Friday, November 17, 2017

Another cardinal sin: the North Carolina Treasurer shuts down the pension’s investment programs

Another cardinal sin: the North Carolina Treasurer shuts down the pension’s investment programs

For the past few months I haven’t paid much heed to the investment programs of the North Carolina Retirement System.  Today I went back to take a look at the pension’s returns after the November 2017 meeting of the Investment Advisory Committee.  Rising equity markets have produced positive returns for the pension.  Those returns don’t measure up to most public pension plans because the pension continues to utilize a more conservative asset allocation than its peers.  This is the result of the stewardship of Treasurers Boyles, Moore, and Cowell.  Unfortunately, the latest investment report shows that the current treasurer Dale Folwell is well on his way to damaging the investment programs of North Carolina’s pension plan.

First, the State Treasurer has failed to reverse the ill-advised market-timing tactic in which he sold $7.2 billion in equities in the first half of the year.  Since I last wrote on this subject, equities have risen another 5%, meaning that the Treasurer’s action has cost far more than the $250 million I’d originally estimated.    For those readers interested in the pitfalls of the Treasurer’s decision to sell equities and stockpile cash and bonds, you can find a series of posts I wrote in June.[1]   Treasurer Folwell’s goals were to reduce fees and remove poorly performing managers.  In the process the Treasurer committed the cardinal sin of investing by attempting to time the market. 

Second, the Treasurer has virtually shut down the State’s investment programs.  Since the beginning of the year, the pension has made no new commitments to any asset class other than a very recent $100 million commitment to a new internally managed index program.[2]  While I understand the need for the new treasurer to review the existing investment program, it’s been over a year since his election, and he has not approved one new investment in equity, private equity, real estate or fixed income. [3]  To put it succinctly, investment programs die when they stop investing.  If the Treasurer doesn’t reverse course soon, he’s going to permanently damage the investment program by losing investment opportunities, relationships, and staff.  While the pace of investing may ebb and flow, a seasoned institutional investor must remain active in the financial markets.
It’s hard for me to believe that a $96 billion pension plan couldn’t have benefitted from some type of new investment in the first eleven months of 2017.  In addition, it’s impossible that not one of the state’s existing managers had anything of value to offer the pension plan in 2017.  Finally, the investment staff, which has accumulated a great deal of knowledge and expertise over the years must be in the process of questioning whether it makes any sense to work for a program that doesn’t make investments.  In fact, the pension plan has already lost its Chief Investment Officer and director of real estate.   I suspect other positions are vacant as well, although there’s no way of telling from the publicly available documents.

As I’ve said previously, the Treasurer has some reasonable ideas about reform.  However, his actions in timing the market and shutting down the investment programs have done more damage in one year than his reforms can do good in a decade.

[1] See, “A case study on the weakness of the sole fiduciary model,” 7/19/17; “Lowering management fees is a laudable goal, but it has to be done prudently,” 7/18/17; “The danger of market timing: North Carolina’s Treasurer raises cash,” 7/17/17; and, “North Carolina’s pension cuts fees and hurts its prospects, ”7/14/17.

[2] The pension plan has been looking at managing some of its passive (or index) exposure for years.  Apparently all the pieces are finally in place to allow staff to begin to manage a small portion of these funds.  As I recall, this idea was first proposed under Treasurer Moore and put into legislation by Treasurer Cowell.  The idea is to save a few basis points in fees and give the staff greater hands on exposure to the market.  I’ve opposed this proposal because I believe there’s long-term risk involved in bringing index investments in-house.