Thursday, June 12, 2014

A Well-Reasoned Response: NC Answers Benchmark

A Well-Reasoned Response:  NC Answers Benchmark

Kevin SigRist, North Carolina’s Chief Investment Officer, has written a detailed memorandum to the pensions’ Investment Advisory Committee that refutes the major allegations of a highly critical report commissioned the State Employees’ Association of North Carolina.[1]  I’ve written extensively about the weaknesses of Benchmark’s report, “North Carolina Pension’s Secretive Alternative Investment Gamble: A Sole Fiduciary’s Failed ‘Experiment’.”  Mr. SigRist’s response is vastly superior to Benchmark’s report.

While many of the inaccuracies were easy to refute, Mr. SigRist’s task wasn’t easy.  While completely ludicrous, Benchmark’s central contention that North Carolina maintains secret accounts is hard to disprove. You can’t supply evidence for something that doesn’t exist.   Nonetheless, it is important that Mr. SigRist addressed the matter because Edward Siedle, the report’s author, had invoked the Madoff scandal in making the claim.  While Benchmark’s report is so inaccurate that it doesn’t deserve a thoughtful response, Mr. SigRist had little choice given the media’s willingness to air Mr. Siedle’s claims.

Let’s begin on the lighter side of things.  It’s not very often that I find an appendix to be humorous.  However, Appendix B[2] of Mr. SigRist’s memo is mildly amusing.   As I’ve pointed out in a couple of previous posts, Benchmark’s charges against North Carolina are strikingly similar to claims made against Rhode Island.  Appendix B documents numerous instances where the North Carolina report uses language that is identical to the Rhode Island one.  I suppose Mr. Siedle cannot be accused of plagiarism because he copied from himself, but he should have at least acknowledged the aid he received from the copy and paste function of his word processing software.  If SEANC has been interested in a proper analysis of the North Carolina pension plans, they should be demanding a refund. 

I am particularly disappointed by the press coverage from Pension & Investments[3] because it gives Benchmark’s report far more credibility than it deserves.  The P&I headline reads, “North Carolina CIO fires back against forensic audit.”  Even a casual reader of Benchmark’s report would have to conclude that “forensic audit” is a gross mischaracterization.  A proper forensic audit would be a detailed analysis using statistical techniques and accounting principles to investigate potential improprieties.  While the Benchmark report is replete with ominous claims and referrals to regulatory and law enforcement agencies (refuted in detail by Mr. SigRist), it is devoid of requisite analysis.  Many pension plans face serious funding crises (North Carolina isn’t one of them), and many more are making large commitments to alternative investments.  We need a healthy debate on these topics.  However, the work commissioned by SEANC contributes virtually nothing of value.

I disagree with one aspect of Mr. SigRist’s analysis, which involves the submission of a new report to the General Assembly concerning management and placement agent fees.[4]  However, I understand Mr. SigRist’s motivation in attempting to refute every one of Mr. Siedle’s contentions.  In the Benchmark report, Mr. Siedle charges the State Treasurer with failing “to supplement the Gov Ops reports with the newly required information.”  In order to add drama to his finding, Mr. Siedle states that he turned over the violation to the State Auditor for further investigation.[5] 

While I think the Benchmark report is technically correct on this point, as I’ll explain shortly, this oversight isn’t a major violation or worthy of Auditor Wood’s time or attention.  The reporting requirement was added as an amendment to a bill increasing the State Treasurer’s investment authority.[6]  Here’s the relevant passage:

The quarterly report provided by the Treasurer pursuant to G.S. 147-68(d1) [known as the Gov Ops report] shall include a specific listing of all direct and indirect placement fees, asset fees, performance fees, and any other money management fees incurred by the State in the management of subdivisions (6c) [alternative investments or hedge funds] and (7) [real estate], sub-subdivision b. of subdivision (8) [equities], and subdivisions (9) [private equity] and (9a)  [inflation-related investments] of this subsection. (bracketed material added).[7]

Mr. SigRist asserts that the existing Gov Ops report wasn’t altered because “The Department has communicated to the General Assembly its willingness to alter the content and format of the reports and, to date, the Department has received no requests from General Assembly members or their staff to alter the Government Operations Report.”[8]  He goes on to say that fees paid to placement agents aren’t reportable because they aren’t incurred by the pension plans and the underlying fund-of-fund fees aren’t reportable because it isn’t industry convention to do so.

Here’s my problem with Mr. SigRist’s response.  First, the GovOps report isn’t an internal communication between the Treasurer’s Office and certain committees of the General Assembly. It is a public document.  Just because the General Assembly hasn’t made any specific requests doesn’t mean that the Gov Ops report shouldn’t include the additional information required by subparagraph (10a) of subsection (b) of section 147-69.2 of the N.C. General Statutes. 

Clearly, somebody in the General Assembly thought language was needed, because it was added before the bill was reported out of the House Finance Committee on July 18, 2013.  The additional quarterly reporting was intended to provide more public disclosure in exchange for greater investment authority.  Presumably the State Treasurer acceded to this additional language as well as other amendments in order to advance the bill.

Second, while Mr. SigRist is correct that placement agent fees aren’t incurred by the pension in most instances, and while I think it is largely a waste of time to collect the data from managers, the law clearly states that the GovOps report should include this information.  It makes no sense to mention placement agent fees and to talk about “direct and indirect fees” and then say there’s nothing to report.

Third, I don’t think “industry convention[9]” is a reason not to report the underlying fees on fund-of-funds.  By using the language “direct and indirect . . .asset fees, performance fees, and any other money management fees incurred by the State” the General Assembly was overriding industry convention.  Getting this kind of data from fund-of-fund managers may be a pain, but the law doesn’t say to provide the data if it isn’t too much trouble.  Moreover, I don’t think fund-of-fund managers can hide behind the “trade secrets” exemption to North Carolina’s public records law[10], because the General Assembly has said quite clearly that they want the data publicly reported.

While I disagree with Mr. SigRist’s interpretation, I don’t think the State Treasurer’s failure to make the requisite report is a massive failure of disclosure.  The pension plans’ returns are net of all fees incurred.  The State Treasure is already disclosing a great deal about the fees and exposures of the pension plans.  The staff of the Investment Division is already burdened by all the policies and procedures enacted by the State Treasurer and the massive public records request unleashed by SEANC.  Nonetheless, I think the reporting requirement is clear.

For whatever reason, SEANC is more interested in having a professional wrestling match with the State Treasurer than a proper discussion of any challenges facing the pension plan.  Fortunately, Treasurer Cowell and Mr. Sigrist are trying to manage the pension plan instead of engaging in theater. 

[4] Appendix A, page 4-5
[5] Benchmark Report, page 49
[6] SL 2013-398, Edition 2 of S. 558
[7] N.C.G.S. §147-69.2(b)(10a)
[8] Appendix A, page 4
[9] Appendix A, page 5
[10] NCGS §132-1.1

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