yankelevitz Sunshine Regenstreif & Taylor). It is entitled "ERISA Counsel's Communications with Plan Fiduciaries and Attorney-Client Privilege" (Strafford Continuing Legal Education, April 3, 2013). Attorney McElligott adds that "Fiduciary communication is a critical area. The process starts with a well-written Summary Plan Description ("SPD") but requires constant thought and vigilance."

In its "Fiduciary Checklist," T. Rowe Price authors provide a long list of items that should be disclosed to participants. It is certainly a good start but I would add numerous sections to that list about the governance of any particular retirement plan.

This topic will receive more attention from this blogger, especially as different countries approach the issue of pension governance as a recognized problem, with some plans badly in need of a solution.

Yoga Lessons For Investment Fiduciaries

I have been practicing yoga for about five years. I try to take four or five 75 minute classes each week. The combination of strength training, balance, meditation and aerobic activity is a time-effective way to exercise, strive for self-improvement and level set, especially after a busy day.

Aside from the personal benefits, I keep coming back to the invaluable lessons one can learn from yoga for an investment fiduciary. Here are a few thoughts.

Persistence matters. Even advanced practitioners recognize the need for care and diligence on a regular basis. Part-time habits seldom generate results. I was thrilled that I could finally succeed at the L-pose against the wall (pictured here, courtesy of instructor Elsie Escobar from Pittsburgh). Indeed, I was able to hold this pose twice in a row last night, after numerous attempts in the last year during yoga class. In addition, I began adding arm and leg weights when at the gym. According to "Yoga Bears: It's No Stretch to Say Traders Are Taking Deep Breaths" by Cassell Bryan-Low (Wall Street Journal, July 24, 2008), "Value the process of hard work..."

Pay attention to limits. Someone who is flexible can take a pose to a different level than someone who is stiff or has an injury. For pension fiduciaries, each plan is different for a variety of reasons. An investment that makes sense for one portfolio may be imprudent for another organization. The composition of the sponsor's talent pool, trading limits and risk tolerance are a few of the factors that could preclude certain securities, service providers and financial structures from being considered.

Focus on posture and form. Not paying attention to alignment could set someone up for an unwanted injury. Luckily, I take classes at a studio with instructors who regularly walk about the room and assist students as needed. An investment fiduciary must focus on process and take care to do sufficient homework before making important decisions such as allocating monies, selecting an asset manager and/or undertaking a liability-driven strategy.

Acknowledge the benefits of learning from others. While movements are necessarily a function of each individual's comfort level and abilities, there is a benefit from watching others strike a pose. Sometimes, an instructor will ask an individual to explain to the rest of the class how he or she has been successful in achieving a certain level of mastery and how long it took that person to realize the goal. Investment fiduciaries need to allocate sufficient time and energy for continuing education, ask questions of others who have "been there, done that" and be bold about watching what governance leaders are doing that makes them effective stewards of other people's money. The converse is to understand what ineffective fiduciaries have done and avoid their mistakes, whenever possible.

Give yourself time to think. When I first started yoga, I found it difficult to quiet my mind. I used the meditation part of class to review my "to do" list in my head. Gradually, I began to focus more on how my body felt in a pose, the sound of the music or the colors in the garden outside the studio. This "forced" effort to relax has been tremendously helpful. I feel refreshed after a class and often find myself with a renewed burst of energy by having taken a time out. For those investment fiduciaries who face continued market volatility, complex product structures and new rules and regulations, taking time to reflect on the primary objectives is a good thing. If guiding documents such as an Investment Policy Statement, Risk Management Policy Statement and/or vendor selection questionnaires by asset class are not yet in place or need revisions, concentrate on the big picture fiduciary obligations first. Getting bogged down with details and ignoring the constructs such as prudence and loyalty could pave the way for litigation, poor performance and worse.

Recognize the importance of what you are doing. While I gain personal satisfaction from the discipline and growth I have experienced as a yoga practitioner, I recognize that there are material health benefits associated with this activity. For investment stewards who get plucked from their everyday tasks and are asked to add fiduciary responsibilities to an already jam-packed day, know that your work - if done well - has a highly positive impact on countless individuals.

For those investment professionals who are interested in exploring the potential gains from practicing yoga, best of luck and "namaste."

Audrey Hepburn, Gary Cooper and Pension Governance

Grab the popcorn. If you haven't seen the 1957 romantic film, "Love in the Afternoon," check it out. No nudity. No violence. No swear words. Just some clever banter, courtesy of Maurice Chevalier, Gary Cooper and Audrey Hepburn. I love these old-fashioned movies for their charm and ease of viewing. They remind viewers that there are some things that never get old. Yes, good ideas are fresh, sound and worth revisiting again and again.

Pension governance comes to mind.

When I created in 2006, my goal was (and still is) to provide educational information about process. Not only is procedural prudence a key element of various trust rules and regulations, it is the cornerstone of effective investment, risk and asset-liability management. Indeed, it is easy to show that bad process can be hugely expensive for plan sponsors and beneficiaries alike.

At the inception of this pension blog, there were few studies and surveys about the topic of pension governance. Things have changed since then. Always an important topic, it is good to know that this "old-fashioned" topic is receiving more attention and will hopefully gain even more visibility over time.

According to a July 23, 2013 press release, a survey of U.K. employers indicates awareness of the importance of pension governance. Sponsored by SEI Investments, the survey answers reflect a frustration that companies need to do more since "current governance structure [do] not allow them to easily take advantage of market conditions to improve their funding levels, with many trustees unable to make informed and timely decisions due to a lack of resources, including limitations of time and/or expertise." Consultant relationships was another queried topic. Nearly one third of respondents expressed a "perceived lack of transparency around the costs associated with traditional investment consultants who often charge separately for investment reviews, manager changes, and ongoing support, and who are not fully accountable to the scheme." Click to learn more about how to access the SEI UK survey.

Will pension governance remain a classic a la Gary Cooper? One certainly hopes so. Too much is at stake for good process to end up on the shelf.

Dr. Susan Mangiero Will Speak at ACI ERISA Litigation Conference

I am delighted to join the roster of multi-disciplinary speakers for this exciting October 24-25, 2013 New York City event. Designed for and by attorneys, the American Conference Institute's 6th National Forum on ERISA Litigation will include comments from renowned judges, in-house counsel, insurance experts, economic consultants and practicing litigators in the ERISA arena. According to the conference flyer, attendees will learn about the following:

  • Emerging trends in multiple facets of ERISA litigation;
  • Understanding new theories of liability arising from investment decisions, including alternative investments and the trend towards de-risking;
  • 401(k) fee case considerations and a discussion about evolving defense strategies, the issue of service providers and the viability of float claims;
  • ESOP litigation to include an overview of DOL investigations and settlements;
  • Benefits claims litigation
  • ERISA fiduciary litigation and ways to minimize liability exposure:
  • Class action update; and
  • Ethical issues that arise in ERISA litigation.

Having spoken and attended prior ERISA litigation conferences sponsored by the American Conference Institute, I always learned a lot. In particular, the discussions among jurists, the plaintiffs' bar and defense counsel makes for a collection of timely and lively debates. I hope you will be similarly satisfied if you decide to attend.

As a courtesy to readers of this blog, the American Conference Institute has activated a discount code of $200 for anyone who registers for the conference. Simply type "PRM200" when prompted. Click here to register. Click to download the agenda.

Pension Risk Governance Blog Celebrates Seventh Birthday

I am delighted to announce our seventh year as an educational resource for the $30+ trillion global retirement plan industry. With over a million visitors to, I appreciate the ongoing feedback and encouragement from financial and legal readers. This blog began as a labor of love and continues to be personally rewarding as a way to help guide the discussions about pension risk, governance and fiduciary duties.

Here is a link to the March 25, 2013 Business Wire press release about, an educational pension risk governance blog for ERISA, public and non-U.S. pension plan trustees and their advisors.

As always, your input is important. Click to send an email with your comments and suggestions.

Thank you!

Tibble v. Edison and ERISA Fiduciary Breach Issues

Speedy and insightful as always, ERISA attorney Stephen Rosenberg has commenced a series of blog posts that describes his view of the "hot off the press" conclusions made by the United States Court of Appeals for the Ninth Circuit in Tibble v. Edison. Click to access the March 21, 2013 Tibble v. Edison opinion. This ruling will no doubt receive much attention in the coming days as jurists and ERISA fiduciaries digest its content. Some will view this adjudication as yet another reminder that prudent process must be undertaken and can be demonstrated with respect to a host of issues (although the outcome is mixed in terms of plaintiff versus defendant "wins"). Issues include the selection of investment choices and the fees paid accordingly. Click to access the amicus brief filed by the U.S. Department of Labor in support of the plaintiffs.

In his first post about yesterday's opinion, Attorney Rosenberg points out that the timeline that determines ERISA's six-year statute of limitations was deemed to have started "when a fiduciary breach is committed by choosing and including a particular imprudent plan investment" and did not continue by virtue of the investment mix remaining in the plan. He further asserts that defendants will want the clock to begin on the day an investment option is first introduced and that "any breach of fiduciary duty claims involving that investment that are filed later than six years after that date are untimely."

I will leave court commentary to the legal experts. Click to access the Boston ERISA & Insurance Litigation Blog for his analysis about this case and many more.

Fiduciary Duty is More Than Numbers

As a published author, I am constantly assessing what has appeal to readers. I try to write about topics that are relevant and timely and welcome feedback. Click here to send an email with your suggestions. As a financial expert, I continuously seek to stay on top of what is being adjudicated. As a risk manager, I regularly evaluate what might have been done differently when things go seriously awry.

What I have noticed is that enumeration seems to offer comfort. Lists of this or that are common to many best-selling books and widely read articles. A trip to the Inc. Magazine website today illustrates the point. Consider this excerpted list of lists:

The popularity of laying out "to do" items extends to the retirement industry as well. For example, Attorney Mark E. Bokert provides insights in his article entitled "Top 10 ERISA Fiduciary Duty Exposures - And What to Do About Them" (Human Resources - Winter Edition, Thomson Publishing Group, 2007). His list of vulnerabilities - and prescriptive steps to try to avoid liability - includes the following:

  • Identify who is a fiduciary and making sure that they are properly trained;
  • Create a proper process by which investments are selected and monitored;
  • Monitor company stock in a 401(k) plan and consider whether to appoint an independent fiduciary;
  • Assess the reasonableness of "like" mutual funds versus existing plan choices;
  • Ensure that communications with plan participants are adequate;
  • Undertake a thorough assessment of vendors and review their performance thereafter;
  • Assess whether 401(k) deferrals and loan repayments are being made in a timely fashion;
  • Identify the extent to which service providers enjoy a float and whether they are entitled;
  • Understand what is allowed in terms of providing investment advice to participants and abide by the rules accordingly; and
  • Critically evaluate whether auto enrollment makes sense and the nature of any default investment selection.

One could easily break out each of the aforementioned items into sub-tasks and create appropriate benchmarks to ascertain whether fiduciaries are doing a good job. Indeed, ERISA attorneys are the first to invoke the mantra of "procedural process" as a cornerstone of this U.S. federal pension law. Importantly however, relying only on numbers is not sufficient. Increasingly legal professionals and regulators are asking that process be demonstrated and discussed. Expect more of the same in 2013. Analyses and expert reports may be deemed incomplete if they do not include a deep dive of the fiduciary decision-making process that took place (or not as the case may be).

De-Risking For Shareholders or Participants?

According to "De-Risking Focuses on Business Issues; Retirement Security a Concern, Critics Say" by BNA reporter Florence Olsen (Pension and Benefits Blog, November 2, 2012), the Pension Rights Center in Washington would like plan sponsors to catch their breath before partially or fully transferring its pension liabilities to third parties like insurance companies. Business Insurance editor-at-large Jerry Geisel writes that the Pension Rights Center wants the U.S. Congress to prohibit further pension de-risking transactions until legislators can assess the ramifications of giving some or all plan participants a choice to convert their future expected pension cash flows into a lump sum or having the employer contract with a group annuity provider to write checks instead of the original corporate sponsor. See "Pension Rights Center wants Congress to put moratorium on pension plan de-risking" (October 19, 2012).

In a forthcoming article for CFO Magazine, ERISA attorney Nancy Ross (with McDermott Will & Emery) and Dr. Susan Mangiero (with FTI Consulting) consider pension de-risking within the context of governance and the duty of loyalty to plan participants. They conclude that while there could be distinct advantages that accrue to retirees and workers when a sponsor enters into a pension de-risking transaction, ERISA fiduciary decision-makers may face personal and professional liability in the event that the economics of a deal mostly benefit shareholders.

In a recent announcement, one company that entered into a pension de-risking transaction cited the upside to include the following:

  • Enhancing the sponsor's long-term financial position;
  • Removing a "volatile" pension liability from the balance sheet;
  • Reducing cash flow and income statement volatility; and
  • Improving financial flexibility.

It is not known yet whether someone will challenge this kind of rationale as being too shareholder heavy or instead primarily in the best interest of plan participants who are impacted by a particular transaction. One might logically assert that a financially stronger plan sponsor means less risk for those participants who remain exposed to its credit risk and "ability to pay."

The use of an independent fiduciary could help to allay any concerns about issues such as deal terms, fees paid, the selection of the "safest available" annuity provider and the fair market valuation of contributed assets that are deemed "hard to value." Outsourcing or delegating the investment management function to a financial institution - in lieu of a pension transfer - may be another approach to consider.

Only time will tell whether the plaintiff's bar sees a possible "two hat" fiduciary conflict as a reason to file an ERISA lawsuit against corporate officers and/or directors.

ERISA Assets: QPAM and INHAM Audit Legal Requirements and Best Practices

Please join us for a timely and information webinar entitled "ERISA Assets: QPAM and INHAM Audit Legal Requirements: Navigating DOL Rules for Pension Asset Management Compliance" on August 29, 2012 from 1:00 PM EST to 2:30 PM EST. 

This CLE webinar will prepare counsel to advise asset manager clients regarding QPAM and INHAM audits as required by the Department of Labor. The panel will review the new exemption rules, who can conduct an audit, what the process entails, and how to showcase good practices with existing and prospective plan sponsors.


An opportunity to manage part of the $17 trillion retirement industry assets is a key business strategy for many financial organizations. ERISA plans present a number of unique challenges due to the rules, regulations and increasing litigation brought against asset managers. Compliance is critically important.

In 2010, the U.S. DOL changed rules on activities asset managers can undertake if they manage ERISA assets. Entities like banks, insurance companies, hedge funds and SEC-registered investment advisors must have documented policies and procedures for types of trading, parties in interest and internal controls.

In addition, a regular audit of the activities of a Qualified Professional Asset Manager (QPAM) and/or in-house asset manager (INHAM) must be conducted by persons who are knowledgeable about ERISA and can render an objective assessment as to whether the exemption is justified.

Listen as our ERISA-experienced panel provides a guide to this recent mandate, why it is important, how to comply, and what an asset manager can learn from the audit process to mitigate litigation risk.


1. QPAM and INHAM Rules: Definition, Exemptions and Consequences of Not Getting Audit

2. Nature of the QPAM/INHAM Audit: Qualifications of Auditor, Components of Audit and Role of Counsel

3.Use of Audit: Regulatory Scrutiny, Correcting Deficiencies, Marketing Audit Results, Lessons Learned


The panel will review these and other key questions:

  • Who is a QPAM or INHAM?
  • What determines when a QPAM or INHAM audit is required?
  • What is the audit process like in terms of length of time it takes to complete, the documents needed, and the role of outside counsel and the QPAM or INHAM auditor?
  • How can the QPAM or INHAM audit be used to mitigate suits about procedural prudence and fiduciary breach?

Following the speaker presentations, you'll have an opportunity to get answers to your specific questions during the interactive Q&A.


Susan MangieroManaging Director
FTI Consulting, New York

She has provided testimony before the ERISA Advisory Council, the OECD and the International Organization of Pension Supervisors as well as offered expert testimony and behind-the-scenes forensic analysis, calculation of damages and rebuttal report commentary for various investment governance, investment performance, fiduciary breach, prudence, risk and valuation matters.

Terry OrrSenior Managing Director
FTI Consulting, Dallas

He provides forensic and investigative due diligence services to companies and their counsel in a variety of industries. His twenty-five years of experience as an independent auditor of both public and private businesses includes the examination of numerous ERISA plans.

David E. PicklePartner
K&L Gates, Washington, D.C.

He represents clients in matters dealing with ERISA’s prohibited transactions and exemptions and ERISA’s fiduciary rules. He represents investment managers, financial institutions and plan sponsors in a variety of matters including investments and other transactions with ERISA plans and in litigation and government enforcement actions.

William A. SchmidtPartner
K&L Gates, Washington, D.C.

He works in the areas of institutional investing and employee benefits, with particular emphasis on fiduciary responsibility matters under ERISA. He advises major financial institutions, including banks, insurance companies, registered investment advisers, and large employee benefit plans about ERISA restrictions relating to plan investments and to fee arrangements for investment management.


CFO Liability and Pension Plan Governance and Risk Management

On October 16, 2012, thousands of CFOs,Treasurers, Vice Presidents of Finance and other corporate leaders will meet in Miami, Florida for a chance to attend timely and informative sessions as part of this year's annual conference of the Association for Financial Professionals ("AFP"). Dr. Susan Mangiero is proud to have been selected to speak at the Association for Financial Professionals' big event. She will be joined by senior ERISA litigation attorney Howard Shapiro with Proskauer Rose LLP to address the topic of CFO liability and pension plan governance and risk management. Click to access information about the Pension & Benefits educational session track that includes this important session and many others.

According to Dr. Susan Mangiero, a managing director with FTI Consulting's Forensic and Litigation Consulting practice and based in New York, financial professionals, board members and their advisors can learn numerous lessons by examining what went wrong elsewhere and, by extension, what to avoid. Mangiero emphasizes that "Litigation is a reality. Mitigating enforcement, regulatory, litigation and reputation risk is hugely important because of the expensive consequences of inaction. For enlightened companies both large and small, employee benefit plan governance is high on the priority list for officers and directors. When retirement plan problems exist, it could compromise a firm's ability to raise capital, finalize corporate finance transactions and/or add to enterprise value. Most importantly, it could mean that a company is unable to keep its promises to plan participants."

Dr. Mangiero is also the author of "Pension risk, governance and CFO liability" (Journal of Corporate Treasury Management, Henry Stewart Publications, Vol. 4, 4, 2012, pages 311 to 323). Click to read "Pension risk, governance and CFO liability."

Click to read "The Risk Manager" by Elliot A. Fuhr and Christine Wu McDonagh (FTI Journal, April 1, 2012) for a current discussion about the importance of having chief financial officers embrace and support enterprise risk mitigation.

New Focus of ERISA Fee Litigation

According to Troutman Sanders ERISA attorneys Jonathan A. Kenter and Gail H. Cutler, the outcome of a recent 401(k) plan lawsuit known as Tussey v. ABB did more than force the sponsor to write a check for $37 million. It led to lessons learned about the need to regularly review record-keeping and investment management fees, negotiate for rebates if possible and adhere to documented investment guidelines. What it did not resolve was "whether the record keeping costs of a 401(k) plan may be borne exclusively by those participants whose investment funds enjoy revenue sharing...while participants whose accounts are invested in investment funds with no revenue sharing pay little or nothing."

In "The Next Frontier in Fiduciary Oversight Litigation?" (April 27, 2012) they suggest that courts will likely be asked to opine as to whether ERISA fiduciaries have justified prevailing revenue sharing arrangements, taking allocation and class-based fee levels into account. Their recommendation is to decide on a disciplined approach that makes sense rather than making arbitrary decisions. Allocation rules to consider include the following:

  • Apportion record keeping fees on a pro-rata basis so that each participant is only charged his or her "fair share." Credit any revenue sharing received back to the "funds or participants as part of a periodic expense balance true-up."
  • Levy the same record keeping fee for each participant. Allocate revenue sharing monies ratably "to all investment funds or participants."
  • Adopt a combined pro-rata and per capital allocation such that a record keeping fee would consist of a fixed amount and a variable amount. Imposing a cap on total fees could be included.
  • "Hard wire the allocation method in the plan document" so that how record keeping fees are charged becomes a settlor function versus a fiduciary task.

In 2007, the ERISA Advisory Council's Working Group on Fiduciary Responsibilities and Revenue Sharing Practices reviewed industry practices as a way to improve disclosure for 401(k) plan participants. One recommendation made to the U.S. Department of Labor thereafter was to categorize payments for certain professional services as settlor functions and thereby protect fiduciaries from allegations of breach. Another request was for clarification that revenue sharing is not a plan asset "unless and until it is credited to the plan in accordance with the documents governing the revenue sharing."

With ERISA Rule 408(b)(2) fee disclosure compliance just ahead, numerous questions remain. This had led litigators and transaction attorneys alike to comment that further lawsuits and enforcement actions are likely to follow.

Note: Interested persons can read "Final Regulation Relating to Service Provider Disclosures Under Section 408(b)(2)," published the U.S. Department of Labor in February 2012.

Pension Risk, Governance and CFO Liability

My November 2011 presentation about pension risk, governance and liability to financial executives struck a chord. Part of a Chief Financial Officer ("CFO") conference held at the New York Stock Exchange, attendees alternatively listened with interest while adding their insights from the front lines here and there. It is no wonder.

With ERISA litigation on the rise and 401(k) and defined benefit plan decisions often driving enterprise value in a material way, CFOs and treasurers have accepted the obvious. Corporate governance and pension governance are inextricably linked. Make a bad decision about an employee benefit plan and participants and shareholders alike may suffer. As a result, the CFO is exposed to fiduciary liability, career risk and the economic consequences of an outcome with broad impact.

Rather than rely on luck, there is no better time to apply discipline and rigor to employee benefit plan management for those companies that have not already done so. With trillions of dollars at stake, properly identifying, measuring and mitigating pension risks continues to be a critical element of fiduciary governance.

The complexity and ongoing nature of the risk management process is sometimes overlooked as less important than realizing a particular rate of return. Recent market volatility, large funding deficits and pressures from creditors, shareholders, rating agencies and plan participants make it harder for pension fiduciaries to avoid the adoption of some type of pro-active risk control strategy that effectively integrates asset and liability economics.

In "Pension risk, governance and CFO liability" by Susan Mangiero (Journal of Corporate Treasury Management, Henry Stewart Publications, Vol 4, 4, 2012, pages 311 to 323), the issues relating to a panoply of risks such as actuarial, fiduciary, investment, legal, operational and valuation uncertainties are discussed within a corporate treasury framework. Article sections include:

  • Enterprise risk management, employee benefit plans and the role of the CFO;
  • Conflicts of interest and pension plan management;
  • Risk management principles and 401(k) plans;
  • Pension liability and mergers, acquisitions and spinoffs;
  • Prudent process;
  • Pension risks; and
  • Benchmarking success.

Click to download "Pension risk, governance and CFO liability" by Dr. Susan Mangiero, CFA, FRM.

Fiduciary Duty to Hedge

Who would have thunk that a discussion about pension governance and risk management would keep audience members in their seats for nearly three hours? Yet that is what occurred on January 24, 2012 as a panel convened to discuss such weighty issues as whether companies have a fiduciary duty to hedge and whether inaction can lead to litigation.

In his opening remarks as part of a January 24, 2012 event that was hosted by the Hartford CFA Society, ERISA attorney Martin Rosenburgh cautioned that fiduciaries could find themselves open to questions for not taking steps to mitigate risks. Attorney Gordon Eng, a former litigator and now general counsel and Chief Compliance Officer for a high yield bond fund, adds that any investment decision should be supported with ample documentation that reflects a careful and thorough deliberation of the issues at hand.

For more details about this lively, topical and informative event, read "Considering a Duty to Hedge" by Christopher Faille.

Pension Risk Management and Governance: Challenges and Opportunities in a New Era


Please join me and fellow panelists on January 24, 2012 fro. 4 to 6 pm for a topical discussion about pension risk management and governance. Given that the last few years have posed unprecedented challenges for plan sponsors, both corporate and public, as well as their asset managers and consultants, life in employee benefit land will never be the same again. Market volatility, low interest rates, increased scrutiny about carrying out fiduciary duties, calls for better disclosure and greater complexity keep pension decision-makers busy.

Hear what legal and financial professionals have to say about what keeps plan sponsors and their advisors and asset managers up at night and how they can implement best practices for pension risk management within a fiduciary framework.

The roster of speakers who will address both defined benefit and defined contribution plan best practices and concerns include:

  • Mr. William Carey, President, F-Squared Retirement Solutions
  • Attorney Gordon Eng, General Counsel and Chief Compliance Officer, SKY Harbor Capital Management, LLC
  • Dr. Susan Mangiero, CFA, FRM, Risk and Valuation Consultant and Expert Witness
  • Attorney Martin J. Rosenburgh, CFA
Continue Reading...

Public Pension Risk Management and Fiduciary Liability

A few weeks ago, Attorney Terren B. Magid and Dr. Susan Mangiero jointly presented on the topic of pension risk management and fiduciary liability with a particular emphasis on public plans. Attorney Magid's insights reflect a particularly unique perspective inasmuch as he served as executive director of the $17 billion Indiana Public Employees' Retirement Fund ("PERF"). Dr. Mangiero shares her views as an independent risk management and valuation consultant, author, trainer and expert witness.

Click to download the 25-page webinar transcript for public pension fiduciaries entitled "Are You Properly Mitigating Risk? Assess Your Fiduciary IQ" with Attorney Terren B. Magid (Bingham McHale LLP) and Dr. Susan Mangiero (Fiduciary Leadership, LLC). Comments about ERISA plans are provided when applicable.

Topics discussed include, but are not limited, to the following:

  • Public Pension Transparency Act
  • Discount Rate Choice
  • Dodd-Frank Wall Street Reform and Municipal Advisor Registration
  • Expanded Definition of ERISA Fiduciary
  • Fee Disclosure Under ERISA 408(b)(2)
  • Failure to Pay and Actuarially Required Contribution ("ARC")
  • Benefit Reductions
  • RFP Process
  • Fiduciary Audits
  • D&O Policy Review
  • Vendor Contract Examination
  • Qualitative and Quantitative "Investment Risk Alphabet Soup"
  • Interrelated Risk Factors
  • Key Person Risk
  • Hard to Value Investing
  • Model Risk
  • Stress Testing
  • Pension Litigation
  • Fiduciary Breach Vulnerability
  • Characteristics of a Good Model
  • Side Pockets and Investment Performance.

Comments are welcome.

Susan Mangiero Risk Management Papers Make Top Ten Lists

In case you missed it, "Stable Value Risk Management" by Dr. Susan Mangiero, CFA, FRM was recently listed on SSRN's Top Ten download list for CGN: Financial Advisors (Sub-Topic), Corporate Governance: Actors & Players eJournal, Derivatives eJournal, Employee Benefits, Compensation & Pension Law eJournal, Employment, Labor, Compensation & Pension Law eJournals, Mutual Funds, Hedge Funds, & Investment Industry eJournal, Pension Risk Management eJournal, Regulation of Financial Institutions eJournal and Risk, Regulation, & Policy eJournal. Visit to download this November 18, 2010 speech for the Stable Value Investment Association.

Dr. Mangiero's "Pension Risk Management: Derivatives, Fiduciary Duty and Process", was likewise recently listed as a SSRN's Top Ten download paper. To download the detailed survey and analysis, see

Pulling Rabbits Out of the Hat At Sea

According to up-to-the minute press accounts, some 100 magicians are stranded in the middle of the ocean on a cruise ship with a faulty engine. Expecting a few days of fun and legerdemain, these tricksters are awaiting rescue and forced to dine on cold goodies with no air conditioning. When a colleague brought this news to my attention tonight, my immediate query was why help was taking so long. In response, I was told that passengers had to wait for a tugboat that could transport over 3,000 people (magicians included). Help is expected in short order with a full refund and a free trip for those affected.

No doubt Jay Leno and others will get a few guffaws out of this unpleasant experience for the sailing "Houdinis" - something to the effect that magicians should be able to snap their way out of trouble. The reality is that bad things can happen, leaving one feel helpless and stressed out. Also true is that adversity should and can be anticipated. That's why stress tests are so important as a way to model the unthinkable and plan accordingly. Maybe the cruise company in question did just that but, if so, why are paying customers forced to hang out for more than a few hours?

If we've learned anything from the financial market rollercoaster of late, it's this. We can't rely on sleight of hand to properly identify, measure and manage risks. Putting a contingency plan in place for any and all of the risk factors considered potentially material is good business sense. In pension land, failure to have tested the limits of a significant negative equity market has cost numerous sponsors big money. Other types of institutional investors and asset managers must heed this cautionary tale too.

Notably, in an in-depth survey conducted by MSCI Barra in 2009, "73% of pension plans and 26% of asset managers surveyed do not currently run stress tests, but cite this as a key focus going forward." This is encouraging. After all, ignoring the tail risk can lead to nasty consequences.

Other results that MSCI Barra uncovered are similar to what I found in a study of over 150 U.S. and Canadian pension plans, done in conjunction with the Society of Actuaries. Like MSCI Barra, few of our queried plan sponsors had Chief Risk Officers in place, considered retirement plan management as part of an enterprise-wide risk exercise and did not always pay close attention to risks such as liquidity. Click to access a full version of this 2008 study about the use of financial derivatives and fiduciary duty.

Pulling rabbits out of the hat is not as easy as it appears. Isn't it better to depend on a systematic and disciplined approach to mitigating those things that have the potential to destroy, if left unchecked?

SIFMA Study Intimates Fiduciary Standard Cracks

Hot off the press, a study commissioned by the Securities Industry and Financial Markets Association ("SIFMA") questions whether a uniform fiduciary standard of care makes sense. Conducted by Oliver Wyman consultants, "Standard of Care Harmonization: Impact Assessment for SEC" (October 2010) suggests that a "one size fits all" approach for fee-based advisors and broker-dealers may force consumers to bear higher costs and/or limit their access to financial products that are distributed through broker-dealers and/or lower access "to the most affordable investment options." The authors assert that only one out of every twenty retail investors rely only on fee-based accounts. Their analysis considers three different types of investors to include "small," "affluent" and "high net worth." Researchers cite the regulatory burden on asset managers due to compliance with Europe's Markets in Financial Instruments Directive as a harbinger of things to come in the United States.

Critics of the study have raised eyebrows about the type of data collected for examination. They add that the Dodd-Frank Act does not require all of a broker-dealer's activities to be subject to an imposed fiduciary standard of care so the emphasis of this new research is misplaced. See "Advisory Industry: SIFMA Fiduciary Study Raises Lots of Questions" by Melanie Waddell, AdvisorOne, November 2, 2010.

At a time when numerous financial professionals are aggressively courting investors who seek to buoy their retirement nest eggs, how fiduciary standard of care rules are finalized will be important in numerous ways and to numerous individuals and organizations.

A Halloween Trick or a Halloween Trick from the Eighth Circuit?

ERISA legal expert and Ropes & Gray LLP partner, Attorney Andrew L. Oringer provides an interesting insight into a recent case about the investment of excess assets and prudence. The case he cites can be downloaded by clicking here. Note the court's opinion on page 5 wherein it writes that the plaintiff, seeking redress over a question of fees paid by the plan, cannot "bring suit because the plan's surplus was sufficiently large that the 'investment loss did not cause actual injury to plaintiff's interests in the Plan'."

Our thanks to Attorney Oringer for his contribution, provided below.

A Scary Halloween Gift from the Eighth Circuit?

So here's a question - you're managing an overfunded defined benefit plan (remember those) and you want to let your guard down. You want to roll the dice a bit or push the limit of what you can do with ancillary (non-investment) motivations, and you figure you can do so because you're playing with house money. At least, you want to play around just with some of the excess. Or maybe you're just a touch careless, albeit unintentionally so. What's the big deal?  After all, participants and beneficiaries are going to get their money, without government help, unless the whole overfunded thing goes to heck in a hand basket and turns radically south.

Now, you'd expect that you might be on the wrong end of this one, so, as your feet get colder, you poke around a bit. And what do you find? You find that you may indeed have a friend or two in the Eighth Circuit with an ever-so-slightly delayed Halloween present for you.  In McCullough v. AEGON USA, No. 08-1952 (8th Cir. Nov. 3, 2009), which follows its earlier decision in Minnesota Mining and Manufacturing, 284 F.3d 901 (8th Cir. 2002), the Eighth Circuit in effect seems to hold that one cannot violate the prudence rules with respect to the investment of excess assets.  (Note that the widely discussed 3M case may well be wrong on both of the issues considered there.)  Assuming AEGON is not reviewed en banc and reversed on rehearing, its confirmation of the 3M decision seems like a welcome development for those seeking to limit potential liability for investment decisions under a DB plan.

My advice, however, is to be careful, real careful, even in the Eighth Circuit. The reasoning of AEGON and 3M is so suspect that, outside the Eighth Circuit you would draw comfort from these cases at your own peril, and, even within the Eighth Circuit, I think you'd have to be at least a little concerned that any given case could be reversed by the nine old and young men and women in the black robes. Having said that, the cases are certainly nice precedent if you need to use them defensively

So: "Boo" or "Boo!" depending on your perspective.

Do Institutional Investors Have More Clout Now?


This week has been an eye opener in terms of customer service. As I've been signing off on more than a few big purchases related to the opening of a new office, I've noticed that some companies are definitely better than others when it comes to the care and feeding of those who fund their paycheck.

Take Company A for example. Since certain of their models are forced into obsolescence by top management (though still functional), they no longer sell spare parts so one has no choice but to toss otherwise viable products in the trashbin. It seems wasteful to this budget-focused gal but the vendor leaves me little room to maneuver. 

Then there is Company B. A purveyor of premium communication accessories, their service representative took down copious details about shipping location and what products we wanted to order. However, to pay for the merchandise, we were directed to a separate billing clerk who had us repeat all the gory details because the two departments had systems that did not talk to one another.

Company C has limited customer service hours and no "Contact Us" email address posted on their website. Hence, we were forced to take precious time during the next work day to call the vendor after we missed reaching them during a limited client care window. It would have been so much nicer to be able to call during extended hours or send a quick email.

The list goes on. I'm sure readers have their own tales to tell.

Anyhow, this repeated angst got me to thinking about client service in buyside land, fiduciary asymmetries and balance of power when it comes to large-scale purchasing. We've conducted enough market research studies to know that things are definitely changing in favor of institutional investors for a bunch of reasons.

Yet, and somewhat puzzling to some (though not to us), there still seems to be a disconnect between how certain products and services are sold to buy side executives. Some transactions that should make immediate sense are not necessarily causing the cash register to kaching for vendors.

Take risk management information technology or due diligence audits for example. Arguably a no-brainer to buy a product or service that helps one better identify, measure and manage risk, whether monies are being managed internally or not, some areas of IT and consulting spending have dipped according to recently published industry reports. While this may change (risk control is the new cool and budgets are being relaxed a bit), a reasonable person logically asks about barriers that currently inhibit sales. VERY importantly, part of the conundrum is the proper identification as to who makes for a logical buyer - Asset Manager? Consultant? Institutional Investor? All of the Above? None of the Above? Other?

When we've dug deep with organizations on both sides of the fence, we've heard variations of the following (with a gigantic caveat that there are some terrific companies in the vanguard when it comes to infrastructure that explicitly embraces their sensitivity to the fiduciary duties for which their institutional investor clients are responsible to discharge):

  • From a hypothetical service provider - "We aren't going to implement best practices X, Y and Z until the institutional investor requires us to do so. Otherwise, we're spending money we don't have to spend." 
  • From a hypothetical consulting firm - "We couldn't possibly engage in all of the best practices you recommend because of the costs to implement. We can't charge our clients enough to recoup our outlays."
  • From a hypothetical institutional investment executive - "We just assumed that our vendors are doing what they need to do in order to vet qualitative and quantitative risks appropriately.

No doubt lasting changes are underway with respect to industry participants, pricing structure and investment governance policies and procedures. With turmoil, there is tremendous opportunity to do well by doing good. We are excited about what the future holds in terms of investment best practices.

2008 Bonuses Deserve Scrutiny


Wall Street executive compensation is a big story these days. Given the importance of the topic and the impact on institutional investors, I accepted the invitation to write a guest op-ed piece on the topic for Fund Fire, an Information Service of Money-Media, a Financial Times Company. I've included the article below and welcome your feedback. Click to send an email with your opinion about this topic. Shown below is my piece entitled MoneyVoices: "2008 Bonuses Deserve Scrutiny" (February 12, 2009).

                                                                             * * * * * *

Fund Fire Editor’s note: This MoneyVoices column is a follow-up to last week’s editorial, Money Voices: "A Case for 2008 Bonuses." That article provoked a record number of reader comments, with many stating their disapproval of bonuses amid the downturn.

                                                          * * * * * *

                       "2008 Bonuses Deserve Scrutiny" by Dr. Susan Mangiero

As an advocate of free markets and industry-self regulation, I find myself in a real philosophical pickle on the issue of Wall Street compensation during this economic downturn.

I fervently believe that compensation should be determined by supply and demand, even if the resulting payouts are deemed “too high” by persons outside a particular industry. At the same time, I am disturbed by what seems to be a material disconnect between employee performance and monetary compensation in the financial industry.

Rewarding individuals for doing a bad job is never a good idea, regardless of whether taxpayers or shareholders are footing the bill. At least company investors get a say on pay structure in the form of one vote per share. The average taxpayer has no immediate voice, other than to complain to legislators or use the ballot box at the next election.

The status quo is almost surely a populist no-go. Change in some fashion is inevitable. The good news is that institutional giants – pensions, endowments and foundations – can and should play a role in leading serious discussions with their Wall Street service providers, including money managers and consultants, about their staff’s compensation.

One might even suggest that it’s an institutional investor’s fiduciary duty to inquire about how much of their fees are being used to reward portfolio managers, traders, analysts and other key persons, and on what basis. If they don’t like what they hear, they vote with their feet, engaging other firms they deem less egregious in terms of pay. Capitalists can sleep at night with this approach since it links buyers’ demands (for compensation transparency) with supply (payment of reasonable, risk-adjusted, performance-linked pay).

Remember, though, that asymmetric payoffs do little to properly motivate workers, so their banishment is good news to anyone who believes in a job well done. In an ideal world, professionals reap the fruits of their labor by selling their bundle of skills to willing buyers at an agreed upon price. The buyer takes into account education, experience and willingness to accept certain work conditions (long hours, deadline pressures, etc.).

Compensation comparisons to national norms make no sense unless adjusted on an “apples to apples” basis. A successful trader who makes a million dollars is likely worth every penny. However, it would be insanity to continue paying people for a job not done well, especially when bad results are subsidized with federal dollars. Hiring and retaining effective workers is always a challenge, perhaps never more so than now. Widespread attention, focused on compensation standards, opens the door to improved practices. Those Wall Street professionals who refuse to budge may end up losing the very institutional clients that indirectly pay their bills.

Valuation Fundamentals - Going to the Dogs

According to Venture Deal (February 11, 2009), raised $4 million in venture capital to "improve its website and expand its management team." Founded by actress Glenn Close and her husband, the company has heretofore been privately funded. Dogs are big business. The Morning Sentinel reports that pet owners are significant spenders with approximately $43.4 billion in 2007 sales for Rover and Fido, "up 88 percent from 1998." See "Portland in growth mode..." by Ann S. Kim (February 10, 2009).

Wow and congratulations to

For those plan sponsors with allocations to venture capital ("VC"), one has to ask lots of questions about the big 3 fundamentals - economy, industry, company, right? Shouldn't an Investment Policy Statement require VC and private equity managers to explain how a company is expected to make money? It sounds straightforward enough but recent articles suggest that some VC fund managers have shelled out cash first and asked questions about business models later. In some cases, it's worked but halcyon days are long gone. The IPO market is closed for all practical purposes and easy money makes it harder for acquirers to purchase companies with debt.

What kinds of questions do you ask your VC and private equity managers about the fundamentals, a la Graham and Dodd and then some?

Company Stock Case Outcome Favors Employer

Hat tip to attorney Janell Grenier and creator of BenefitsBlog for her nice write-up about Bunch v. W.R. Grace & Co. Savings and Investments Plan. The nature of the case differs from what some experts refer to as "stock drop cases" because plaintiffs asserted that the fiduciaries were at fault for not holding onto the stock. (In contrast, a "stock drop" case typically reflects a situation wherein (a) company stock is a defined contribution investment choice (b) the price of the company stock drops and (c) investment committee members (among others) are sued for allegedly not monitoring the "riskiness" of the company stock and its "suitability" as a 401(k) plan choice.)

Attorney Grenier describes the case as a "roadmap" for other corporate defendants who seek guidance with respect to "prudent process and procedures" they should follow in tracking company stock as a plan investment choice. Among other things, the court positively acknowledge that (excerpting from Attorney Grenier's blog):

  • Appointed fiduciaries recognized a potential conflict of interest by making a decision about the prudence of the company stock as a viable investment choice.
  • The plan sponsor appointed an independent fiduciary to assist.
  • Financial and legal advisors were made available to assist the independent fiduciary.
  • Plausible reasons for divesting company stock were documented.
  • Plan participants were made aware of the sponsor's decision to remove company stock as an investment choice but also told that the situation would be monitored and that circumstances might result in a changed decision, later on.

The Court's decision, on appeal, refuted the plaintiff's assertion that market price should have been a determinant of the decision as to whether to divest or not, adding that prudent process trumps. Specifically, "(T)he test of prudence -- the Prudent Man Rule --  is one of conduct, and not a test of performance of the investment."

Not being an attorney, I would never offer legal commentary. From an economic perspective, howerver, this case is noteworthy for any plan sponsor but perhaps more so for companies that have seen stock prices plunge, forcing questions of "suitability" for a 401(k) plan.

Editor's Notes:

  • One of the two independent experts "specifically cited by the First Circuit as having been hired by the investment manager to advise it" - Goodwin Procter LLP - has its own write-up about the case in its February 3, 2009 Financial Services Alert.
  • Attorney Steve Rosenberg has a nice piece about the original case adjudicated in the United States District Court, District of Massachusetts. Click to read the January 30, 2008 "Findings and Rulings" in which the "Court holds that State Street and Grace did not breach their fiduciary duties when making the decision to divest the Plan of the Grace Stock Fund." Click to read "The Benefits of Relying On Investment Managers" by Stephen D. Rosenberg, February 7, 2008.

New Study Says Plan Sponsors Must Improve Fiduciary Practices

As I stated during my September 11, 2008 "hard-to-value asset" testimony before the ERISA Advisory Council, there are some stellar examples of pension risk management and there is everyone else. Given the dearth of publicly available information about pension financial best practices, one can only guess at the size of each of the two buckets, “great” and “not so great” except for occasional studies that offer empirical validation. In October 2008, Pension Governance, LLC (now Pension Governance, Inc.) released a unique study about the use of derivatives by plan sponsors. Sponsored by the Society of Actuaries, “Pension Risk Management: Derivatives, Fiduciary Duty and Process” found that the “everyone else” bucket is rather large, hinting at future problems if poor process is left unchecked. (Click to read my hard-to-value asset testimony. Click to download "Pension Risk Management: Derivatives, Fiduciary Duty and Process.")


Now, a new report offers additional and troublesome evidence that the “everyone else” bucket remains large. Hot off the press, the MetLife U.S. Pension Risk Behavior IndexSM (“PRBI”) considers investment, liability and business risk management among the largest U.S. defined benefit pension plan sponsors. (Pension Governance, Incorporated is proud to have assisted with what we think is path-breaking research.)


Designed to measure both the aptitude and attitude of employee benefit decision-makers, the research creates a base case gauge as to the current state of pension risk management. Not surprisingly, respondents ranked the following risk factors as “Most Important,” in part it is believed because they are the simplest to model and measure:


  • Asset Allocation
  • Meeting Return Goals
  • Underfunding of Liabilities
  • Asset and Liability Mismatch

Given radically changing demographic patterns and the related, oft material economic impact on plan sponsors, it is surprising that the following risk factors were identified as relatively unimportant (and in some cases ignored altogether):


  • Early Retirement Risk
  • Mortality Risk
  • Longevity Risk
  • Quality of Participant Data.

Also disturbing is what appears to be a disconnect between the importance attached to prudent process by plan sponsors and the regulatory and legal reality that PRUDENT PROCESS IS IMPORTANT. Not only can plan participants suffer untold harm in the absence of a good process or the presence of a bad process, fiduciaries are professionally and personally on the hook. (As this blog has urged many times before, questions about prudent process and fiduciary duty are best answered by plan counsel.)  


According to the MetLife press release, dated January 26, 3009, “While respondents ascribe a particularly high rating to the quality of their Plan Governance, they do not seem to carefully consider the effectiveness of their decision making methods or how to improve the way they make decisions. This suggests that many respondents don’t perceive decision making process as an integral element of plan governance, when recent ERISA litigation would suggest just the opposite. In addition, plan sponsors report that they routinely review liability valuations and understand the drivers that contribute to their plan's liabilities. However, at the same time, they indicate that they do not actively implement or regularly review procedures to manage either mortality, longevity or early retirement risk, which are major determinants of both the timing and level of future liabilities. These inconsistencies may indicate that plan sponsors tend not to systematically consider the interrelationships among risk items and plan their implementation of risk management measures to maximize effectiveness across all items. Over time, a lack of holistic risk management may have serious repercussions, including unnecessary volatility in earnings and/or cash flow or potential plan failure. “


Unlike other studies, this research sought to quantify attitudes and aptitudes, in essence creating a unique score card against which subsequent results can be compared. The news is not great. On a scale of 0 to 100%, the PRBI level is 76. Roughly translated, defined benefit managers earn an average grade of C with respect to how they manage defined benefit plan risk.


These results beg a hugely important question. Is “mediocre” performance acceptable or does the MetLife study sound a warning that someone needs to stay after school for extra help? This blogger thinks it is the latter and welcomes your suggestions about how to fix a wobbly system. (Email with comments.)


As I’ve said many times, reward good process and make life difficult for those who do sub-par work. With trillions of dollars at stake, how can we accept anything less?


Editor's Note: Click to read the MetLife press release, dated January 26, 2009, about this new study. Click to download "MetLife U.S. Pension Risk Behavior IndexSM: Study of Risk Management Attitudes and Aptitude Among Defined Benefit Pension Plan Sponsors."

Congress and Hedge Fund Regulation

Many financial market participants seem resigned to an onslaught of new regulations. For them, it is no longer a question of "if" but "when," with the unknown being the form of eventual rule-making. One area that is likely to receive more than a passing glance is the role of the service provider to pensions, endowments and foundations. Always important, the Madoff scandal has pushed the issue front and center as institutional investors, reeling from reported losses, ask their advisors for clarity about their exposure to the now defunct Bernard L. Madoff Investment Securities LLC. According to "Crackdown on hedge funds after Madoff affair" (December 29, 2008), Financial Times reporters Deborah Brewster and Joanna Chung suggest that funds of funds may be especially feeling the pinch, with an anticipated change in how due diligence is conducted.

Next week's Congressional hearing should be telling. Convened by U.S. Congressman Paul Kanjorski (Democrat - Pennsylvania), this investigative meeting may be "standing room only" as members of the Financial Services Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises seek to understand what went awry before being able to "craft a strong, effective, modern regulatory system for the financial services industry." 

Though best left to legal experts, one wonders if a likely inquiry will center on the allocation of fiduciary duties across investors and advisors. Under what circumstances might an advisor or consultant be seen as encouraging an "unsuitable" investment? This of course begs the question as to what is deemed "appropriate" for a particular buyer and on what basis should an investment be assessed for a particular pension, endowment or foundation? We've heard that some financial professionals are responding to l'affaire Madoff by imposing more stringent, and arguably prudent, literacy requirements BEFORE accepting client money.

New Study Addresses Pension Risk Management Gaps

 At a time of great market turmoil, plan participants, shareholders and taxpayers want to know whether their retirement plans are in good hands. Risk is truly a four-letter word unless plan sponsors can demonstrate that a comprehensive pension risk management program is in place. Unfortunately, there is little information that details if, and to what extent, plan sponsors are doing a credible and pro-active job of identifying, measuring and mitigating a variety of risks. The risk alphabet includes, but is not limited to, asset, operational, fiduciary, legal, accounting, longevity and service provider uncertainties.

While no one could have predicted the extreme volatility that characterizes the current state of global capital markets, it has always been known that poor risk management can make the difference between economic survival and failure. Applied to pension schemes, ineffective risk management could prevent individuals from retiring at a certain age and/or leaving the work force with much less than anticipated. Others pay the price too. Taxpayers worry about rate hikes that may be inevitable for grossly underfunded public plans. Shareholders could find themselves on the hook for corporate promises or experience depressed stock prices due to post-employment benefit obligations.

In an attempt to shed some light on this critical topic area, Pension Governance, LLC is pleased to make available a new research report that explores current pension risk management practices. In what is believed to be a unique large-scale assessment of pension risk practices since the publication of a 1998 study by Levich et al, this survey of 162 U.S. and Canadian plan sponsors seeks to: (1) understand why and how pension plans employ derivative instruments, if they are used at all (2) identify what plan sponsors are doing to address investment risk in the context of fiduciary responsibilities and (3) assess if and how plan sponsors vet the way in which their external money managers handle investment risk, including the valuation of instruments which do not trade in a ready market. The report was written by Dr. Susan Mangiero, AIFA, AVA, CFA, FRM, with funding from the Society of Actuaries.

Each survey-taker was asked to self-identify as a USER if he/she works for a plan that trades derivatives in its own name. A NON-USER works for a plan that does not trade derivatives directly but may nevertheless be exposed indirectly if any of the plan's asset managers trade derivatives.

In answering broad questions, a large number of surveyed plan sponsors describe themselves as doing all the right things to manage investment, fiduciary and liability risks. However, answers to subsequent questions - those that query further about risk procedures and policies at a detailed level - do not support the notion that pension risk management is being addressed on a comprehensive basis by all plans represented in the survey sample.

Key findings include the following points:

  • Plan size seems to be one factor that distinguishes USERS from NON-USERS, with 39% of USERS managing plans in excess of $5 billion versus 14% of NON-USERS associated with plans larger than $5 billion.
  • Pension decision-making appears to vary considerably by job function, with 48% (37%) of USERS (NON-USERS) choosing "Other" rather than selecting from given titles such as Actuary, Benefits Committee Member, CFO or Human Resources Officer.
  • Time allocation varies considerably with 64% (40%) of USERS (NON-USERS) saying they devote 75 to 100 percent of their work week on pension issues. In contrast, 37% of NON-USERS say they spend 0 to 24% of their work week on pension issues.
  • A majority of USERS (64%) and NON-USERS (48%) have had discussions about the concept of a fiduciary duty to hedge asset-related risks. A smaller number say they have discussed the concept of a fiduciary duty to hedge liability-related risks.
  • Few plans currently embrace an enterprise risk management approach with 59% (57%) of USERS (NON-USERS) responding that their organization does not use a risk budget. When asked if their organization has or is planning to hire a Chief Risk Officer, 57% (64%) of USERS (NON-USERS) answered "No."
  • NON-USERS cite numerous reasons for not using derivatives directly, including, but not limited to, "Lack of Fiduciary Understanding" (25%), "Perception of Excess Risk" (31%), "Considered Too Complex" (23%), "Prohibition Against Possible Leverage" (19%) and/or "Defined Benefit Plan Risk Not Considered Significant" (28%).
  • A query about whether survey-takers review external money managers' risk management policies results in 70% (58%) of USERS (NON-USERS) responding "Yes." Fifty-two percent (57%) of USERS (NON-USERS) say they review external money managers' valuation policies. This survey did not drill down with respect to the rigor of questions being asked.
  • Survey respondents seem to rely mainly on elementary tools to measure risk. Eighty-three percent (64%) of USERS (NON-USERS) rank Standard Deviation first in importance. Seventy-nine percent (63%) of USERS (NON-USERS) rank Correlation second. Only one-third (38%) of NON-USERS cite Stress Testing (Simulation). Four out of 10 USERS cite Value at Risk in contrast to 23% of NON-USERS who do the same.
  • Survey respondents worry about the future with 58% (60%) of USERS (NON-USERS) ranking "Accounting Impact" as a concern. Other concerns were also noted to include "Regulation," "Longevity of Plan Participants" and "Fiduciary Pressure."

Click to download the 69-page study, entitled "Pension Risk Management: Derivatives, Fiduciary Duty and Process" by Susan Mangiero. Given the large file size, readers are encouraged to (a) first save the file (right mouse click) and then (b) open the file from wherever you have saved the file. Otherwise, you may receive an error message, depending on your computer configuration. 

The study is also available by visiting Send an email to if you experience any difficulty in downloading the pdf file and/or want to comment about the study.

Golden State Asks Public Pension Plan to Help

According to "California officials hope for easing of credit crunch" (October 4, 2008), Los Angeles Times reporters Marc Lifsher and Evan Halper paint a gloomy financial picture for this giant state. They explain that Governor Arnold Schwarzenegger may have no choice but to ask for help from Washington if short-term credit markets do not soon improve. An inability to issue Revenue Anticipation Notes with a face value of $7 billion will make it difficult to "get cash to pay for day-to-day operations, including paying workers, funding schools and feeding prisoners, between the end of October and the spring." Click to read the October 2, 2008 letter from the former action hero to The Honorable Henry M. Paulson, Jr.

Vox populi Jon Ortiz (aka Sacramento Bee reporter) and creator of The State Worker blog writes that State Treasurer Bill Lockyer may set his sights on the public workers' pension money pot, CalPERS. Author of an October 3, 2008 letter to The Honorable Bill Lockyer, State Senator Dean Florez writes that "the state should look to one of the world's largest investors, the California Public Employee Retirement System as a reasonable purchaser of short-term California state government debt."

In "Could CalPERS help with California's cash crunch? Maybe" (October 3, 2008), Ortiz posts a response from CalPERS spokeswoman Pat Macht who comments on process. "If we are approached, our investment staff would do their normal due diligence and make an objective evaluation of its merits, including returns as well as how it would fit within our asset allocation ranges and targets which guide our investment selections."

Editor's Questions: Will other cash-strapped states ask public and municipal pension plans to buy state debt? If so, how might this impact the funding status of those employee benefit schemes?

Risk Oversight and the Boardroom

Ms. Alexandra Reed Lajoux, with the National Association of Corporate Directors ("NACD"), responds to "Pension Funds Ask - "Who is Responsible for Risk Oversight? " as follows:

"New appointees face a steep learning curve that exposes a company to risk of another kind. Excellent point, well made. Director education is the key!"

I will be speaking at the 2008 NACD Corporate Governance Conference in just a few weeks. The panel is entitled "What Directors Must Know About the Company's Pension Plan." A session description follows.

"In light of the unanimous U.S. Supreme Court LaRue decisions, panelists look at the board's oversight responsibilities of ERISA plans to assure they are well managed. Historically, many boards have been uninvolved in the plans and have not exercised adequate oversight. From a governance and risk management perspective, we look at salient issues and core elements of oversight that should be addressed at the board level."

Click to read more about the 2008 NACD Corporate Governance Conference.

New Book on 401(k) Issues

In Fixing the 401(k): What Fiduciaries Must Know (And Do) To Help Employees Retire Successfully, author Joshua P. Itzoe suggests that the 401(k) industry is broken and in bad need of repair. As many employers migrate away from defined benefit plans to defined contribution plans, it is critical to understand any weaknesses in the current system and work vigorously to correct them.

Chapter 1 states conflicts of interest and opaque fee disclosures as two of the biggest issues faced by the 401(k) industry. Chapter 3 explains basic fiduciary duties as codified by U.S. pension law in the form of ERISA, co-fiduciary liability and how fiduciary types differ from one another. Subsequent chapters are rich with descriptions of relevant industry players (and there are many of them), inherent conflicts of interest and the generally accepted compensation arrangement for each category of service provider. Though there is an entire chapter devoted to types of fees, it would have been nice to sink one's teeth into some meaty math examples, along with some empirical data about magnitude and dispersion of fees across plans. 

Written for 401(k) fiduciaries, the basic nature of the book is both refreshing but worrisome. If current plan fiduciaries (the target market for the book) are unaware of their core duties, how have they been getting along so far? Far from being pedantic, Mr. Itzoe includes several chapters with concrete advice for improving 401(k) fiduciary practices. His provision of important questions at the end of each chapter is a nice touch, along with some helpful appendices such as a "Sample Fiduciary Audit File," "20 Steps to 404(c) Compliance" and a relatively long glossary. There is no index but a short bibliography is provided for interested readers.

For more information, check out Click to read the author's bio. At $13 and change, I recommend this primer. Kudos to Mr. Itzoe, CFP and Accredited Investment Fiduciary, for putting forth a solid book on an important topic.

Fundfire Q&A About Consultant's In-House Products

A few days ago, I was asked to provide an answer to a FundFire reader's question regarding possible conflicts of interest. I've included the question and published answer below. (See "Your Q&A: How to Vet Consultant's In-House Products?" by Dr. Susan Mangiero and Mr. Wayne Miller,, August 25, 2008.)

"Question: What can an institutional investor do to protect against conflicts of interest if a consultant recommends an in-house investment product? Third-Party Marketer, Institutional, East Coast

Answer: When reviewing an investment in a consultant’s in-house product, the plan sponsor decision-makers should first and foremost review their own fiduciary duties to participants (ideally with plan counsel) and the implications that such a selection would have on those obligations. Without a full understanding of such obligations, it is impossible to know when, how and why a fiduciary breach might occur. In the event that the consulting firm contracts as a fiduciary to the pension plan, the plan sponsor should likewise seek counsel regarding any implications for asset allocation and money manager recommendations made by the consultant.

Notwithstanding the important fiduciary considerations, it is vital to understand the process by which the consultant arrives at recommending one of its own offerings. Countless questions arise. Will the consultant earn higher fees by recommending an in-house fund? Are those higher fees justified? Is the in-house offering 'suitable' on a risk-adjusted basis? Are there 'better' available investment choices offered by third parties?

It’s important to clarify whether the consultant will be able to objectively fire an in-house or outsourced manager if performance is ever deemed sub-par. An institution must also determine whether the consultant is displaying full transparency about the selection, monitoring and termination process within the offering. Always remember that a plan sponsor must be able to discern the line of demarcation between authentic fiduciary representation by the consultant and the consultant’s own self-interest. Delegation does not eliminate the need for continued oversight on the part of the plan sponsor fiduciaries."

Editor's Note: For further reading, check out the following resources.

Pensions for Sale?

According to "Now Wall Street Wants Your Pension, Too" by Matthew Goldstein (Business Week, August 5, 2008), troubled banks have no business fiddling around with pension caretaking.  Citing a $2.3 trillion "pension honey pot" that could grow to $7+ trillion in a few years, Goldstein says pension buyouts would be a great prize for investment banks, hedge funds, private equity funds and insurers. (Editor's Note: I've seen estimates of much larger numbers but the message is the same. There is thought to be "gold in them thar hills.)

What motivates advocates of the pension transfer movement? Let me count the ways. More than a few corporations may seize the opportunity to clean up their balance sheets and income statements as new accounting rules kick in, making "problems" more visible to shareholders. Some posit that taxpayers benefit if certain plans are transferred to stronger financial buyers, giving these plan sponsors a fighting chance to steer clear of bankruptcy court. As a result, the Pension Benefit Guaranty Corporation ("PBGC"), could arguably stablilize or even reduce its $14+ billion deficit. (Though the PBGC is technically funded by insurance premiums paid by plan sponsors, experts suggest that mounting IOUs could potentially result in a bailout by Uncle Sam.)

This trend to take over pension liabilities by third parties, popular in the UK, seems to have hit a snag in the U.S. According to an August 6, 2008 press release ("Treasury, IRS Issue Ruling Preventing Certain Pension Transfers"), newly issued Revenue Ruling 2008-45 states that "a transfer of a tax-qualified pension plan from an employer to an unrelated taxpayer when the transfer is not connected with a transfer of significant business assets, operations, or employees, is not permissible under current law. This is clearly a big disappointment to Wall Street as banks have been busy at work, assembling teams to value pension liabilities and trade them, in anticipation of developing a lucrative transfer business.

Accompanying this somewhat rare tax promulgation, readers are told of legislative preferences on the part of the current Administration (IRS, U.S. Department of Labor, U.S. Department of Commerce and the Pension Benefit Guaranty Corporation) that might eventually open the door to pension liability sales. Relevant text is excerpted below:

"Under the legislative framework, a pension plan (or portion of a plan) under which benefits are no longer accruing (i.e. a frozen plan) could be transferred to an entity unrelated to the employer (or former employer) of the participants in the plan, provided that certain conditions are met. The conditions would reflect the following fundamental requirements:

  • Plan participants, their representatives, and ERISA regulators would be required to receive advance notice of a plan transfer, and the parties to the transaction would be required to provide regulators information necessary to review and approve the proposed transaction.
  • Only financially strong entities in well-regulated sectors would be permitted to acquire a pension plan in a plan transfer transaction.
  • The parties to the transaction would be required to demonstrate that participants' benefits and the pension insurance system would be exposed to less risk as a result of the transfer, and that the transfer would be in the best interests of the participants and beneficiaries.
  • Limitations on transfers would be imposed to limit undue concentration of risk.
  • Transferees and members of their controlled groups would assume full responsibility for the liabilities of transferred plan and would comply with post-transaction reporting and fiduciary requirements.
  • Subsequent transfer transactions would be subject to the rules applicable to original transfer transactions."

Don't count the financial institutions out yet. No doubt the next Congress is likely to receive a lot of inquiries from the bank lobby to initiate legislation in favor of pension buyouts. On the positive side, well-capitalized and properly managed banks and other types of money powerhouses could draw on sophisticated risk analytics to strengthen plans. In contrast, poor risk management practices could worsen things. (See "Bank Risk Managers - Missing in Action," November 26, 2007.)

The fiduciary question is of course a big one. Is there a  possibility that a financial institution takes over a pension plan and finds itself in the uncomfortable position of being loyal to plan participants at the expense of shareholders or vice versa? Cynthia Mallett, Vice President, Corporate Benefit Funding, Met Life adds that "Stranger-owned pension plans raise both philosophical and public policy issues, none more telling than the potential for placing plan participants' interests in the hands of unrelated investors who are not regulated in the same fashion as insurers." 

ERISA Attorney Dan Wintz, partner with Fraser Stryker PC, offers the following insight. "While the practice of 'selling' pension plans and transferring their sponsorship to unrelated companies (that is, speculator or investment companies that do not employ the participants covered by the plan) has not yet become widespread, it is heartening to see that the Internal Revenue Service intervened early. However, the Ruling may be overly broad in its application and could prohibit or impede some plan transfers in legitimate re-organizations or other transactions that do not involve the direct transfer of business assets, operations, or employees from the employer to the unrelated taxpayer which will maintain the plan. We will have to see whether this is an absolute prohibition (as appears to be stated in the Ruling) or if it can be applied on a 'facts and circumstances' basis where there is a legitimate business purpose for the arrangement and there are protections for the plan's participants."

A fellow of the Society of Actuaries, David Godofsky, partner with Alston + Bird LLP and leader of the Employee Benefits and Executive Compensation Group, concurs that buyouts may serve a vital function. His comments are provided below.

"As for the meaning, the ruling was rather narrowly tailored to a specific fact pattern, which has been widely discussed and known as "selling" pension plans. Here is a very simplified version of the basic idea:

  • Company X has a frozen pension plan with assets of $100 million and liabilities of $100 million. The liabilities are measured by reference to mortality tables and interest rates that are intended to approximate the cost of buying annuities, or the cost of funding those pension benefits when very safe investments are used. In other words, the assumed rate of return on the $100 million of assets is very low, reflecting investments that are nearly risk free.
  • However, Company Y believes it can invest the assets of the plan to achieve a higher rate of return. If it does so successfully, there will be money left over when all benefits are satisfied... possibly a LOT of money.
  • So Company Y offers to buy the pension plan from Company X. A shell corporation ("ShellCo") is formed as a sub of Company X, and then ShellCo assumes the pension plan from Company X. Company X sells ShellCo to Company Y for $2 million.
  • Company Y has no employees and no other assets. Company Y invests the $100 million in investments designed to beat the low assumed rate of return. The assets grow to $120.
  • Company Y then buys annuities to cover the liability for $100 million, and is left with a pension plan with no liabilities and $20 million. It then finds a company with an underfunded plan - Company Z.
  • Company Z is willing to buy ShellCo for $20 million, and merges the pension plan into its own. So, everyone comes out ahead. X is ahead by $2 million and Y is ahead by $18 million.
  • BUT, suppose that Company Y doesn't do so well. It invests the money aggressively, and the assets drop to $80 million instead of increasing to $120 million. Now, the owner of Company Y is insulated, and the PBGC steps in to cover the $20 million underfunding. X is now ahead by $2 million, Y has lost its $2 million investment. As you can see, if Y invests aggressively enough, it has a great upside and a limited downside. This is what is known as "heads I win, tails you lose."

The IRS ruling focused on whether Company Y has an relationship with the employees - that was the way they chose to get to this transaction. However, what is really going on is whether you can take over pension liabilities from another company and try to make a profit by investing the assets to "beat" the actuarially assumed rate of return. Obviously Company X can do that, but so can Company Y. The difference is that X is a real company with real employees and presumably assets at risk. With Company Y, you don't quite know what you have. There is a way of selling pension liabilities - it is to buy annuities. Insurance companies sell annuities and they have to maintain reserves and invest their assets in a way that avoids losses. Basically, the Company Y's of the world wanted to do the same thing without having to comply with all those pesky insurance regulations.

Bottom line - the transaction that the IRS prohibited has the potential for an increased risk to the PBGC and a corresponding gain to the buyer (reward without risk). Now, the challenge for the investment firms that wanted to do this is to come up with a regulatory approach that has financial protections that are as strong as the insurance regulations."

Editor's Notes: There are numerous articles about the UK buyout experience. A few of them are listed below, along with the link to the July 21, 2008 report about plan freezes, published by the U.S. Government Accountability Office ("GAO").

Expect more news on the topic of pension buyouts and transfers.

This blog welcomes a chance to publish the pension buyer perspective. Send us an email if you want to comment.

Regulators Tell Pensions to Independently Value Positions

According to reporter Doug Halonen, Beantown regulators have launched an inquiry into how corporate plan sponsors value their alternative fund investments. Upset with plans that have no process in place to verify mark-to-model or mark-to-market numbers from general partners, the head of the U.S. Department of Labor, Boston office, offers a warning. "It is incumbent on the Plan Administrator to establish a process to evaluate the fair market value of any hard to value assets held by the Plan." An absence of good process could be a violation of ERISA (Employee Retirement Income Security Act). The July 1, 2008 letter references parts of this federal law such as sections 402(a)(1), 103(b, 3(26), 404(a)(1)(B), 502(1) and 504(a). Invitation to scrutiny by the Internal Revenue Service might likewise occur if identical book values and market values show up on Form 5500s. (We've already seen this occur and puzzle over why plan sponsors think this is an appropriate way to disclose positions in alternative investments.)

Click to read "DOL targets plan valuation of alts" by Doug Halonen, Pensions & Investments, August 8, 2008.

This admonition is hardly news to this blogger. I've long been advocating (a) the use of an independent third party pricing professional and (b) the need for fiduciary training in this area. (Note: Email Pension Governance, LLC if you want to learn more about our pension risk management and valuation training programs and/or our abilities to assist plans with risk management/valuation process creation and review).

Several things come to mind.

  • How many pension fiduciaries feel comfortable doing a second check on the valuation of complex financial instruments, especially those that seldom trade? (As an Accredited Valuation Analyst, I can say firsthand that certification requires hours of specialized training  and case work.)
  •  If an alternative fund manager (hedge fund, private equity, commodities, real estate, etc) refuses to provide full transparency about its holdings, won't plan sponsors find themselves in the uncomfortable position of being unable to properly vet values?
  • How will pension consulting firms respond, especially if their teams do not include valuation savvy experts?
  • Will ERISA plan fiduciaries remain vulnerable to allegations of breach if they employ outside service providers such as consultants, appraisers and so on and do not conduct their own review?
  • If a plan sponsor conducts its own review, might they still be liable if they fail to do so regularly?
  • For positions that infrequently trade, how often should such a review take place?
  • Will valuation mandates (and the possible dire consequences of not having a "good" valuation process in place) discourage pensions from investing in alternatives?

Check out some of this blog's many posts about valuation, authored by Dr. Susan Mangiero, AIFA, AVA, CFA, FRM.

Send an email if you would like articles about valuation issues.

Pensions Lose Key Players

According to "Public funds taking long view" by Raquel Pichardo (Pensions & Investments, July 23, 2008), pension decision-makers are retiring in droves. At a time of great uncertainty and a fast-changing operating environment (new accounting rules, market volatility and increased transaction complexity) it may not be easy to quickly replace experienced professionals. Add the fact that public plans are not always in a position to match industry wages and real concerns emerge.

Succession planning is likewise important when it comes to vetting the riskiness of external money managers. When pensions allocate monies to various hedge fund and/or private equity partnerships, they are essentially making a bet on whether existing management can turn in a "good" risk-adjusted performance on a regular basis.

  • What happens if any or all of the key persons leave for greener pastures as superstar traders are wont to do?
  • What happens if a general partner gets divorced and, absent a plan to protect partnership assets, the spouse becomes the new owner? What happens if that spouse knows little about running a financial partnership)?
  • What happens if a senior partner or managing member (in the case of a Limited Liability Company) is in an accident and rendered unable to make important decisions about strategy?

If not already part of the RFP and/or periodic reviews of external money managers, pension fiduciaries should add questions about key persons, key person insurance and whether a succession plan exists. Ex-ante investigations can potentially save plan sponsors a lot of grief later on.

Doris Day, Scarlett O'Hara and Financial Market Tumult

Remember the 1939 epic classic "Gone with the Wind" wherein Scarlett O'Hara protests serious conversation? Interrupted by news of an imminent Civil War, this party gal (with the famous 17-inch waist) complains. "Fiddle-dee-dee. War, war, war: this war talk's spoiling all the fun at every party this spring. I get so bored I could scream." 

As I read "Why No Outrage" by James Grant (Wall Street Journal, July 19, 2008), I wonder if this southern belle might now be heard to say "Loss, loss, loss: this loss talk is spoiling all the fun..." About structural reforms (a 2007-2008 equivalent of losing Tara, the family homestead), Scarlett might encourage delayed action. "After all...tomorrow is another day." Why fuss now?

Well, as we all know, Main Street and Wall Street are inextricably linked. Unlike Las Vegas, what happens in the financial markets,  does not "stay here." (Read "Slogan's run" by Newt Briggs, Las Vegas Mercury, April 8, 2004.) When huge losses roil capital markets (not just in the U.S. but around the world), real people can get hurt:

  • Employees lose jobs
  • Shareholders see their portfolios plummet in value
  • Pension plans that allocate big money to equities and bonds scramble to improve funding
  • Retirees who depend on the financial health of plan sponsors pinch their pennies further
  • Vendors who do business with financial institutions tighten their belts and/or layoff staff
  • Businesses, seeking to grow, borrow at higher rates, if they can borrow at all...

It is therefore a mystery to the editor of Grant's Interest Rate Observer that relatively few bad players are taken to task "in the wake of the 'greatest failure of ratings and risk management ever,' to quote the considered judgment of the mortgage-research department of UBS." Grant conjectures that high gas prices and an election-focused Congress may be to blame or that "old populists" have hoisted themselves by their own petard, having pushed for paper money, federal insurance subsidization of higher risks and government intervention with respect to credit decision-making. From the tone of this long, yet fascinating, commentary, Grant rants about big government at the same time that, ironically, big government seeks to become even bigger in the form of new financial market regulations.

For my two cents as an advocate of free markets (not faux capitalism as exists around the world), a return to the gold standard merits serious consideration. Improperly priced federal insurance of bank deposits and pension liabilities (and much more) induces adverse selection and moral hazard. Riskier organizations get subsidized by more prudent market participants and have little incentive (arguably no incentive) to get their risk management house in order. Regarding government intervention as to how credit is allocated, plenty of empirical studies quantify the economic "bad" that results from information asymmetry. When buyers and sellers are not fully informed, supply and demand cannot intersect at the"correct" price of money or the optimal level of borrowing/lending.

Then there is the shame factor. In an era of reality shows, can we expect honor and accountability? Grant has few kind words for market behemoths (current and now extinct) who watch(ed) the Titanic sink "under the studiously averted gaze of the Street's risk managers." Will today's villains of excess rise, Phoenix-like, as have infamous names of yore, now reincarnated as media superstars? (Nick Leeson of Baring's fame has his own website and earns a living as a consultant and speaker. Henry Blodget pens "Internet Outsider" and e-newsletter, Silicon Alley Insider - a fun read for this bloggerette.)

Related to Grant's provocative piece, a recent article about voluntary standards caught my eye with its suggestion that industry attempts may be more show than reality. In its "agenda-setting column on business and financial topics," the Financial Times' Lex states that such guidelines receive little scrutiny and are put in place as a way to attract risk-averse institutional investors and/or to avoid the harsh spotlight of global regulators. (See ""Funds of hedge funds," Financial Times, July 17, 2008.) An easy way to check is simply ask each hedge fund manager about his/her reliance on published guidelines. Inquire how traders are compensated. Are they encouraged to take pure risks or are they instead benchmarked on the basis of risk-adjusted returns (with "risk" referring to the holistic assessment of uncertainties)? Don't stop with hedge funds. Ask any service provider or trader about their controls and how they monitor the quality of their processes.

The creation of an effective reward system and "best practices" are favorite topics of this blog. Our team (Pension Governance, LLC) and fiduciary community colleagues decry the status quo that makes it difficult to reward good players, at the same time that questionable practices are frequently left untouched. Poor quality disclosure is just one factor that inhibits the design of a better mousetrap.

Two hours into this post, I'm going to conclude with the notion that "freedom is not free" (anonymous). To enjoy flexibility and regulatory latitude, people of great courage must buck the existing system and both demand and assume accountability. At a minimum, interested parties (retirees, shareholders, taxpayers) want to better understand what went wrong and how internal controls will be strengthened post-haste as a result of introspection. Leaders at troubled institutions do a great service by informing the public about corrective actions underway.

For pension fiduciaries, a critical lesson learned is this. If you are not already doing so, waste no time in getting an operational review. This extends to tough and detailed interviews with your external money managers and service providers about all things risk management. Communicating your process to plan participants (for all types of plans) and shareholders/taxpayers gets you brownie points and helps to raise the "best practices" bar. 

Doris Day's sentiment may be great for meditation class but has no place in a discussion about financial system reform and governance of individual organizations, plan sponsors included. "What will be, will be" is the wrong answer (though "Que Sera, Sera" is a favorite tune).

The power of one keeps us in awe. Who will step up to the podium and say - "The buck stops here?"

Please email us with examples of pension and financial service leaders whom you believe inspire and lead the way in terms of governance. Let us know if we may attribute your comments or should post them anonymously.

 Editor's Notes:

Emotional Intelligence and Pension Fiduciaries

In early 2006, I published an article entitled "Do Fiduciaries Need Better Incentives to Make the Retirement System Work?" with pension professional, Mr. Wayne Miller (Executive Decision, January - February 2006). The major premise is that the work of the investment fiduciary (for both defined benefit and defined contribution plans) is challenging at best. Do something right and few people pay attention. Violate a rule or make a decision that results in an economic loss and there is "you know what" to pay. Fiduciaries seldom earn anything extra for their work at the same time that they assume sometimes signficant personal and professional liability exposure.

You may ask - Why does anyone choose to be an investment fiduciary when the payoff is so lopsided? For some individuals, their voluntary service is a badge of honor. By assisting plan participants, these folks believe they can make a true difference. For others, retirement plan work is part of the job. Their boss says "you take care of this" and they have no choice, unless they quit that position or the company or both. A third category - pension finance managers or independent fiduciaries, external to a plan - represents a full-time job commitment to handling retirement benefit plans and nothing else. (Interestingly, results of a survey soon to be released by Pension Governance, LLC and the Society of Actuaries suggest that someone either spends very little of their work week or almost all of their work week in handling retirement plan financial decision-making. The survey, entitled "Pension Risk Management: Derivatives, Fiduciary Duty and Process" is tentatively scheduled for release during the week of July 21, 2008.)

In his just published statement to the House Committee on Ways and Means, Miller addresses what he calls a "dysfunctional retirement plan system" in the context of Emotional Intelligence ("EI"). He bemoans the "governance nightmare" that ensues when "responsibility exists without individual accountability." In his view, emotional influences include, but are not limited to:

  • "the avoidance of blame,
  • promoting the illusion of competency,
  • the need for approval,
  • the lack of self acceptance of making mistakes,
  • the desire to look good,
  • the willingness to acquiesce to the status quo rather than live out one's own values and last but not least...
  • the lack of personal courage to speak out."

Wow. This man packs a one-two punch and certainly says what he thinks. Whether you agree or not, his statement is worth a read. Click to access "Statement of Wayne H. Miller, Denali Fiduciary Management, Vashon, Washington."

This blogger gal likes to think she is more upbeat with respect to good intentions on the part of investment fiduciaries (though legal counsel will likely urge that intentions are not enough to evidence the discharge of fiduciary duties). Unlike Miller who asserts that "the problem isn't technical," I am a strong proponent of a systematic, disciplined approach, with lots of common sense and "roll up the shirt sleeves" due diligence thrown into the mix.

What do you think? Send us an email and let us know.

Editor's Notes:

Do You Have Your Own Fiduciary? If Not, Why Not?

 New York Times reporter Alina Tugend ("Pick a Planner Who Can Spell ‘Fiduciary’," April 26, 2008) writes about the importance of doing proper homework when it comes to selecting an investment advisor, stockbroker or financial planner (consultant). Her rule? Ask someone you are thinking of hiring - Are you willing to wear the hat of fiduciary? Since not everyone is required by law to embrace the fiduciary mantle, and some do so only in exchange for additional compensation, the question is far from trivial. She quotes Sheryl Garrett, author of Personal Finance Workbook for Dummies (John Wiley & Sons, 2007) as urging individuals to document agreed-upon terms, including those that relate to the discharging of fiduciary duties such as care and loyalty. Fees and conflicts of interest are other considerations. For example, a compensation structure that includes commissions may encourage the sale of unsuitable securities to small investors.

As more employees migrate (by choice or force) to defined contribution plans, investment literacy is critical. Interested readers may want to check out the following resources:

Excuse Me! Excuse Me! Pension Fiduciaries - Heed the Call

Several recent experiences inspire this post. On the positive side, two weeks ago, I had the pleasure of spending time with my step niece, a darling little girl of 3. After just 15 minutes, I realized that her favorite way of getting attention is to scream "excuse me" as many times as it takes until nearby adults acknowledge her. Cute at first, it annoys after a few shouts but Lilly certainly gets her way.

On the other end of the experiential spectrum, my Sunday foray to Starbuck's introduced me to "Miss Manners Not." Though I was first at the counter and obviously not yet finished paying for a handful of gift certificates, a lady customer thrice reached over me and then pushed me aside to order a cup of joe. Not being shy, I murmured "sorry to be in the way." To my shock, she replied "it's okay." Yes, my first response was to tilt my cup in her direction ("oops") but give me credit for being an adult who quickly cooed sotto voce, "let it go." (You've met folks like this gal, right? Gotta love 'em for their arrogance and cluelessness.)

Here's the connection to all things pension.

Everyday brings new headlines about the retirement crisis. Just a few days ago, New York Times reporter Mary Walsh cites a new study that shows that 2007 investment gains for America's giant pension funds are fast being erased by early 2008 market tumult. Likely to add to the funding gap and compelling a need for cash infusions is a strategic move away from equity. More disturbing is that jumbo plans, in distress, could "swamp the federal insurance system," already reeling from certain airline and manufacturing company woes. Piling on is the Fed's lowering of interest rates which pushes up the size of defined benefit plan liabilities, exacerbating things. Given tighter funding rules, courtesy of the Pension Protection Act of 2006, plan sponsors have much less latitude in riding out the storm, if even possible. (See "Market Turmoil Has Taken a Toll on Big Pension Funds" by Mary Walsh, April 17, 2008. Also read "2007 Gains Reversed in First Quarter of 2008" by John W. Ehrhardt and Paul C. Morgan, "Milliman 2008 Pension Funding Study," April 2008.)

In January 2008, the U.S. Government and Accountability Office ("GAO") released an alarm bell in the form of its report entitled "State and Local Government Retiree Benefits." They concluded that "58 percent of 65 large pension plans" had funding ratios of about 80 percent in 2006, a decline since 2000. By extension, this means that 42 percent are in bad shape. (There is continuing controversy over whether 80 percent is deemed "safe" or instead suggests a need to worry.)

For individuals, new research cites the need for a long-term, relatively stable mix of stocks and bonds. In "Hitting or Missing the Retirement Target: Comparing Contribution and Asset Allocation Schemes of Simulated Portfolios," Professors Harold J. Schleef and Robert M. Eisinger argue that the likelihood of having enough money to retire comfortably is depressingly low. As New York Times contributor and money talking head, Mark Hulbert, points out, life-cycle or "target date" maturity funds may not perform "in line with their long-term averages." (Read "The Odds for a Retirement Nest Egg, Recalculated," New York Times, April 20, 2008.)

Of course, if Louis Lowenstein, author of The Investor's Dilemma: How Mutual Funds Are Betraying Your Trust and What to Do About It is right, fees and revenue-sharing arrangements will continue to erode retirement savings (meager for most), making it tougher to reach even a low savings goal. While employers shed their traditional benefit plans, they nevertheless have a vested stake in wanting their employees to be self-sufficient. Happy workers are typically productive workers who spin gold for shareholders and performance-compensated executives.

For the still clueless pension decision-makers, oblivious to the merits of effective asset-liability management (the equivalent of my coffee shop lady), hopefully the onslaught of economic and regulatory indicators will create a stir. If not, perhaps my young niece will take her "excuse me, excuse me, pay attention" show on the road.

Pension World is Flat

Despite colorful tales of medieval historians disputing its shape, most people then and now realize that the earth is not flat. We won't get to the end and fall off. Indeed, we're arguably more interconnected than ever before. So it's not surprising that a galaxy of international speakers convened in Sydney with many of the same problems, challenges and concerns as US peers. A recurring theme emerged for everyone in attendance at the Asset Allocation Summit 2008 - Investment management is all about risk. Identification, measurement and control are important,. regardless of plan design and country of origin. In fact, the similarities as to what keeps folks up at night are eerily striking, whether voiced by a plan sponsor from Europe, Asia, Australia or North America. Here are a few concerns that resonated with all in attendance.

1. How can investment fiduciaries minimize their liability exposure, especially when investment strategies are becoming more complex and diverse?

2. What is the responsibility to defined contribution plan participants, knowing that many will retire without ample means to maintain a particular lifestyle?

3. How can one avoid paying "excess fees" to managers?

4. What is the proper way to separate beta from alpha?

5. What is the role of infrastructure investing?

6. Should allocations to 130/30 strategies (and equivalents) come from equity or alternatives?

7. Will a recession be global in nature?

8. How much oversight is required by internal fiduciaries who delegate manager selection to consultants?

9. Is ESG (Environmental, Social, Corporate Governance) investing a plus or minus in terms of fiduciary duties?

10. How should derivatives be properly used and by whom (the plan, the money manager or both)?

Sound familiar? If so, perhaps we should be thinking about how to operate within a flat pension world. Credit Thomas Friedman for pointing out the oneness that pervades global thinking. In his best-selling "The World is Flat," he emphasizes the connections among seemingly disparate markets. Should we care about the governance of pension funds outside our borders? In a word, "yes." What is done elsewhere impacts an increasingly "flat" network of capital which in turn influences the investment opportunity set within our borders..

Isolationism is over for most everyone. What about you?

Pension Fund Grinch - Rate Cuts and Investment Complexity

Disappointing many, the Federal Reserve cut rates by a smaller amount than expected. Equity investors responded with a resounding hiss, sending the Dow Jones Industrial Average down nearly 300 points. Defined benefit plan managers can't be too happy either. After all, many of them have more money allocated to stocks than bonds. Then there is the matter of reported net unfunded liabilities rising as rates fall. What's an asset allocator to do?

This blog's author recently read survey results that suggest a significant migration to more complex securities. Not surprisingly, researchers describe a struggle on the part of investors and financial advisors who need higher returns but are not always comfortable that they understand the risks. (See "Financial Advisors to Embrace More Sophisticated Investment Products Over the Next Two Years, According to New Data from Cogent Research," Insurance Newscast, December 7, 2007.) 

I hate to say it folks but here goes. Why invest in something you don't understand? Isn't that part of the reason why the sub-prime debacle is starting to make the S&L crisis look like a walk in the park? Several incidents come to mind.

Following the 1987 market crash, equity put option writers sued their brokers, saying they did not understand the nearly unbounded downside, forcing some into bankruptcy. In the early 1980's, a handful of prominent institutional investors sued their bankers for putting them into complex, new fangled derivatives. One treasurer acknowledged the need to know more, exclaiming "Due to my inexperience, I placed a great deal of reliance on the advice of market professionals….. I wish I had more training in complex government securities."

Mark my words. The courts will be hearing a lot of cases that address who ultimately has responsibility for investment strategies gone awry. Pre-exemptively, pension funds must seek legal counsel to review their fiduciary duties. Nevertheless, as strategies become more complex, there will be sufficient numbers of investors who simply do not understand the risk and, absent good process, will lose money.

This gets back to a point made many times herein. Shouldn't pension decision makers (regardless of plan design) be required and/or encouraged to have a particular familiarity (experience, education) with investment and risk management?

The fact that no such certification requirement exists amazes and disturbs. 

U.S. Department of Labor Provides New Tool to Identify Fiduciary Status

Check out the new online "ERISA Fiduciary Advisor." Designed to inform about who is a fiduciary and what duties they are obliged to carry out, the Advisor "was developed by the Employee Benefits Security Administration (EBSA) in its continuing effort to increase awareness and understanding about basic fiduciary responsibilities when operating a retirement plan."

Click here to learn more.

How Much Does Your Investment Banker or Asset Manager Make?

According to "Pay at Investment Banks Eclipses All Private Jobs" (September 1, 2007), New York Times reporter David Cay Johnston tells the tale of two cities. There is Investment Banker Land where the typical weekly pay exceeds $8,300 and then there is Everyone Else Land. (In Fairfield County, Connecticut - home to many corporations and hedge funds -  the mean pay, as reported by the Bureau of Labor Statistics, was $23,846 a week.) Click here for a copy of this government report, with a breakdown in average pay by various geographic areas.

This blog's author is the first to say "hooray for capitalism." If financial institutions pay individuals the big bucks because they can spin flax into gold for shareholders, arguably a happy marriage between supply and demand has taken place. However, and notwithstanding the fact that we can vigorously debate the "reasonableness" of salaries all day long, plan sponsors face a dilemma.

1. How do pension fiduciaries deal with the gap between what they can afford to pay financial experts and what the big banks pay, especially at a time when skilled analysts and risk managers are desperately needed by pension plans, regardless of plan type?

2. If any particular fund manager is reporting losses or sub-par performance, how do pension fiduciaries justify a decision to retain a manager and/or investment bank that treats itself well in the compensation department? In other words, how does manager pay get factored into the short-term versus long-term retention decision?

3. How do pension fiduciaries assess "acceptable" compensation paid to asset managers and bankers? Do more complex strategies require the installation of smarter and more experienced personnel who should charge more as a result?

4. How much detail should be provided to plan beneficiaries with respect to compensation of asset managers and/or investment bankers who work with the  plan?

Rather than tell you what I think, email your feedback about investment banking and money management compensation. Let us know if we have permission to post your response.

Disclosure and Fiduciary Implications - Big Problem?

Disclosure is fast becoming the proverbial four letter word in pension fiduciary land. Critical questions abound.

  • How much information do pension fiduciaries need in order to make an "informed" decision?
  • Who should provide that information, how often and in what form?
  • Is there a danger of having "too much" information?
  • What does the law currently require?
  • What information is currently available and to whom?
  • Is there an industry consensus about what constitutes "good quality" information?
  • What are the consequences of "incomplete" disclosure and are they equally unpleasant for plan participants, shareholders, taxpayers and plan sponsors?
  • What current roadblocks stand in the way of "better" disclosure (once that term is defined)?

 The topic of disclosure and transparency is as broad as it is critical to good plan governance. We've written extensively about this topic as applied to investment risk and will continue to do so. Click here if you would like to receive copies of some of our many articles. After hours of work, our research librarians are completing an Ebook on the topic of pension information resources. Click here if you want to be notified of its publication.

With a copyright date of July 4, 2007 (symbolic perhaps?), independent fiduciary Matthew D. Hutcheson addresses the topic of 401(k) plan information in "Retirement Plan Disclosure: A Declaration of Ethical Principles and Legal Obligations." Not known for being shy about his point of view, Hutcheson makes a compelling case for additional, complete and user-friendly disclosure about fees and related compensation arrangements.

“The Department (Department of Labor) emphasizes that it expects a fiduciary, prior to entering into a performance based compensation arrangement, to fully understand the compensation formula and the risks associated with this manner of compensation, following disclosure by the investment manager of all relevant information pertaining to the proposed arrangement. [Advisory Opinion Letter 1989 WL 435076 (ERISA)]

Thus, for a fiduciary to know all relevant information ahead of time, service providers must disclose all relevant information prior to entering into an engagement. The failure to disclose all relevant information effectively forces fiduciaries to violate the law unknowingly. The SEC has taken action against various service providers of 401(k) plans because of hidden compensation arrangements which obscured relevant information to fiduciaries. "

Hutcheson provides solid legal and regulatory evidence in support of full disclosure of all types of fees and related non-fee agreements. In addition, he reminds readers that fees impact economic performance and are therefore integral to any kind of investment decision-making. Would we buy a car or get surgery without enough information to gauge potential risk and rewards? 

His message comes at an opportune moment to begin a national "no holds barred" conversation about fees, fiduciary duty and protection of plan participants.  Countless companies are switching from defined benefit plans to defined contribution structures. In loco parentis NOT.  While employers transfer more responsibility to employees, research suggests that individuals are saving much less than is minimally needed to secure a reasonable lifestyle in retirement. Add to that an uncertain outlook for the long-term viability of Social Security and Medicare (and international equivalents to the U.S. post-employment safety net) and policy-makers are starting to take notice. Not a day too soon for many folks. If you think a train is about to crash, why wait to seek preventative measures?

Hutcheson concludes that "industry and regulators must either: (a) Return to the model originally contemplated under ERISA, in which recognized fiduciaries would make all decisions regarding trust assets; or (b) Empower participants to make their own individual decisions with respect to the assets in their personal tax-deferred 401(k) accounts. If the chosen course is to return to the original intent of ERISA, then fiduciaries of 401(k) plans must be armed with all relevant information necessary to construct a low-cost prudent portfolio for the benefit of the participants. Alternatively, if the chosen course is to enable those holding tax-deferred investments to, in essence, serve as their own mini-fiduciaries, then they must be afforded the information necessary to construct the same sort of prudent, low cost personal portfolio."

Those who advocate individual responsibility, and therefore favor the idea of choice at the employee level, get push-back from some that Sally or Joe "Every Worker" is unlikely to delve deep with respect to investment issues. Yet people make decisions for themselves every day - choosing a doctor, buying a car, voting, changing jobs and so on. But, for argument's sake, let's agree that a "mini fiduciarization" of the workforce is impractical, infeasible or otherwise unappealing. What then?

If only plan sponsors are to decide on all things 401(k), should we not be seriously engaged in identifying what makes for a "top quality" fiduciary? Besides access to good and complete information about fees and other pecuniary arrangements, we've long advocated a requirement for "suitable" qualifications (education and experience) before someone makes multi-million decisions with other people's money. To be clear, the use of the term "require" here refers to that which is self-imposed by plan sponsors, perhaps with the help of various industry and fiduciary organizations. Mandatory requirements would be problemmatic and could exacerbate the situation. (Our firm, Pension Governance, LLC provides fiduciary training, process checks and research in the areas of investment risk and valuation. Part of a growing industry to help fiduciaries do a better job, we complement work done by our partners but always with the same message. Good process is everything!)

On the topic of information, the more voices the better as long as it gets us to an enlightened place. This means that "good" disclosure would be seen as a value-enhancing tool for all concerned parties, not another costly, "go nowhere" exercise.

To read the full text of Hutcheson's article, click here. You will be taken to the Social Science Research Network site. Pension Governance, LLC is a proud sponsor of four SSRN sections. Click here to learn more about our sponsorship of a pension risk management section (created just for us) and a research section about mutual funds and hedge funds. Click here to learn more about our sponsorship of a research section about employment law and litigation and a research section about corporate governance.

For further reading, click on the title of each item listed below:

"Who Wants to be a Fiduciary Anyhow?"

"Do You Know the True Cost of Your Retirement Plan?"

"Searching for Hidden Treasure"

"Do We Need an Easy Button for Fiduciaries?"

"401(k) Fee Analysis - Who Benefits?"

Pension Fiduciaries and Hedge Fund Clones, Fees and Fiduciary Duty

In a June 22 article, Lipper HedgeWorld reporter Emma Trincal writes about the imminent debut of a hedge fund replication index product, courtesy of Barclays Capital. According to Managing Director and Head of Equity Derivatives, Hassan Houari cites research that "up to 80% of the performance of hedge fund indexes" can be explained by changes in the market. Houari further adds that Barclays seeks to offer a "cheaper, more liquid and more transparent alternative." Click here to read the article entitled "Barclays to Debut Hedge Fund Clone." (Registration is required.)

Clones are a popular topic these days. Last week, during Part Two of the Hedge Fund ToolboxSM, sponsored by Pension Governance, LLC, Dr. Susan Mangiero, CFA and Accredited Valuation Analyst talked about increasing pressure for fiduciaries to justify fees. "Amid a flurry of 401(k) lawsuits alleging 'excessive' fees, it doesn't take a rocket scientist to know that hedge fund fees are next. If a plan sponsor can synthesize a signicant portion of expected returns for a particular hedge fund strategy, how can they justify paying for active management?"

Not everyone concurs that replication is possible. During the June 19 online event, co-founder of Bulldog Investors and the David who conquered Goliath SEC in the battle over regulation of hedge funds, Philip Goldstein challenged the notion that investors would be better off with a passive approach. "An Elvis impersonator is not Elvis." Ed Stavetski, CFA and Chief Investment Strategist for CMG Investment Advisors, LLC added that "Many hedge fund professionals work hard to identify value on behalf of their investors."

Emphasizing fiduciary duty, Ed Lynch, Senior Vice President and Investment Officer with Dietz & Lynch Financial Strategies Group of Wachovia Securities, LLC, reminded listeners that ERISA is clear on fiduciary duties that mandate a rigorous analysis of fees. Echoing the urgent need for discipline in the form of a systematic process to assess alternatives (in fact, any type of investment), Mangiero elaborated. "Fees drive performance and performance drives strategic asset allocation and re-balancing decisions. Plan sponsors need to get it right. Every trade costs money."

Click here to purchase the broadcast and slides for a nominal fee. (Past webinars are listed in chronological order.) Pension Governance subscribers enjoy webinar access for no additional charge. Click here to subscribe.

Pension Fiduciaries - Time to Wake Up and Smell the Coffee, Part Three

In his pension blog, ERISA litigator Stephen Rosenberg recently wrote about the forthcoming legal battle between the San Diego County Employees Retirement Association ("SDCERA") and Amaranth Advisors, LLC. In response to an original complaint against the once mighty energy hedge fund, its high-power attorneys countered with a motion to dismiss. Claiming caveat emptor, defendants assert that the plan sponsor understood the risks and went ahead anyhow. Click here to read the original complaint and here to read the motion to dismiss.

How this case will be adjudicated is anyone's guess. Nevertheless, the outcome will be closely watched as it goes to the very heart of investment disputes by asking who bears responsibility.

In our kick-off of the Hedge Fund ToolboxSM webinar series on June 14, 2007, we heard from former FBI agent Mr. Ken Springer (now president of Corporate Resolutions) and senior attorney and former regulator, Rick Slavin (now partner of law firm Cohen and Wolf P.C.). Both gentlemen vigorously urged pension investors to undertake a background investigation of key principals, check documents and never shy away from asking tough questions. Springer added that "material non-disclosure of critical events in one's career" represents a major concern, along with the need to do additional follow-up to explain discrepancies. Late payment of credit card bills or a faillure to pay child support suggest carelessness with other people's money.

In his overview of case precedent and enforcement actions, Slavin offered that sloppy, obtuse or incomplete paperwork is usually the beginning of trouble. He reiterated that the use of outside parties does not absolve plan sponsors of their fiduciary duties. Oversight obligations remain.

Springer told listeners that Bayou's problems, pre-meltdown, were evident had investors carefully reviewed available facts. "Blatant conflicts of interest, overstating of employees' accomplishments, suits by former employees, suits filed by investors and even suits filed by hedge fund managers" should have caught investors' attention before money changed hands. Slavin suggests that we're in for a bumpy ride. "There is every indication that more litigation and enforcement is on its way."

Rosenberg agrees. "We are currently watching the rise of a pension/401(k) investment plaintiffs bar, clearly modeled after the securities litigation class action bar, ready and waiting to sue pension advisors and anyone else in the line of fire for excessive fees, poor investment choices, and anything else that affects returns in the plans." He adds that, "If the hedge fund’s lawyers are right, then aren’t the plan’s fiduciaries and other advisors potentially liable for breaching their own obligations to the plan and its participants to properly select and monitor plan investments? And if so, then their best defense should the newly forming class action bar come after them for this mess would be that, contrary to what the hedge fund’s lawyers say, they actually did full and complete due diligence, and therefore lived up to their obligations and cannot themselves be liable for the fact that the investment went south."

Wise words to remind us of the importance of good process!

If you are interested in purchasing the recordings of any webinars that have already taken place, click here. (Webinars are listed in chronological order.) Click here to register for any or all of the forthcoming webinars in this exciting new series. Speakers will address the roles of financial advisor and consultant on June 26. Valuation is the topic of the June 28 event.

Pension Fiduciaries - Time to Wake Up and Smell the Coffee, Part One

Today's post and the next few that follow focus on pension governance (the name of our new website and a term that is often used to describe fiduciary duties and best practices). For a discussion of what pension governance means, click here to read interviews with market leaders. It's such an important topic yet often overlooked. In fact, the U.S. Department of Labor created an educational program ("Getting It Right") in order to help individuals understand their duties. (The results of countless audits apparently left examiners nervous about the folks who did not properly self-identify as fiduciaries.)

"Hot off the press" is a set of standards devoted to the topic of pension governance. Newly published by the Stanford Law School, the so-called Clapman report urges pension funds, endowments and charitable funds to adopt principles that reflect prudence, ethics and transparency. Citing some big dollar "no-no's" on the part of institutional decision-makers, chief architect of the report, Peter Clapman,and others rightly point out that giant institutions must walk the walk if they admonish corporations to do the same. CEO of Governance for Owners USA and former chief investment counsel of TIAA-CREF, Clapman adds that “Bad governance also weakens funds by eroding public support for them." One element of the report calls for funds to provide clear (and make public) information about governance rules.

Yippee Yahoo!

A few of us sometimes feel as if we've been screaming in the wind about the urgent need to know who is in charge and how they are running the show. (I'm sure Clapman and others would agree.) To read how bad things are in terms of NOT being able to easily identify where the buck stops, check out "In Search of Hidden Treasure." More than a year ago, I wrote "that a systematic identification of who does what and why with respect to employee benefits is simply not a reality as things stand today. This makes it difficult (perhaps impossible) to effect change."

The Clapman Report suggests that funds hire "trustees who are competent in financial and accounting matters." Read "Practice What You Preach" for our list of basic questions about pension fiduciary selection, training and performance evaluation. Anecdotally, I've often queried trustees and  other types of fiduciaries - "How do you become and stay a fiduciary? Do you take a quiz? Do you possess a certain amount of relevant experience? Do you get paid what you're worth in terms of liability exposure and hours spent on plan-related tasks?"

Scary to say, selection is frequently a function of who is seen as having a few hours of free time. Unfortunately, being a plan fiduciary is arguably a full-time job. Moreover, with so many complex decisions to make, someone with a limited background in topics such as investing may truly struggle to understand basics, let alone nuances of evaluating risk-adjusted return expectations. Even when an external consultant is used, a fiduciary still retains oversight responsibilities (a topic deserving of its own separate post).

Another proffered recommendation from the Clapman Report is to "establish clear reporting authority between trustees and staff" and to "define appropriate responsibilities and delegation of duties among fund trustees, staff, and outside consultants." We couldn't agree more. Check out our earlier discussion about the importance of incentives in "Paper Clip Theory of Pension Governance."

One thing is clear. Pension governance is starting to attract attention. That's great news for the many fiduciaries already doing things the right way. (You deserve recognition.) For those who need to improve, perhaps the spotlight on practices, good and bad, will encourage change. That would be a huge plus for plan beneficiaries, taxpayers and shareholders.

Here are a few resources for interested readers.

1. Committee on Fund Governance: Best Practice Principles -"Clapman Report" (Stanford University)

2. Prudent Practices for Investment Stewards (Fiduciary 360, AICPA, Reish Luftman Reicher & Cohen)

3. Asset Manager Code of Professional Conduct (CFA institute)

4. Standards of Membership and Affiliation (The National Association of Personal Financial Advisors)

5. CFP Certification Standards (Financial Planning Standards Board)

6. Regular Member Code of Ethics (National Investor Relations Institute)

7. Code of Professional Responsibility (Society of Financial Service Professionals)

8. Also check the site for the Financial Planning Association. I understand that they are soon to release a new set of standards for financial advisors.

Are Pension Fiduciaries Liable for How Much Others Make?

In a May 16 interview with investment banker John Whitehead, Bloomberg journalist Christine Harper clearly pushed a button when she asked about Wall Street compensation. Said the former chairman of Goldman Sachs "I am appalled" and then described current levels as "shocking." Click here to read the interview.

On May 3, summarized an Alpha Magazine piece about the top twenty-five beneficiaries of the hedge fund boom, noting that disproportionate goodies that accrue to the fund's leaders encourage turnover. Hedge fund analysts have little incentive to remain beyond a few years, driving up costs and creating a drag on performance. Click here to read "Hedge Fund Compensation: Too Top-Heavy?"

From the pension fiduciary perspective, how does this news square in Peoria? Are investment committee members, trustees and/or board members on the hook for having selected money managers who are deemed to make "too much?"

Let me quickly add that what constitutes "too much" requires a systematic and thorough analysis of benefits netted against costs and that performance-linked pay is far from a bad thing under certain circumstances. For those fund professionals who are delivering "excess" returns (and that evaluation likewise requires care and diligence), current compensation may look like a bargain.

What's important is the process in determining how managers' compensation reconciles with projected risk-adjusted performance, at the outset when a selection is made and on an regular basis thereafter.

As a plan sponsor (regardless of plan type), how much attention do you give to this issue and how comfortable are you in explaining your decisions to plan beneficiaries?

Survey Shows That Pensions Worry About Risk Management and Valuation

In his May 16 testimony to Congress, Mr. Douglas Lowenstein, head of the Private Equity Council, extolled the virtues of non-public investments. With over $110 billion invested in private equity by twenty large public pension funds, Lowenstein cites relatively higher historical returns that have helped plan sponsors pay the bills. Click here to read his testimony.

A few months earlier, a survey conducted by the State Street Bank describes escalating interest in hedge funds. At the same time, half of respondents expressed "a need for additional reporting and analysis on the part of hedge fund managers and more rigorous due diligence practices," adding that "they find it difficult to gain a portfolio-wide view of risk, and that aggregating risk statistics provided by all hedge funds in their portfolio was problematic. The same number also agreed that obtaining an accurate valuation of hedge fund holdings can be problematic." Click here to read the executive summary of the survey.

As with any investment, there is no "perfect" choice. Selection depends on a wide variety of factors.( A discussion about optimal asset allocation and security/fund selection is outside the scope of this blog post.) However, a few points are in order.

1. Risk management and valuation concerns are not created equal. They vary across type of asset and fund. Private equity funds tend to trade less frequently than hedge funds. Even within an asset class (assuming you agree that hedge funds constitute a separate asset class), the risk-return tradeoff varies by strategy, management and much more. For example, the use of derivatives by a market neutral hedge fund can differ dramatically from that of a macro oriented fund.

2. The use of a side pocket may reduce the need for frequent valuations. However, institutional investors need to understand if a side pocket is to be used, what will go inside the side pocket and the impact on reported performance as a result of its use.

3. Knowing that a manager employs derivatives is not enough. Understanding instrument and strategy choice is likewise important (though still not sufficient).

4. Valuation numbers provided by traders or anyone else who stands to benefit by reporting high numbers should be discarded and replaced with those provided by an independent party.

If you are interested in knowing about other red flags, email us in confidence.

Green is Good

With all due respect to Gordon Gekko, replace the "d" (as in "Greed") with an "n" (as in "Green") and we end up with a way to both belately celebrate Earth Day and acknowlege an emerging trend in pension funds' allocation to Socially Responsible Investments (SRI).

Click here to access a nice primer from the UK. Checklists and case studies make it useful to anyone interested in knowing more about the topic. 

Stateside, Mercer Consulting's survey of U.S. pension funds about SRI suggests continued growth. Click here to access the survey.

By the way, it's not just Ayn Rand who rejects altruism. Institutional investors say that opportunities to reduce risk, enhance returns or better align economic interests with socially-oriented values are key drivers behind their decision to invest in SRI funds.

Derivatives, Mutual Funds and Pensions

Continuing to exhibit meteoric growth, the global derivatives market is now estimated at around $400 trillion. That's a lot of zeros - $400,000,000,000,000. In contrast, the CIA World Fact Book estimates 2006 Gross World Product at $65 trillion. Said another way, aggregate economic production for the entire world has an approximate dollar value of only 1/6th the estimated market size for futures, options, swaps and various combinations.

Is it any wonder then that regulators  are asking questions about who does what in the world of derivatives? One false move and the intricate web of financial institutions which dominate derivatives trading could fall apart. Increased volatility for the market as a whole or an exogenous shock to a particular sector potentially spells trouble.

In her April 4, 2007 article, Wall Street Journal reporter Eleanor Laise writes that "automated trading of derivatives and increased use by fast-growing hedge funds have helped make the market more accessible to mutual funds" and that "mutual funds aim to stand out in a crowded field." She further points out that identifying the use of derivatives by portfolio managers requires a hard look at the fund's prospectus. I'd emphatically add that reading what is available is seldom sufficient. To the contrary, a pension fiduciary needs to ask a myriad of questions of and about the mutual fund manager. Here are a few suggestions from a long list. (Email me if you want additional information.)

1. Who determines the type of permitted derivative instruments and strategies, and on what basis?

2. Does the fund or family of funds have a risk manager? If so, does he or she have the authority to make meaningful decisions about risk controls? Who does that person report to?

3. How are mutual fund traders compensated with respect to return, risk and risk-adjusted return?

4. Is there a risk management policy (and related procedures) that can be reviewed before investing? If considered proprietary, is it possible to meet with the portfolio manager and/or risk manager to discuss?

5. What types of risk metrics are employed by the mutual fund?

6. Who authorizes derivatives-related trading limits, and on what basis?

7. Are the fund's auditors comfortable with how the derivative instruments are marked-to-market?

8. Does the portfolio manager rely on an external system to analyze and monitor risk? If a proprietary system is used instead, is there an independent party who validates the models and integrity of the data feed?

9. How is liquidity measured? What is the portfolio manager's plan for liquidating various positions if necessary?

10. Does the portfolio manager have the latitude to switch gears with respect to derivatives-related trading and not have to fully disclose to investors? (In other words, is there a chance that the mutual fund's use of derivatives in a risk-return sense could differ materially from the stated scope?)

American author Mark Twain once said - “There are two times in a man's life when he should not speculate: when he can't afford it, and when he can.” While clever, the fact remains. Financial engineering and derivatives are here to stay. Any pension fiduciary not yet familiar with the D-word needs to remedy that situation right away.

401(k) Fee Fights - Here We Go

On March 29, Reuters reported that  Judge David Herndon of the U.S. District Court for the Southern District of Illinois had given the green light for a 401(k) fee case to proceed. One of about a dozen lawsuits brought by St. Louis firm Schlicter, Bogard & Denton, plaintiffs allege that plan consultants were paid an "unreasonable" amount for record-keeping services rendered in 2004.

Coincidentally, on that same date, I listened to a lively discussion about fees, revenue-sharing and the state of 401(k) fee litigation. Moderated by Nell Hennessy, Fiduciary Counselors Inc. and sponsored by the American Bar Association, other speakers - Lynn Sarko (Keller Rohrbach LLP), Chris J. Rillo (Groom Law Group) and Kristen L. Zarenko (Office of Regulations and Interpretations, EBSA, US Department of Labor) - parried back and forth about procedural prudence, proper fee-related disclosure and new enforcement initiatives in the form of the Consultant/Advisor Program (CAP). Click here to read the program description. 

Always important, the topic of fee economics is arguably more so now since countless organizations are switching from traditional plans to defined contribution plans.

2007 looks to be an active year in terms of court-watching!

The F Word for Pensions

Before I realized the importance of being a fiduciary, work was fun. I have a fondness for the good old days when I had more financial freedom. That was before the failure of our high risk portfolio. What folly! Now the lawyers tell me our strategy is not a good fit, our process is feeble and breach may be a felony with personal liability not far behind. I wish I could flee! >>

Perhaps a bit too gimmicky, my goal was to get the audience to think about the ultimate F word - FIDUCIARY - and the related consequences associated with a job poorly done. My contention? We're all risk managers now.

Think about what's happened in the last few days. Volatility is up. Assets that typically move inversely with one another are moving in the same direction - down, more than a few investors are liquidating positions to meet margin calls, credit problems are rearing their ugly head in the form of sub-prime loan losses and there is overall nervousness about how risk is priced.

Is this the tipping point that compels pension fiduciaries to examine their risk management policies and procedures - and those of their appointed money managers - or do they instead shrug off bad times as short-term and likely to reverse? If not market turbulence, what will get fiduciaries to focus on risk-adjusted return in a more meaningful way?

Pension Valentine

How do we need you? Let us count the ways.
We need you from the depth and breadth and height
Our portfolio statements will allow
We need you to the level of everyday's
Most urgent wants, for food and shelter

With apologies to Elizabeth Barrett Browning, it's true that pension fiduciaries often stand between a comfortable retirement and a financial struggle. Their job, if done properly, can make a real difference in the lives of individuals, still working or now retired.

This blog primarily addresses pension financial risk issues from a fiduciary perspective. Yet we've received more than a few emails from persons seeking assistance to recover lost or diminished pensions. Descriptions of tough economic times are poignant. They serve as a constant reminder that what pension fiduciaries decide has consequences.

Happy Valentine's Day!

Paper Clip Theory of Pension Governance

In speaking to a colleague about managerial excesses the other day, I relayed the story of something that took place years ago. I was in college and worked as a bank teller in the afternoons and opened new accounts on Saturdays. The woman assigned to provide on-the-job training (long retired I'm sure) chided me for tossing a paperclip. "I'm a shareholder of this bank and every penny counts. We just don't throw away paperclips."

At the time, she struck me as old-fashioned and picky. Of course, when you're twenty, I suppose everyone seems un-cool.

What continues to amaze me is that I recall that event as clearly as if it had just happened. Her comment was an epiphany of sorts. This woman was not an executive. She wasn't even a bank officer. She was a secretary (administrative assistant in today's parlance). She wasn't responsible for the budget. No one counted supplies. Certainly one abandoned clip couldn't mean much. Yet her words resonate still. With skin in the game, she had a compelling motivation to be thrifty and encourage others to follow suit.

The relevance to pension governance is striking. When fiduciaries do not have a vested interest in adhering to best practices, will they be tempted instead to follow the path of least resistance? What motivates an individual to be a good steward of other people's money? Is it an increasing awareness of personal and professional liability that moves people to act or a concern that doing the right thing counts most?

A few days ago, I asked several financial advisors why they thought so many lawsuits focus on 401(k) fees rather than defined benefit plan fees. One response speaks volumes. "It's the company's money with DB plans but when employees pay, there is less managerial concern." Cynical or a reflection of the existing risk-reward system? Fiduciary responsibilities apply to both DB and DC plans. Yet decision-makers tend to feel pain faster and more fully when DB plan assets underperform and their compensation is tied to share price, cash flow or budget variance.

Experts agree that pension governance is AWOL at more than a few companies and statehouses. Why is that? As I wrote in Executive Decision last year, incentives are everything. Reward people for good behavior and you get what you pay for. The converse is true as well.

For those already in the vanguard with respect to effective investment fiduciary practices, kudos and keep up the great work. For those doing the equivalent of the pension paperclip toss, a good New Year's resolution is to stop.

P.S. Click here if you'd like to read "Do Fiduciaries Need Better Incentives to Make the Retirement System Work?"

401(k) Fee Analysis - Who Benefits?

Thanks to attorney Stephen Rosenberg for giving our 401(k) fee webinar a round of applause. In "401(k) Plan Fees and Breaches of Fiduciary Duty", Rosenberg writes "On the key issue of how to avoid incurring liability for breach of fiduciary duty as a result of the fees incurred by 401(k) plans and their impact on plan performance, the speakers emphasized a commitment to due diligence. In particular, the speakers favor a systemic and periodic review of the entire issue of the fees affecting the plan, and proper investigation and selection of funds and advisors with the issue of fees firmly in mind. In other words, don't put the plan together without thinking about the issues of fees and ensuring that the applicable fees are consistent with industry benchmarks, and even after you do that, don't just forget about the issue, but instead return to the topic regularly and make sure fees and performance remain appropriate."

Some other points are noteworthy, especially given questions that arose after the event.

1. A comprehensive fee analysis, done before manager selection and regularly thereafter, benefits multiple constituencies - plan sponsors, participants, shareholders, money managers and consultants.

2. While plan participants arguably have limited information, relative to what is available to plan sponsors, both groups should understand fee structures and the expected economic effect of different types of fees. Remember that all fees are not "created equal." For example, some fees may be front-ended or tied to performance and therefore differ as regards portfolio performance impact.

3. What looks like "higher" fees on the surface may not be necessarily "bad" (and this is a gross simplification). In part, it depends on what they represent. A plan participant could have more flexibility in one situation (i.e. fewer restrictions perhaps), thereby boosting base fees. It likewise depends on, apples-to-apples, how a particular fund's fee structure compares to an appropriate fee benchmark. Other issues might come into play. Bottom line - A thorough analysis is paramount.

4. Fees are influenced by many factors, including asset class, investment strategy, market structure, fund structure, performance, terms, regulation and competitiveness.

Regarding the process itself, the U.S. Department of Labor provides guidance in its online publication, "A Look At 401(k) Plan Fees."

Here are a few excerpts:

"Establish a prudent process for selecting investment alternatives and service providers

Ensure that fees paid to service providers and other expenses of the plan are reasonable in light of the level and quality of services provided

Select investment alternatives that are prudent and adequately diversified

Monitor investment alternatives and service providers once selected to see that they continue to be appropriate choices"

Other resources exist in the form of checklists such as those provided by the Foundation for Fiduciary Studies. Click here to access the "Self-Assessment of Fiduciary Excellence" for investment stewards, investment advisors and money managers, respectively.

More to come...

Pension Fiduciary Liability - Busy Times Ahead

The life of a pension fiduciary is no bowl of cherries. As I wrote on May 16 of this year, I parenthetically asked why anyone would want to be a fiduciary. Their job is critical to the process but less than easy.

"Often the pay is bad and the hours are long. (Individuals seldom receive any additional compensation at the same time that they are asked to assume significant responsibilities that put them directly in the 'line of fiduciary fire.') One might say it's like being asked to constantly eat your peas without any hope of ever getting dessert." (Click here if you want to read the entire post entitled "Who Wants to be a Fiduciary Anyhow?")

In "Liability of plan fiduciaries a still-growing concern", journalist Marion Davis (Providence Business News, November 11, 2006) writes that, post-Enron, employers are more aware of their fiduciary duties to "manage the plan honestly" and to "manage it reasonably well and provide accurate and complete information to participants."

She cites attorney Richard D. Hoffman with Nixon Peabody as saying that "he has seen a growing number of employers buy insurance to protect themselves from ERISA claims" at the same time that the "number of claims has increased as well" and "plantiffs have become more sophisticated."

Issues such as fees are just the tip of the iceberg. The Pension Protection Act of 2006 adddresses valuation and a cornucopia of investment-related issues such as qualified alternatives for 401(K) plan participants. The article quotes attorney David C. Morganelli with Partridge, Snow & Hahn as recognizing a heightened awareness of what is at stake, adding that "lawyers such as himself have been answering an increasing number of questions about obligations and liabilities under that law and under ERISA."

In January 2007, our sister company, Pension Governance, LLC, will be unveiling a searchable pension litigation database, along with regular updates about trends and highlighted cases as pertains to financial issues. We started on the database over ten months ago and quickly realized that the volume of cases to be analyzed and catalogued dwarfed our original expectations.

The good news is that there are many things that can be done upfront to mitigate fiduciary risk. The questions for pension fiduciaries are threefold. Are they fully aware of all relevant risks? Do they know what has to be done? Are they ready to move forward?

We'd love to give you our take. Email us if you want to be notified of the pension litigation database launch and/or would like to get our thoughts about the challenges that loom ahead.

Editor's Note:
Please be reminded that we do not provide accounting, investment or legal advice. We provide independent research and analysis to pension fiduciaries and/or their attorneys in the areas of financial risk, derivatives, valuation, fee economics, disclosure best practices, questions of suitability and prudential process as relates to financial/economic issues. In addition, we offer training and consultation to boards, investment committees, trustees, regulators and pension-focused money managers in the areas of financial risk and valuation.

Hedge Fund Disclosure - Round Three

On November 8, 2006, I spoke again about the issue of hedge fund transparency and disclosure as relates to ERISA fiduciaries. Part of a three-person panel focused on hedge fund risk management (co-sponsored by BVA, LLC, ING Investment Management and law firm Alston Bird LLP), my comments were directed to an audience of about ninety people, representing hedge funds and service providers.

Since my remarks were picked up by several publications, and because this issue has now become a cause celebre of sorts, I'd like to clarify a few things. (Click here to read "The Law Giveth, The Law Can Taketh Away", 11/10/06, Institutional and here to read "Amaranth, New Law Puts Onus on Pension Trustees" by Chidem Kurdas, New York Bureau Chief, 11/08/06, Registration may be required.)

In case you missed my earlier two posts on the topic of information and economic value, click here and here. No investment is "good" or "bad" on its face. An investor must carry out a careful analysis of characteristics that are thought to contribute to the expected risk-return tradeoff. Moreover, an investor must consider its objectives and constraints.

2. Current law requires ERISA fiduciaries to make informed decisions. (Other criteria apply and fiduciaries are urged to seek legal counsel to better understand their responsibilities.)

3. Notwithstanding current law, common sense mandates a modicum of information and analysis before plunking down money. Why would someone invest in something resembling a black box, especially when they are acting as stewards of other people's money?

4. Some fund managers can choose to provide limited information to potential investors, to the extent permitted by prevailing law. ERISA fiduciaries may be subsequently forced to look at other funds that provide whatever information is deemed necessary to discharge their duties. The Pension Protection Act of 2006 sheds arguably more light on what a fiduciary must do with respect to proper investment decision-making. However, it is not a standalone document and references opinions that will ultimately have to come from the U.S. Department of Labor and elsewhere.

6. The point about due diligence was emphasized by attorney Nir Yarden with Bryan Cave LLP as part of a recent Financial Research Associates conference about liability-driven investing. Yarden urged fiduciaries, including consultants and money managers, to thoroughly consider their exposure under ERISA, adding that "it won't take another blow-up to get people in trouble. Fiduciaries do not have the luxury of walking away from their statutory responsibilities. ERISA may apply even in the event of sub-performance."

7. Having a healthy debate about information requirements is a good thing. Please send or post comments. (If you have any difficulty posting to the blog, please email us.

U.S. DOL Greenlights Liability-Driven Investing as Possible Solution

With so many companies in the red when it comes to defined benefit plans, a green light from the U.S. Department of Labor to consider liabilities when making investing decisions is a big deal.

That's why over one hundred pension fiduciaries have signed up for a Financial Research Associates, LLC conference about liability-driven investing. Chaired by Dr. Susan M. Mangiero, CFA and Accredited Investment Fiduciary Analyst, the event promises to be timely and informative. Following the conference is a workshop entitled "Derivatives in an LDI Framework".

Led by Dr. Mangiero, founder of Pension Governance, LLC and Managing Member with BVA, LLC and Mr. Gavin Watson, Business Manager with the RiskMetrics Group, workshop attendees will hear about the following topics.

1. Identifying Liability-Driven Objectives and Alternative Solutions

2. Derivative Instrument Strategies

3. Modeling and Valuation Issues

Despite the many challenges of managing pension risk, fiduciaries now have some concrete solution possibilities to consider.

Editor's Note:
I'll return in a few days with much more (!) to say about LDI.

Will Private Equity Stay Private? U.S. Dept. of Justice Makes Inquiries

In "U.S. Department of Justice Comes Knocking, Raising Specter of Private Equity Antitrust Concerns," law firm Goodwin Procter, LLP writes that "the DOJ has sent out requests to some of the industry's largest and most well-known firms, asking that these firms provide information and documents relating to company auctions since 2003."

Reported earlier by the Wall Street Journal ("Private-Equity Firms Face Anticompetitive Probe" by Dennis K. Berman and Henny Sender - October 10, 2006) and Red, the DOJ is interested in knowing how firms transact and the extent to which competition in bidding occurs.

At the same time, Investment Dealers' Digest reports on the imminent launch of a new trade association, the Private Equity Council ("PE Trade Group Nearing Launch Amid Intensifying Scrutiny" by Ken MacFadyen - October 30, 2006). Slated as its new head, Mr. Harry Clark "insists that the group's genesis was in no way a response to the Justice Department's inquiry and he notes its role will not be in reacting to such events."

At a time when pension funds are increasingly looking at alternative investments such as hedge funds and private equity opportunities, an issue that resurfaces time and time again is transparency. In August 2005, the State of Illinois enacted legislation to protect "the commercially sensitive information of companies that receive private equity funding from public pension funds." One of five other states at the time, the then-cited goal was to "provide transparency in public investments in private equity without damaging portfolio companies' ability to compete."

You may recall an earlier post about hedge fund competitiveness and transparency. (Click here to read "Pensions, Hedge Funds and Disclosure" about Mr. Phillip Goldstein's letter to the U.S. SEC in which he requests exemption from the filing of Form 13F. In that post, I talked about the relationship between information and fiduciary responsibility.

No doubt the issues of transparency and market structure will continue to grab headlines. It's far from trivial.

Editor's Note:
Mr. Goldstein sent a copy of the letter to share with readers. Click below.

Pension Consultants and Hedge Funds

In "Retirement funds fear untested consultants" (HFM Week, August 17-30, 2006), Jefferson Wells engagement manager Aileen Doherty describes a need for independent hedge fund valuations and a concern that pension consultants may not be doing as much as possible to vet valuation issues. Attorney Doherty adds that "There is going to be more pressure on pension funds to make sure the managers they hire are doing what they are supposed to be doing", especially at a time when "Pressure from the SEC and individual states is growing."

In the same article, Wilmer Hale partner Alexandra Poe asserts the need for "trustworthy third party valuations", adding that pension fund trustees "may feel they have hired consultants to get to the bottom of it, and they may feel underserved."

Any pension consultant who wishes to comment has an open invitation from this blog to offer your perspective. The same invitation extends to investors. Please be reminded that we do not endorse any particular firm for any type of product or service. We would simply be acting as a communication conduit.

As I've written before, valuation is a cornerstone of a hedge fund's activities, including, but not limited to, asset allocation, trading, risk management, performance reporting, compliance and auditing.

A point which CANNOT be emphasized enough is the need for independence and objectivity. Regulatory bodies such as the IRS and various courts continue to emphasize specialized valuation training and designations. This applies regardless of purpose - rendering an opinion of value of a particular position or portfolio, assessment of the economic interest of a hedge fund partner or the business itself (such as when a new person exits or enters, key person insurance, divorce) and/or a review of the process employed by organizations providing valuation numbers.

As an Accredited Valuation Analyst, I have written extensively about valuation issues. Please email if you want a copy of any or all of these items:

1. Chart that describes various valuation designations
2. Aforementioned article
3. Hedge fund valuation panel transcript from earlier this year

In case you missed these items, these links may be of interest.

"Hedge Fund Valuation is a Big Deal for Pension Fiduciaries"

"Do You Really Know the Value of Your Portfolio?"

"Hedge Fund Valuation: What Pension Fiduciaries Need to Know" (Source: Journal of Compensation and Benefits, July/August 2006)

Bad Boy Syndrome and Governance

Ever have a sleepless night? You find yourself watching late night television and pondering whether to call overseas clients in their time zone as a way to score points. If so, you may have come across a police reality show known simply as COPS. According to the Fox Television website, COPS is "still one of the most popular television shows on the air," leading one to wonder about the national fascination with crime and disgrace.

Unfortunately, there never seems to be a shortage of bad boys and gals who flaunt the law. The temptation of easy money is too intoxicating for some, ensuring that the saga will likely continue for a long time to come.

Just recently, former Enron CEO Jeffrey Skilling was sentenced to twenty-four years over a corporate scandal that has received significant press attention and prompted a new wave of governance standards and rules. New York Times reporter Alexei Barrionuevo describes Skilling's sentence as slightly shorter than the twenty-five years metered out to Bernie J. Ebbers, former head of WorldCom "who was sentenced to 25 years last year for his role in the $11 billion fraud that led to that company's collapse." (In the spirit of full disclosure, let me confess to owning some two hundred shares of Enron common stock.)

Financial Times reporter Kevin Allison writes that David Kreinberg, former CFO of voicemail software company Converse, "became the first top executive to plead guilty to conspiracy and securities fraud in connection with options backdating." Rumour has it that others are in the hot seat and have hired criminal lawyers.

Financial wrongdoing accounts for an entire industry of specialists. Benchmark Financial Services bills itself as an expert "in investigations of pension fraud, money management abuses and wrongdoing involving securities brokerages and pension investment consultants," adding that their "investigations frequently focus upon illegal or unethical business practices that are commonplace in the securities brokerage, asset management and consulting industries, as well as hidden or poorly disclosed financial arrangements between vendors to pensions."

Another organization, Corporate Resolutions, focuses on fraud, money laundering, risk management and competitive intelligence. President Ken Springer, a Certified Fraud Examiner and former special agent of the Federal Bureau of Investigation, provides an interesting update in the company's monthly newsletter about security issues.

Notwithstanding their efforts, some interesting questions come to mind with respect to how people respond to problems in pension land and elsewhere.

1. Does news about white collar criminal punishments deter others from misdeeds?

2. What type and magnitude of loss roils people to the point of lobbying for changes in the system, with the goal of minimizing future mishaps?

3. Does the avoidance of shame play a role in keeping financial abuses to a minimum? (How many rogue traders are now making a nice living as commentators, security consultants or well-published writers?)

4. What is the fine line between fraud and unethical practices?

5. Who is responsible for early detection of fraud within an organization?

6. What can investors and/or plan beneficiaries do to protect themselves from fraud and "ethically challenged" decision-makers?

Taking a pro-active approach can go a long way to calming jitters. For pension fiduciaries, providing transparency about the investment process, including choice of money managers and related vendors, is huge.

Why then is it often difficult to get meaningful information about a plan and how it is being managed? Why do we pay attention to the bad boys and gals instead of more emphatically rewarding all the good players?

Pension Fiduciaries and Conflicts of Interest

In a September 26, 2006 press release from the Pennsylvania Department of the Auditor General, results of several special performance assessments are telling. State Auditor Jack Wagner encourages reforms, some of which are shown below:

1. Improve "how individual board members monitor and report conflicts of interest to improve transparency in governance"

2. Formalize "professional training for board members"

3. Make better the "structure of internal audit operations to improve independence"

4. Change "state law and fund policies to ensure that all board members are subject to a modern legal standard for judging their investment decisions."

Asking investment advisors to disclose campaign contributions whenever they present to the board is another suggestion. This is important since political appointees sit on the boards of the Public School Employees' Retirement System and the State Employees' Retirement System, respectively. Together, these two funds account for nearly $87 billion and 600,000 employees and retirees.

Given a reported funding gap in the neighborhood of $11 billion, a focus on conflicts of interest is noteworthy. The last thing any plan participant wants is an investment problem, whether it be an outright loss, sub-par performance, lack of suitability, excess fees or something else. Unfortunately, the absence of an independent review process leaves everyone guessing. (This applies to any fund.)

Was the right decision made for the right reason?

As a general rule, why aren't boards more independent in the first place? Is it really rocket science to recognize the importance of making decisions on the basis of solid investment analysis and not because money talks?

Editor's Note:
Other audits were performed by Independent Fiduciary Services, Inc. and looked at areas such as due diligence procedures, investment performance reporting, fiduciary liability insurance and costs and fees. For a copy of the two detailed reports, visit

ERISA and Derivatives

During a September 26, 2006 panel discussion about the use of derivatives by pensions, mention was made of a U.S. Department of Labor letter. Several people asked for more information. (The Pensions & Investments conference focused on liability-driven investing.)

Click here to read the letter. Excerpts are provided below. Several items are noteworthy, especially since liability-driven investing strategies often rely on the use of derivatives.

1. There is a clear focus on process.

2. Regulators cite the need to identify operational and legal risks.

3. Passing the baton to a money manager does not absolve plan decision-makers of oversight duties with respect to the use of derivatives by outside firms.

4. Methods used to assess market risk should be appropriate and could include stress testing and simulation.

<< Investments in derivatives are subject to the fiduciary responsibility rules in the same manner as are any other plan investments. Thus, plan fiduciaries must determine that an investment in derivatives is, among other things, prudent and made solely in the interest of the plan's participants and beneficiaries.

In determining whether to invest in a particular derivative, plan fiduciaries are required to engage in the same general procedures and undertake the same type of analysis that they would in making any other investment decision. This would include, but not be limited to, a consideration of how the investment fits within the plan's investment policy, what role the particular derivative plays in the plan's portfolio, and the plan's potential exposure to losses. While derivatives may be a useful tool for managing a variety of risks and for broadening investment alternatives in a plan's portfolio, investments in certain derivatives, such as structured notes and collateralized mortgage obligations, may require a higher degree of sophistication and understanding on the part of plan fiduciaries than other investments. Characteristics of such derivatives may include extreme price volatility, a high degree of leverage, limited testing by markets, and difficulty in determining the market value of the derivative due to illiquid market conditions.

As with any investment made by a plan, plan fiduciaries with the authority for investing in derivatives are responsible for securing sufficient information to understand the investment prior to making the investment. For example, plan fiduciaries should secure from dealers and other sellers of derivatives, among other things, sufficient information to allow an independent analysis of the credit risk and market risk being undertaken by the plan in making the investment in the particular derivative. The market risks presented by the derivatives purchased by the plan should be understood and evaluated in terms of the effects that they will have on the relevant segments of the plan's portfolio as well as the portfolio's overall risk.

Plan fiduciaries have a duty to determine the appropriate methodology used to evaluate market risk and the information which must be collected to do so. Among other things, this would include, where appropriate, stress simulation models showing the projected performance of the derivatives and of the plan's portfolio under various market conditions. Stress simulations are particularly important because assumptions which may be valid for normal markets may not be valid in abnormal markets, resulting in significant losses. To the extent that there may be little pricing information available with respect to some derivatives, reliable price comparisons may be necessary. After entering into an investment, a plan fiduciary should be able to obtain timely information from the derivatives dealer regarding the plan's credit exposure and the current market value of its derivatives positions, and, where appropriate, should obtain such information from third parties to determine the current market value of the plan's derivatives positions, with a frequency that is appropriate to the nature and extent of these positions.

If the plan is investing in a pooled fund which is managed by a party other than the plan fiduciary who has chosen the fund, then that plan fiduciary should obtain, among other things, sufficient information to determine the pooled fund's strategy with respect to use of derivatives in its portfolio, the extent of investment by the fund in derivatives, and such other information as would be appropriate under the circumstances.

As part of its evaluation of the investment, a fiduciary must analyze the operational risks being undertaken in making the investment. Among other things, the fiduciary should determine whether it possesses the requisite expertise, knowledge, and information to understand and analyze the nature of the risks and potential returns involved in a particular derivative investment. In particular, the fiduciary must determine whether the plan has adequate information and risk management systems in place given the nature, size and complexity of the plan's derivatives activity, and whether the plan fiduciary has personnel who are competent to manage these systems. If the investments are made by outside investment managers hired by the plan fiduciary, that fiduciary should consider whether the investment managers have such personnel and controls and whether the plan fiduciary has personnel who are competent to monitor the derivatives activities of the investment managers.

Plan fiduciaries have a duty to evaluate the legal risk related to the investment. This would include assuring proper documentation of the derivative transaction and, where the transaction is pursuant to a contract, assuring written documentation of the contract before entering into the contract.Also, as with any other investment, plan fiduciaries have a duty to properly monitor their investments in derivatives to determine whether they are still appropriately fulfilling their role in the portfolio. The frequency and degree of the monitoring will, of course, depend on the nature of such investments and their role in the plan's portfolio. >>

Are HR Professionals the Key to Unlocking Shareholder Wealth?

Several days ago, I wrote about the link between employee happiness and the bottom line. I was pleasantly surprised therefore to read about a new study conducted by Auburn University professor, Dave Ketchen. Acknowledging the importance of incentives, his research results also suggest that "performance improvements are stronger when companies take a systematic approach to human resources rather than implementing one or two practices". He adds that "Executives need to adopt a strategic view of the human resource function and create sets of practices that reinforce each other."

In a related article, published in the August 2006 issue of Workforce Management, Dr. Theresa M. Welbourne echoes a similar sentiment about the strategic importance of the HR function. Author of "Human Resource Management: At the Table, or Under It?", Welbourne describes several of her studies which suggest that HR professionals are not given their proper due. This is a pity since "HR can, through various initiatives that reach out to employees, obtain employee insights and ideas about the business. HR can be the table because HR will have information about the business that no one else in the organization has at present. Employees are the stealth ingredient to creating a realignment culture. If you ask employees for information, and you use their input to realign, they are now part of the change, which means they are much more willing to move forward with the leadership team."

So what does this all mean in pension land? Plan design analysis should take into account immediate cash flow and earnings impact as well as trickle down effects that relate to employee productivity and retention. The expected demise of defined benefit plans may not come to pass if companies decide that attracting and keeping employees requires traditional benefits. Given today's article by New York Times reporter Jeremy W. Peters, labor shortages (and related cost pressurs) could nip defined benefit plan terminations in the bud. (See "Labor Costs Shake a Pillar of Fed Policy", September 7, 2006, New York Times.)

Can Poor Pension Governance Land You in Jail?

In a riveting and timely article, senior Greenberg Traurig ERISA attorney Jeff Mamorsky provides a serious wake-up call to pension fiduciaries everywhere. (Click here to read "Is Today's Pension Plan Environment Cause for Concern?", CEO Magazine, August 2006.)

Mamorsky chronicles the parade of corporate horribles in the U.S. that eventually led to the Sarbanes-Oxley Act of 2002 (SOX). He points out the irony that "All this happened in the USA despite the fact that the federal pension law, the Employee Retirement Income Security Act of 1974 (ERISA), contains rules that require plan sponsors to establish internal control procedures to monitor compliance with the fiduciary responsibility requirements of ERISA."

In the spirit of the stick winning over the carrot, Mamorsky adds that "These rules were in some cases not followed since there were few real teeth in the law. It took SOX with its draconian certification penalties and ERISA's 'white collar' criminal penalty provisions to make plan sponsors take pension governance more seriously."

Emphasizing the nature of personal liability for pension fiduciaries, the article explains the critical, and undeniable, connection between SOX compliance and pension governance. In a rather ominous statement, Mamorsky warns "This liability has increased as the result of legislation such as SOX that requires a public company CEO, CFO or other responsible fiduciary to certify the establishment and adequacy of 'disclosure controls and procedures' relating to material items in the annual financial report. What companies sometimes overlook is that this SOX section 404 management assessment of the adequacy of internal control procedures requirement applies to pension and benefit expenses."

If you aren't scared at this point in the article, he goes on to describe SOX sanctions of money and jail - "$2m and up to ten years' imprisonment for non-wilful ($5m / up to 20 years' imprisonment for wilful) certification of any statement that does not comply with SOX requirements." Then there is the matter of heightened IRS scrutiny of pension plan governance (or lack thereof), a rise in litigation and general upset about the topics du jour, pension funding gaps, rescinded benefits and so on.

Mamorsky concludes that the rest of the world is starting to feel the pinch as the UK and other countries address governance as an important element of the "global pension world."

As an aside, our sister company, Pension Governance, LLC is soon to launch a pension litigation database, chock full of analyses and trends. We had planned to launch earlier but found many more cases than we originally anticipated.

A harbinger of days ahead in pension governance land?

Survey Shows That Institutional Investors Are Worried

In a survey co-sponsored by Pension Governance, the RiskMetrics Group and Ulysses Partners, institutional investors expressed concern about a variety of issues, including:

1. Fiduciary breach litigation
2. Underfunding
3. Asset allocation mix
4. Investment return assumptions
5. Realized investment returns
6. Investment risk
7. Valuation
8. Regulation

In excess of fifty percent of respondents said they would like to know more about risk measurement and risk management. That makes sense, given survey results that point to beta, duration and, in the case of derivatives, notional principal amount, as favored ways to track position limits. As explained in great detail in Risk Management for Pensions, Endowments and Foundations, care must be taken to properly interpret these numbers, understand their strengths and limitations and undertake a comprehensive analysis of risk. Only twelve percent of respondents declared Value of Risk as a way to track position limits. Seventy-nine percent of respondents said that they do not currently use risk budgeting.

Interestingly, forty-six percent of respondents affirmed the use of more than ten money managers. No one answered "yes" to the question: "Do you use zero money managers?" The message? Institutional investors must make sure that the risk and valuation dialogue with external managers is comprehensive and clear. Outsourcing does not absolve fiduciaries of their oversight duties.

Seventy-five percent of respondents answered that the primary responsibility for making strategic risk management decisions rests with a committee. Only two percent answered that consultants or external money managers play this role. Arguably fiduciary education is critical for all committee members who collectively decide on all things risk. (As an aside, committee decisions should reflect analysis by all members rather than having some individuals passively accept the recommendations of one or two "leaders". The author is not an attorney. Fiduciaries should seek legal counsel for advice regarding relevant duties.)

Several results merit special comment.

More than ninety percent of institutional investors with assets in excess of $1 billion said that they know the amount of leverage being used by external money managers. At the same time, they expressed concern about risk management and admitted to using only a handful of risk measurements. Additional research is required to get behind these seemingly contradictory answers.

More than sixty percent of institutional investors with assets in excess of $5 billion cite the use of custodians as providers of "independent" valuation numbers. Only forty percent of investors with assets between $1 and $5 billion use custodians for this job. As institutions gravitate towards assets for which there is no ready public market or for which public market trading occurs infrequently, contacting qualified appraisers is worth investigating. Valuation disputes often end up in arbitration, litigation or regulatory enforcement actions and more than a few experts have been disqualified for lack of specialized training. Forty-eight percent of respondents claimed a concern about how hedge fund assets are valued.

For interested readers, click here to read "Hedge Fund Valuation: What Pension Fiduciaries Need to Know". Click here to read "Asset Valuation: Not a Trivial Pursuit."

Sixty-two percent of respondents confirmed that derivatives are permitted. Worry about the risk associated with derivative use, inadequate systems to monitor and manage risk and lack of familiarity or experience with derivatives showed up most often as the reasons for prohibiting their use. Seventy percent of users cited the use of equity and fixed income derivatives. When asked about instrument categories, sixty-three percent cited the use of futures contracts, fifty percent cited the use of interest rate swaps and forty some percent checked off credit derivatives and currency swaps. About thirty percent of respondents cited the use of options, both exchange-traded and over-the-counter.

Seventy-seven percent of people who completed the survey said that they "feel that institutional investor fiduciaries are more vulnerable to being sued in the aftermath of recent corporate, government and non-profit scandals."

This begs some important questions.

1. What are fiduciaries doing to better protect themselves from allegations of breach of duty?

2. Are investment committee members being recruited, retained and compensated on the basis of their investment knowledge and experience? If not, do they plan to introduce educational and experiential requirements soon? If not, why not?

3. Do fiduciaries respond best to the carrot or the stick approach? If the latter, will an increase in litigation result in better governance? If not, what will prompt organizations in need of improvement to do a better job?

4. How will pension reform and new accounting rules affect the investment risk strategies adopted by public and private funds? (The expectation is that derivatives and related risk management strategies will climb to the top of the MUST DO list in response to anticipated reforms and new rules.)

5. How are fiduciaries carrying out their duties with respect to properly analyzing non-traditional instruments and strategies?

The development of follow-up surveys is underway. Contact Dr. Susan M. Mangiero, CFA, Accredited Valuation Analyst and certified Financial Risk Manager (FRM) for more information.

What's in a Promise?

In a current National Law Journal article, Pamela A. MacLean provides a fascinating overview of unanswered questions regarding employee benefit-related promises. She points out that federal courts are being "pulled into the wrangling over how promises of lifetime benefits can be broken, or whether they existed at all", adding that "the courts have not been uniform in their answers". According to MacLean, there are three particular areas of contention that include:

1. Method and timing of benefit recission

2. Bankruptcy impact on the provision of post-retirement medical benefits

3. Health care benefits for individuals over 65 versus younger retirees

With the contemporaneous effort underway to reform pension accounting, any legal decisions that permit companies to expunge their retirement obligations without penalty may accelerate what many experts believe is the ultimate nail in the coffin for traditional offerings.

For additional reading, see "CPAs Debate FASB's Pension Draft", and "FASB Pension Rule Could Spur Loan Woes" by David M. Katz,

Do We Need an Easy Button for Fiduciaries?

I love my Easy Button. Designed by some clever person at office supply company Staples, I press it every few days to remind myself that solving a particular problem is possible.

You might be thinking that this all sounds silly. It's certainly not rocket science but even the most capable among us sometime need a low-cost and humorous reminder that things are not as bad as they seem, that we can achieve an end goal if we take a breath, regroup and map out a step-by-step approach. If a problem is perceived as too complex, difficult to reconcile and too hard to tackle, how can anyone possibly move forward?

Apropos to pension governance, there is an urgent need for simplification and reassurance that the process of effectively discharging fiduciary duties is possible, practical and unlikley to break the bank (in terms of time, money, energy, stress, reputation).

Fear is a big factor that can both overwhelm and paralyze. At a time when pension liabilities are mounting, sweeping regulations are on their way and millions of employees are about to retire on what they think is their guaranteed nest egg, we can ill-afford to have fiduciaries look the other way because things are too hard.

To the contrary, we need people with courage and leadership skills to stand up and be counted. This is often a Herculean task with respect to anything having to do with pension risk. Why? Good people often cower at the mention of tools and techniques such as Value at Risk, Enterprise Risk Management, Derivatives, Risk Budgeting, Liability-Driven Investing, Stress Testing, Fat Tails, Model Risk and so on. For those fiduciaries with a limited background in finance, let alone investing, the fear factor is significant.

Is there hope? Absolutely. For one thing, fear can be managed as long as it is first recognized. According to the author of "One Small Step Can Change Your Life : The Kaizen Way" and pioneer in the area of success research, Dr. Robert Maurer asserts that fear can be a powerful tool to prepare us "for action", adding that "fear is nature's gift to awaken us to the possibilities". Then it's up to us to take one small step at a time to effect change.

Certainly a move in the right direction is an acknowledgement of those in charge that fiduciary education is a sine qua non of pension governance. To that end, this author will continue her efforts to inform and empower by trying to make complex concepts more understandable. (While the list of future topics is long, suggestions and comments are always encouraged. Email

As Confucius once said, "A journey of a thousand miles begins with a single step."

Who Wants to be a Fiduciary Anyhow?

I do a lot of public speaking. I enjoy it, especially when the audience participates by providing commentary, war stories and lessons learned. As part of a recent presentation about pension governance and hidden risks, I asked what I thought was a rhetorical question.

Why would anyone want to be a fiduciary?

Often the pay is bad and the hours are long. (Individuals seldom receive any additional compensation at the same time that they are asked to assume significant responsibilities that put them directly in the "line of fiduciary fire".) One might say it's like being asked to constantly eat your peas without any hope of ever getting dessert.

Not surprisingly, several members in the audience answered: "We can't figure out why anyone would want to be a plan fiduciary."

Keep in mind that most people don't get a choice in their current position. If what they are tasked to do meets the functional definition of a fiduciary, bingo!

I'll be the first person to say that it's a good thing that people are willing to serve as fiduciaries. Assuming they are capable, knowledgeable and conflict-free, their service can make a world of difference.

Therein lies part of the problem. As I've described in other postings, pension work may not be a person's primary job and it becomes an issue of squeezing time out of an already hectic day to carry out fiduciary duties. Others may feel ill-equipped to tackle multi-million dollar decisions.

Perhaps the supply-demand dilemma for qualified fiduciaries accounts for what can only be described as a heightened interest in the notion of hiring an independent fiduciary. In his May 2006 paper on this topic, Mr. Samuel W. Halpern (former U.S. Department of Labor attorney and president of Independent Fiduciary Services, Inc.) describes some of the situations that lend themselves to hiring an independent fiduciary. These include:

"1. managing employer stock

2. tender offer

3. in-kind contribution

4. unpaid contributions

5. sale-leaseback

6. securities class action regarding employer stock

7. retiree medical plan

8. union sale to pension fund

9. merger of mutual funds

10. transaction between two investment vehicles sponsored by a single investment firm."

Echoing these sentiments about conflict and the need for independence, law professor Paul Secunda wrote that "it is not generally a good idea to represent a company or individual corporate officers in both their corporate and fiduciary capacities" and that non-lawyers should seek independent counsel for the ERISA plan and not "rely on existing corporate counsel to also represent them in their fiduciary capacity". (You may want to contact Professor Secunda for a copy of his paper entitled "Inherent Attorney Conflicts of Interest Under ERISA: Using the Model Rules of Professional Conduct to Discourage Joint Representation of Dual Role Fiduciaries".)

Is this the beginning of a new and better paradigm?

Do You Know the True Cost of Your Retirement Plan?

That a relationship between investment performance and fees exists is hardly news. Fees matter. However, it's not quite as simple as it may seem. Fees vary by amount, timing and form. A two percent fee, charged upfront, hurts more than a two percent fee that is levied on the back end. A no-load fund that charges higher annual expenses might cost an investor more than a fund with an upfront charge but lower annual expenses. For mutual funds and exchange-traded funds, the U.S. Securities and Exchange Commission provides a handy calculator with the qualifier that "the results should be compared for several funds or different classes of a single fund".

Importantly, lower may not necessarily mean better. Consider performance fees such as those charged by numerous hedge funds. If an investor understands and willingly acknowledges likely risks, a performance fee may be an acceptable price to pay for participating in returns that exceed a pre-specified benchmark.

However, good decision-making cannot take place in the dark. As described below and in a GAO report about mutual fund disclosure, transparency is not always easy to come by.

1. Database vendors typically provide returns on a gross basis because that is how they are reported by participating money managers. Evaluating a large number of funds requires manual adjustments to facilitate an "apples to apples" basis. This is time consuming to say the least and sometimes difficult to do.

2. Fees vary by type of fund, strategy and timing. Care must be exercised to take into account relevant factors.

3. Fees change over time. Past fees may not be a bellwether of future fees.

4. Reported performance may not reflect all elements of a portfolio as would be the case with side pockets or similar mechanisms. Refer to Barry Schachter's hedge fund blog for comments about side pockets.

5. Mutual fund expenses may not be reflected in published performance reports, forcing one to review the Statement of Additional Information.

6. Institutions and retail clients do not bear the same costs so fee analysis must incorporate any differences.

According to, New York Attorney General Eliot Spitzer announced plans to "examine how 401(k) investments are allocated and whether fund managers are exacting higher fees than participants believe they are paying".

What this portends is anyone's guess. Investigations have the potential to shed light on the important topic of investment fees. Of course, institutional investors should be asking lots of tough questions before they commit dollar one to any particular manager. In fact, it's their duty to behave prudently and proper inquiries, during the RFP process and in-person interviews, are a perfect time to dig deep.