Public pensions in New York State have some of the most reliable funding in the country, but what happens to the money once it is in the pension system can be less clear-cut.
Now, state financial regulators have subpoenaed about 20 companies that help New York’s pension trustees decide how to invest the billions of dollars under their control to determine whether any outside advice is clouded by undisclosed financial incentives or other conflicts of interest.
“The recent financial difficulties in Detroit serve as a stern wake-up call, demonstrating why strong oversight of New York’s public pension funds is so important,” Benjamin M. Lawsky, the New York financial services superintendent, said in letters sent last month to the trustees of the top state and city public plans.
Detroit’s municipal pension fund suffered severe losses on real estate investments, among other problems, and now that the city is bankrupt, investigators are trying to find out exactly what went wrong. In some cases, certain Detroit pension trustees were taken on junkets dressed up as investment site inspections. And in one instance, an investment promoter paid a bribe to win pension money for real estate projects in the Caribbean but then spent the money building an $8.5 million mansion in Georgia.
Mr. Lawsky said in his letter to New York’s pension trustees that he wanted to look at “controls to prevent conflicts of interest, as well as the use of consultants, advisory councils and other similar structures.” Together, the city and state trustees serve as stewards for $350 billion of retirement money.
Public workers and retirees are not the only ones with a stake in New York’s public pension system. If money is wasted, or invested in assets that lose money, the retirees still receive their checks, but local taxpayers must make up the losses.
Representatives of New York pension trustees said they were cooperating with Mr. Lawsky’s inquiry but already had extensive controls in place to make sure the retirement money in their care was invested properly. State Comptroller Thomas P. DiNapoli, the sole trustee of New York’s big state-run pension system, has called that system “one of the most transparent and accountable public pension funds in the country” in a statement on his website.
The latest subpoenas were sent last week to consultants that range from large firms like Wilshire Associates, Callan Associates, Towers Watson and Russell Investments to smaller firms that are not well known outside the world of institutional investing. Some of the firms advise public pension trustees in New York, but others do not. Mr. Lawsky apparently included both types in his investigation to learn more about bidding processes in general. Some of the subpoenaed firms had submitted unsuccessful bids and are now being asked for their records.
Mr. Lawsky’s subpoenas seek information like the consultants’ pitchbooks on various investment proposals, their compensation practices, their relationships with money managers and their methods of tracking investments that do not trade on public markets. One person briefed on the inquiry said the regulators appeared to be trying to learn whether any consultants were being paid by the firms they recommended, including in-kind payments or job offers.
Public pension funds typically have one or more general consultants who advise the trustees and senior staff members on developing an asset allocation policy, which assigns different shares of the total investment portfolio to stocks, bonds, real estate and other types of assets. In recent years, concerns have been raised that general consultants have been encouraging trustees to shift more pension money into aggressive investments in hopes of earning higher annual returns than can be achieved with stocks and bonds. That exposes taxpayers to greater risks because assets that promise the biggest potential rewards are also generally the most volatile.
In banking and insurance, which Mr. Lawsky also regulates, riskier assets are counted at less than their full value, and financial institutions can be downgraded or even forced to take corrective action if their portfolios are too volatile. Those principles have so far not been applied to public pensions, but Mr. Lawsky said in his October letter that he had “decided to take a new approach to pension fund oversight.”
“Where we find areas that need urgent and prompt corrective action, we may propose new regulations to increase accountability and transparency at those funds,” he wrote.
In addition to their general consultants, New York’s pension funds also work with specialized consultants who handle single asset classes. The state retirement system has separate consultants for private equity funds, hedge funds, real estate, fixed income, international stocks and domestic stocks. The more esoteric the investment class, the higher the fees these consultants are paid because nonstandard investments like hedge funds are generally harder to track and measure.
New York State’s private equity consultants received $2.1 million for their work last year, for example. Hedge fund consultants were paid about $1 million, while the consultants working with ordinary United States stocks received just $63,000, even though such securities represent a much larger share of the fund’s total portfolio.
Pension trustee duties are especially sensitive in New York, one of the few remaining states with a pooled system governed by a sole trustee instead of a board. New York’s immediate past sole trustee, Alan G. Hevesi, became the target of a wide-ranging pay-to-play investigation led by Andrew M. Cuomo, the attorney general at the time. Mr. Hevesi was eventually found, in effect, to have sold pension investment contracts to money managers, and served 20 months in a medium-security prison. He was released on parole last December.
That scandal generated calls to replace New York State’s sole trustee with a board, which were unsuccessful. Instead, Mr. Hevesi’s successor as sole trustee, Mr. DiNapoli, instituted a number of reforms and control measures intended to ensure that investments were chosen on the merits instead of secret payments.
Senior officials of the New York State pension fund said they had screened all of their consultants after the scandal and were satisfied that their bidding process was competitive and ethical. They said they did not think their investment consultants charged money managers to be included in their databases. Nor did they permit the pension system’s stock-trading business to be directed to any particular brokerage firms as part of an overall compensation package.
The New York officials said the state fund’s investment staff now reviewed all bids, whether for consulting work or investment contracts. They said a separate group of state employees reviewed the bidders’ proposals for how they wanted to be compensated. They said their outside consultants carried out the initial searches for investment managers, but the fund’s staff reviewed the finalists, doing background checks, site visits and other evaluations.
The offices of the New York State Teachers’ Retirement System and New York City Comptroller John C. Liu were closed for Election Day, and no one could be reached to comment on Mr. Lawsky’s investigation.