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November 11, 2015

hedge funds: is there a curtain that someone is behind?

Boring awesome stuff!

NYT's Gretchen Morgenson took another whack at hedge funds and their relationships with public pensions over the weekend, and there's some good stuff in there worth repeating, as well as a noteworthy elision. The premise of the piece is that, even though the country's leading public pension investment fund, Calpers, has elected to divest from hedge funds on account of them being a bit sneaky about fee structures and generally an investment vehicle with performance analogous to that of the stock market (thus obviating the hedge aspect, i.e. performing well when stock market performs poorly, etc.) other public unions are not following Calpers's lead. Which deserves some exclamation points and some question marks.

The state of Utah has one of the funds reluctant to rein in hedge funds:

Some data is emerging, though, that raises serious doubts about the benefit of hedge funds for big investors with a long-term perspective. Utah, for example, increased its holdings in hedge funds and private equity in recent years. By 2013, those allocations at the Utah Retirement Systems had reached 40 percent of assets under management, up from 16 percent in 2005.

Have its hedge funds helped the Utah pension's investment performance? A May 2015 report to the Utah Legislature suggests not. Prepared by the Office of the Legislative Auditor General, the report concluded that if the state's retirement system had maintained its 2004 allocation with fewer alternative assets and no hedge funds, the pension fund would have gained $1.35 billion in additional assets by 2013.

Now, I know a billion and a third sounds like chicken feed to you and me, but to the roughly 200,000 members of Utah Retirement Systems (active, retired and terminated), 4% of total assets, which would have been a pretty nice return had the system not been so loaded in alternative assets, which those fat/undisclosed fees to hedge fund managers.

But there had to have been some rationalization for public pension investment funds to have started to dance with hedge funds in the first place? Maybe something related to the return on investment overseen by hedge funds? In answer to that, the piece looks at a United Federation of Teachers report (.pdf) on the performance of hedge funds utilized by the larger pension funds in America, looking at a total of 88 fiscal years:

In slightly more than one-quarter of the years analyzed, the hedge funds outperformed a same-size total fund's returns, but that failed to make up for lower returns in other years. This lackluster performance translated to $8 billion in lost investment revenue at these funds, the report said.

Hedge fund managers, meanwhile, collected an estimated $7.1 billion in fees from the pensions, it said. That averages out to 57 cents of every dollar in net returns earned by the funds.

So, big picture: regardless of the performance of hedge funds, the opaque fee structure sucks a little more than have of the potential gain from clients. Which would seem to be a pretty dear price to pay, were you someone whose post-retirement future was tied up in one of these funds.

But the noteworthy omission in this little survey of how this specific financial services sausage is made is not the What but the Why. So even with Calpers leading the way and the supporting research and reports that hedge funds might not be the smartest place for retiree investment funds (well, for anyone other than for hedge fund managers), why is it that none of the other funds are falling in line? Could it maybe be that the managers and other representatives of the hedge funds are somehow incentivizing the people whose job it is to decide whom to trust with investing state pension funds to select hedge funds despite any apparent downside?

Of course, the slang for this process is "kickbacks," which range from dinner, drink and a show (considered OK and even a legit business expense) to paper sacks of small bills with nonconsecutive serial numbers (against regulation and criminal law). And I don't bring this up because I have an active imagination, but rather because it's not very hard to find recent examples of the shadier sort of such incentivization as it impacts investments in hedge funds. Hell, it was only five years ago that the Comptroller of the State of New York plead out on charges that he had directed investment by NY State's $125mm pension fund in exchange for a cool million bucks in travel and fees. It is not a possibility of great novelty.

The absence of another plausible explanation, evidential or anecdotal, for such heedless reliance on hedge funds suggests that closer scrutiny is warranted. Naturally, incompetence is another plausible explanation, but no one has ever let their incompetence get in the way of a little greed. But there are a whole bunch of otherwise voiceless public employees who should be taking up the issue with their plan administrators and local regulatory/law authorities.

Posted by mrbrent at 12:10 PM

gop debate

So I took a little time and tried to make it through as much of last night's debates as I could. Actually I had intended to watch at least all of the big kid's debate, but I just could not. I know that at a certain point in time, there is nothing I would have enjoyed more than watching the prelims, just for the sport of it, and then once we had social media so that we were MST3King it to each other on a potentially global platform, well, it was hard to beat that.

I didn't make it! At a certain point the glee of being snarky and Getting Off a Good One was subsumed with a bleak, bleak pessimism, not just at the caricatures that call themselves candidates or the utter untethered-ness of both the candidates and the moderators, but at the entirety of the thing. The reliance of blind references to exceptionalism, the barely-concealed contempt for the poor and the aged, the cynical attribution of the sins of planks of the GOP platform to the administration of power. Hell, even the fundamental misunderstanding of What Presidents Do, I'll throw that in as well (although that may be a failing of all candidates on all sides, dealing with the realities of political campaigns for an electorate about as smart and sophisticated as a bag of hammers).

Sure there were some misstatements! Some friction! Some inability to actually recite words that were memorized! Hoo boy! Remember how such things marginalized Sarah Palin into obscurity forever? Oh right. But this morning I did realize that I have an actual serious question, the answer to which I do not have a grasp on, and maybe some smart people will take this up in a considered dialogue.

Serious question: assuming that there is a certain amount of artifice to running for office, and that it has ever been thus, and that this artifice has always been a bit of a self-conscious endeavor (inasmuch as, say, a candidate knows that one must give lip service to being "tough on crime" while at the same time being entirely aware that the topic like all topics can no more be distilled into three words than one can have a war on a noun), are the current surviving crop of GOP candidates engaging in the normal amount (i.e., a lot) of self-consciousness with regard to the artifice, or are they actually somehow believing in full earnestness what they are saying? For example: that a no-fly zone imposed on everyone up to and including the Russians would be if not a 100-years-later reiteration of the assassination of Archduke Ferdinand at least a train-wreck of historic proportions? That the elimination of payroll tax will accomplish anything other than the drastic and sudden defunding of social security? That the capital requirements of Dodd-Frank are not keeping banks from being too big too fail because they are prohibiting banks from being too big too fail?

Because, and I have repeatedly committed the sin of naivety, it struck me for the first time that this might be the case.

(And of course if you need some old-timey woodshed recapping of last night's very boring events, there is no source better than Jeb Lund for Rolling Stone.)

Posted by mrbrent at 10:10 AM