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New York’s Luxury Pension System

eye on the news

New York’s Luxury Pension System

The Republican comptroller candidate has some important—if arcane—ideas. November 5, 2018
New York
Economy, finance, and budgets

The office of New York State comptroller is hardly exciting. The last time it made front-page news was 2006, when Alan Hevesi resigned the post and went to prison for public corruption. This year’s race, between Tom DiNapoli, Hevesi’s successor and the two-term incumbent, and Jonathan Trichter, has garnered scant public interest, and the single hour-long debate held between the candidates last week on NY1 did little to change that. It’s a shame, because the state comptroller is one of the most important elected officials in the state, and Trichter has some fresh ideas about how to manage the public’s money.

The state comptroller has many tasks, from auditing government agencies to serving as New York’s accountant. The officeholder’s most important job, however, is to serve as sole trustee of the New York State and Local Retirement System. The system’s pension fund is responsible for guaranteed payments to 1.1 million people, made up of 652,000 active state and local workers and 471,000 retirees. The comptroller, advised by staffers and outside professionals, decides exactly how to invest the fund’s $207 billion so that it can pay out nearly $12 billion in benefits each year. The fund is seeded by contributions by state and local government, as well as by workers; taxpayers, not retirees, must make up any shortfalls in investment decisions.

Despite the financial complexities of this job, and the fact that New York is home to Wall Street, no comptroller in living memory has had a background in finance. DiNapoli, a genial man who seems to have served the state with integrity, is a good example. Before taking over as comptroller 11 years ago, he was in the state assembly; his last private-sector job was more than three decades ago, as a telecommunications manager. DiNapoli is intelligent and competent, but necessarily depends on financial professionals for advice—and they are not always on the side of their client, the state.

Trichter, DiNapoli’s challenger, is different. A self-described “lifelong Democrat” who switched parties to run for this office, he has spent a career in high finance. He’s done major underwriting and restructuring work. As he said at the debate, “I’ve helped restructure some of the most troubled pension funds in the country,” including Jacksonville, Florida’s, once-insolvent fund.

As a financier, Trichter, importantly, is not intimidated by other financiers, and has a healthy skepticism of them. He has been applying that skepticism to DiNapoli’s stewardship of the public-pension fund. Specifically, he thinks that New York is paying excessively high fees to financial managers for weak returns. Calling DiNapoli the “$6 billion man,” Trichter notes that the comptroller has paid that amount, over his tenure, to hedge funds, private-equity funds, and other “alternative funds,” including $818 million in 2017—and not for the stellar performance that such high-end investments are supposed to provide. Rather, Trichter notes, the nearly $35 billion in alternative investments, including nearly $8 billion in hedge funds, have underperformed, earning just 5.4 percent annually over DiNapoli’s tenure, “while a passive investment in the S&P 500” would have earned 7.46 percent. “That represents $7.8 billion” lost, he notes, in addition to the fees.

Alternative investments do not consistently offer a high return commensurate with their high fees; nor do such funds consistently offer a “hedge” against market downturns. Moreover, as Trichter pointed out at the debate, investments in private markets are opaque and often hard to evaluate and liquidate. “He’s chasing risk and he doesn’t know what he’s doing,” Trichter said at the debate. “The risky investments are actually the opaque hedge funds and derivative instruments . . . in terms of being a hedge, nonsense.” One telling exchange pointed up the contrast between the two candidates. In a dispute over whether 11 percent is the same as 11.64 percent, DiNapoli dismissed the issue, saying it’s just “decimal points.” But in a $207 billion fund, decimal points matter—in fact, a large part of the financial industry generates huge profits from the decimal points dismissed by people who aren’t paying attention to them.

Trichter wants to invest the fund’s “alternative” portfolio in far cheaper global and national stock indices. The rationale is simple: under the right government policies, the world’s big economies should grow, and that growth should translate into market gains. If a hedge is necessary, Trichter would “buy out-of-the-money puts”—essentially, cheap bets that a booming stock market will fall, “as opposed to actually investing in hedge funds.” But it’s not clear why a well-funded pension entity with an indefinite time frame even needs a hedge; a well-managed fund should be able to withstand even sharp short-term market drops. The irony is that DiNapoli doesn’t entirely disagree with him. “We haven’t made a hedge-fund investment in three years,” he said at the debate, characterizing the sector as a “shrinking part of our portfolio.” Which begs the question: why did the pension fund make and maintain such investments at all under his watch?

Without the promise that “alternative investments” will result in magical returns, earning 7 percent a year, well above an ostensibly low-risk investment in Treasury bonds, state officials would have to think realistically about future obligations and current budgets. Indeed, DiNapoli hinted that the state fund may lower its expected rate of return “once again,” acknowledging that it is challenging to meet the obligation of paying retirees without taking undue risks. Wealthy private-sector investors can seek double-digit returns or immunity from volatile markets, but, like yachts and fine wines, these luxuries aren’t meant for the public sector. Most voters have enough trouble managing their own retirement accounts as they struggle to balance risk-and-reward ratios and filter out investment-industry false promises; they shouldn’t need to worry about whether the state is in the same predicament.

Photo by Spencer Platt/Getty Images

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