Public Pensions: Investing for the 22nd Century

Public pension trustees across the United States have fiduciary responsibility for trillions in aggregate retirement savings, with pension obligations stretching all the way into the next century.

How well they’re meeting those obligations varies from state to state and locality to locality. But New York State and New York City stand out for how well they’re living up to their responsibilities.

Antonio Rodriguez, CFA, CIPM, is the director of investment strategy for the New York City Board of Education Retirement System (BERS). BERs is multi-employer and multi-tiered and its members work for a number of different agencies, including the police and the Department of Education. Of all the New York City systems, it had the highest funding ratio as of the last fiscal year, with 82%.

To help facilitate the better sharing of insight and expertise among pension trustees, Rodriguez helped organize the upcoming 2018 Public Pension Trustees Fiduciary Conference in New York City on 2 and 3 October.

Paul Kovarsky, CFA, spoke with him about the challenges public pension trustees face in the United States and how they can better inform one another’s efforts. Below is a lightly edited transcript of their discussion.

CFA Institute: To start, let’s examine the role of public pension trustees and what obstacles they face overseeing investments for the long term.

Antonio Rodriguez, CFA, CIPM: At its core, the design of the pension retirement system never anticipated its tremendous complexity and size. Nobody foresaw the level of assets under management, and what that would require in the form of governance.

Public pension plans today have liabilities to pay pensions to their current members that will live into the 22nd century. This means that their trustees are overseeing investment not just for the long term, but rather for a very long term. Perpetual investing is the way some may label what is really involved.

Being able to think and have the space to think about investing for the long term is difficult to begin with. Time horizons for appointments to the public pension boards are comparatively short, creating potential for conflicting and contradictory incentives. That makes it rather difficult to think about investing for the long term.

Why did you and your colleagues organize the 2nd Annual Public Pension Trustees Fiduciary Conference?

The New York City pension system, with $190 billion across five pension funds, has both critical mass and diversity. Each fund has different member profiles, meaning different asset allocations and views on risks. Right here you have a ready‑made laboratory to have these type of discussions even before you start talking to other pension funds.

In addition, we didn’t have a mechanism for different New York City funds trustees to talk with each other. Before, we had five separate investment committee meetings — trustees really didn’t have an opportunity to cross pollinate ideas. Even with a combined investment committee that we have now, referencing before, we have very little time devoted to that.

Beyond the immediate ecosystem there are many other plans, such as Californian public pensions, that want to collaborate. With so many shared goals, there is definitely value in meeting other funds and having discussions with their trustees.

The roles of the trustees of these pension plans are a mystery to many. What’s involved in being a public pension trustee?

The main reason I think it’s a mystery is because the topic of the trustee’s role has, until recently, received very little attention. It is barely covered in the literature. Trustee’s scope is opaque to investment managers and other industry participants.

Fiduciary duty-bound public pension trustee are the decision makers and ultimate lines of authority for the investment process. Setting asset allocation, selecting investment managers, thinking about the returns and risks for all beneficiaries — these are all within the ambit of their responsibility.

The goal of the board of trustees is to stay high level and make decisions about long-term investment strategy, to discuss investment options and other issues relevant to investing money for the beneficiaries.

The truth is that short‑term things all bubble up. A substantial part of a trustee’s bandwidth is therefore taken up by the discussion of portfolio performance and manager selection. These divert attention away from the long‑term investing focus.

How do you distill the concept of fiduciary duty, which may be interpreted differently by each individual trustee, into a long-term investment strategy?

The ultimate role of the trustee is to fulfill their fiduciary duty to the current and future retirees. They must act in the sole interest of the beneficiaries of the trust. Fiduciary duty for a long time hasn’t had an expansive definition. Many just think of it as maximizing return for investors or maximizing return for a given level of risk.

Investment values and beliefs are the nexus where the fiduciary duty and the investment strategy come together. Values are a bridge to thinking about the interest of the beneficiary more holistically.

For example, take a belief that volatility of an asset class or a security is your definition of risk. Acting on this belief is going to influence your decision making and lead to certain strategy outcomes.

Ultimately, when you’re investing for a perpetual investor, the investment values come down to how best to assess the risk of your portfolio. The agreement around this is something that the investment committee can come together on.

A lot of folks utilize an investment belief processes as a way to crystallize, as a way to say, “This is what we believe,” and have that inform our investment policy and investment strategy.

How do these investment beliefs work in the investment committee setting?

It would be fair to say that this is not yet widespread. Investment belief’s best-known implementation is probably in California.

At last year’s conference of public pension trustees, many participants agreed that it is important to create such a belief framework. There was broad consensus on why the investment belief statement is important and the need to make it front-of-mind.

However, one shouldn’t underestimate how difficult it is to carve out that mental space, especially given those short‑term considerations that constantly get brought to the investment committee meetings.

Assuming monthly investment committee meetings, there are roughly 100 hours that trustees have in the room together. That’s does not sound like a lot of time to balance all the competing demands.

Typically, most of the time inside the investment committee room is spent with the selection of managers for particular mandates. You have a big boardroom, and folks come in, and whether it’s a private or public asset manager, they’ll talk through their deck. They’ll talk through their presentation, why a board of trustee should believe in them, why we should invest in them. After asking probing questions, the trustees have their discussions and ultimately vote on the manager.

Many large pension plans are constantly thinking about how we put money to work — that takes up a substantial majority of each meeting. The remainder is used for all the strategic discussions. Perhaps it should be the other way around. Research has repeatedly shown that asset allocation is the most important decision that a board of trustees can make. Given what I have just shared about how a typical investment committee time is spent, that’s not exactly true.

Only a minority of time spent for all the other strategic discussions, not just asset allocation but also rebalancing, investment policy statement, who is the world changing and should the fund adapt to that change? All these important questions should form a far bigger part of the trustee’s role.

Is that where clearly stated investment beliefs come in, becoming public pension trustees’ true North Star?

I agree a well-crafted investment belief statement can be analogous to a true North Star, something the committee comes back to as circumstances change.

Best practice is for investment beliefs to inform trustees decision making and all the other policy documents that come around it. Just the act of writing down the investment beliefs influences the way that trustees act. A robust approach can be further reinforced by later comparing the stated beliefs and actions actually taken.

Furthermore, investment beliefs provide a great tool for onboarding new members onto the board of trustees. It acts as Day 1 induction — allowing the collective to communicate what its approach is, and more importantly, why it believes what it believes.

Lastly, investment beliefs cannot be arrived at in isolation. Instead, they are anchored by a broader view of the fund’s role in the investment ecosystem, taking the benefits for our members into account.

How can industry professionals help the trustees?

Often, at least from the industry at large, the trustees get relatively few opportunities to come together on neutral ground. There certainly are organizations right now that do that, but many industry groups, for a variety of reasons, may have an appearance of conflicts.

The first thing that CFA Institute and its affiliate societies can do is to create spaces where folks who are entrusted with the role of pension fund trustee can gather. That will allow us to avail the collective knowledge of the industry groups that are thinking about this.

The work that CFA Institute is doing through initiatives like the Future of Finance aligns very nicely with some of the trustees’ concerns. It is something that is relevant across the spectrum, in all the boards, whether or not there the large funds like New York City, CalPERS, CalSTRS, New York Common, or the Florida State Board.

Ultimately, not only the trustees but everyone in the investment management profession should be focusing on the issues. Besides, these materials create a great basis for trustee discussions in those safe spaces under the CFA brand. The organization has a lot to offer to this vital industry segment.

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

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