Reasons to Worry?
Potential conflicts and a growing interest in hedge funds have some eyeing Louisiana’s public retirement systems with renewed skepticism.
By JEREMY ALFORD
To guard against conflicts of interest and scam operators, not to mention the negative impact they can have on public investments, Louisiana’s retirement systems require their consultants and money mangers to file “full disclosure” reports. When the requirement was created by the Legislature in 2004, the law was regarded nationwide as a gold standard. Today, however, it’s being postured by some as a system with only a few checks and no balance.
That’s the skinny offered up by Edward Siedle, a Florida attorney who formerly served in the SEC’s Division of Investment Management and as compliance director for Putnam Investments. “There’s no teeth to it,” Siedle said in an interview last week. “They just need to enforce it.”
If you can lay eyes on Siedle, you might recognize him from CNN, Fox Business or CNBC. He has a bell-ringing name, too, thanks in large part to his financial watchdog contributions at Forbes.com. He provided testimony to the Louisiana Legislature when it created the conflicts-of-interest law eight years ago, an experience he has been reflecting on as of late.
Part of that has involved the review of financial statements of Louisiana’s public pension funds from the past few years, both on the local and state level. Land deals and direct loans — some backed by life insurance policies and others with no interest whatsoever — have caught his attention. “There’s a ton more bad investments out there,” he said, adding that the disclosure law, at least in theory, should be ferreting out more than a few of them.
The problem, as he sees it, is that consultants and money mangers are indeed filing their conflict-of-interest forms, but the retirement systems aren’t fact-checking, investigating further or heeding proverbial red flags.
As for a working example, a grotesque illustration is playing out right now in the Grand Court of the Cayman Islands. That’s where the Firefighters’ Retirement System; the Municipal Employees’ Retirement System; and the New Orleans Firefighters’ Pension and Relief Fund are fighting to get back more than $100 million its trustees previously gave to a New York hedge fund manager.
Fletcher Asset Management promised trustees a too-good-to-be-true 12 percent return, with any difference to be bankrolled by an anonymous backer. If that alone isn’t enough to bring decision-making into question, the trustees for each system likewise hired Consulting Services Group of Tennessee to advise on their respective deals. Had they simply leafed through a few public documents, Siedle said they would have been alerted that the firm had an “obvious checkered disciplinary record.”
That leaves us to assume that the trustees either knew about the firm’s past and simply didn’t care, or that they didn’t do due diligence in the first place. But no matter how you slice it, the Fletcher deal goes down in the books as a clear failure of Louisiana’s disclosure law — the one that was put into place in 2004 to filter out questionable consultants and managers.
Moreover, the fact that public retirement systems are meddling in hedge funds is alarming to some. Generally, hedge funds involve higher fees for an investment portfolio intended to have low risk and big returns. And according to a Deutsche Bank prime brokerage report intended for hedge fund clients and obtained by CNBC last year, trustees often turn to hedge funds “in a desperate attempt to bridge the funding gap in their plans.”
At a time when Louisiana’s unfunded accrued liability — the deficit between what the pension systems have on hand to pay future benefits versus what they’ve promised — is inching slowing toward $20 billion, it must have an appeal. Why else would the Teachers’ Retirement System be preparing to hire its very first hedge fund consultant after 76 years in existence?
Lisa Honoré, public information director for TRSL, said a planning and study process held last year suggested that the system could benefit from allocating 2 percent of its investment capital to hedge funds. Additionally, to make sure the system has the expertise required to be successful in such an endeavor, it was also recommended that a hedge fund consultant be hired.
During a meeting earlier this month, a subcommittee of TRSL trustees narrowed down the field to three perspective consultants. They are:
— Albourne America, whose clients account for an eighth of the world’s hedge funds. It’s battling to become the first hedge fund consultant for California’s Kern County Employees’ Retirement Association, too, and was once tied up in litigation that accused it of receiving proprietary information.
— Hewitt EnnisKnupp, whose credibility was brought into question after a merger in 2010 created new cross-sell opportunities. Siedle, for one, has said that its conflicts of interest put its clients at “high risk.”
— NEPC, which was linked to the Madoff hedge fund scandal three years ago after a Connecticut pension system for municipal workers accused it of not pushing hard enough to pull them out of the financial fiasco. NEPC has also been assisting the Louisiana State Employees’ Retirement System in establishing a fund of hedge funds program. According to the SEC, a fund of hedge funds is an “investment company that invests in hedge funds, rather than investing in individual securities.”
The Solicitation for Proposals for the hedge fund consultant job issued by TRSL states that the firms only have to file the “full disclosure” forms, as required by the 2004 law, if they are “selected.” The subcommittee overseeing the process, though, does inquire about conflicts of interest in a questionnaire that all applicants must submit. Whether they both serve the same purpose is another question altogether.
The new hedge fund consultant is scheduled to be selected by the subcommittee during the first full week of June. At that time, Honoré said the consultants will also make pitches in regard to the fees they would be paid. Presumably, the subcommittee narrowed down the list to three without knowing how much money the consultant candidates wanted in return for their services.
Jay Eisenhofer, the managing director of leading investor rights law in the Delaware firm of Grant & Eisenhofer, recently opined that it is “increasingly clear there is a serious ethics lapse hitting a portion of the hedge fund sector.” He cited two years worth of data revealing nearly 60 convictions or guilty pleas by hedge fund executives and consultants.
“Pension fund and other fiduciary investors need to become more activist regarding their hedge fund holdings,” Eisenhofer said. “They should add their voice to those calling for greater transparency among managers, refusing to accept one-sided provisions that restrict their limited partners. And they should call on lawmakers to provide a legal regime that protects minority investors who are, in fact, fiduciaries for the American majority.”
There’s little doubt that most of Louisiana’s public pension trustee have nothing but the best intentions. One could even be a touch pollyanna and hope that Louisiana’s continued gambles in the hedge fund industry turn out for the best.
But, as Siedle and others caution, recent pension controversies, a sluggish economy and a state disclosure law with no teeth should serve as warnings to all trustees that scrutiny, skepticism and care are badly needed right now, possibly more than ever.