The California Public Employees’ Retirement System (CalPERS) spent nearly $50M on their investment advisors in 2014, despite producing a dismal 2.4% investment return – 67% lower than what the market returned over the same time, as measured by the S&P 500. CalPERS’ 275 investment officers and portfolio managers cost taxpayers $49.27 million, with chief investment officer Theodore H Eliopoulos’ $856,000 compensation package topping the list.

The California State Teachers’ Retirement System (CalSTRS) also missed its 7.5% target, returning only 4.8%, but spent significantly less on their investment advisors in the process. CalSTRS spent roughly $18 million on their 100-plus investment officers and portfolio managers. Their chief investment officer, Christopher J Ailman, received a $674,000 compensation package.

To put these returns in perspective, an index fund that tracks the Dow Jones Industrial Average (DJIA) returned 7.1% and the S&P 500 fund returned 7.4%.

calstpres

After adjusting the total cost spent on investment advisors against actual investment results, CalPERS’ performance looks even bleaker. CalSTRS spent roughly $3.75 million per percentage point of returns on investment advisors, whereas CalPERS spent nearly six times as much at over $20 million per point. These costs are only for employees of their respective retirement system and do not include the billions of dollars spent on fees for external funds and the unknown carried interest fees associated with CalPERS’ private equity investments.strsvspers

One of the added benefits of utilizing the appropriate, lower discount rate in the 4-5% range is that public pension funds would be able to save billions of dollars on fees. For example, the New York Times reported that CalPERS paid $1.6 billion in fees to external funds managing their global equity portfolio in 2014. By contrast, the comparable fees for investing in the S&P 500 index ETF would have been $154 million, for a savings of nearly $1.5 billion.

Naturally, given the size and current investment objectives of both CalPERS and CalSTRS, investing in a single index fund is implausible. Yet, it does illustrate the degree of savings that would come from using a risk-free discount rate in which long-term AA-rated bonds and a basket of index funds were used in lieu of an aggressive investment strategy and the fees that accompany it.

The argument against such a conservative strategy is that it would reduce the potential for investment gains that a more aggressive strategy would provide. Yet, neither CalPERS nor CalSTRS has been able to beat the market over the past 20 years, despite spending millions of dollars each year on investment advisors, at taxpayer expense.

While both CalPERS and CalSTRS tout their 7.8% returns over the past 20 years as being indicative of their investing prowess, this is significantly less than the 9% achieved via an index fund that tracks the S&P 500. As such, it is hard to justify the millions spent on investment advisors internally, not to mention the billions spent on investment fees externally.

Many defenders of the status quo attempt to impugn the motives of those advocating for pension reform as being de facto lobbyists for big bankers and investment managers on Wall Street, claiming that a shift to defined contribution plans would line the pockets of fund managers on Wall Street. In reality, California’s public pension systems consistently send billions of dollars each and every year in fees to Wall Street.

A shift to a defined contribution plan would give individuals greater access over their own accounts and dramatically reduce the fees being paid to Wall Street, as individual investors are free to choose low-cost mutual funds or exchange-traded funds (ETFs) that have dramatically lower fee structures than what CalPERS and CalSTRS pay, yet have outperformed both pension funds over the past 20 years.

Robert Fellner is the Director of Transparency Research at the California Policy Center.

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16 Responses to CalPERS Spends $50 Million on Investment Advisors, Underperforms Market by 67%

  1. Funny how you didn’t write a story last year when the CalPERS return was 18.4 percent, or nearly 3x its 7.5% historical rate of return. Both CalSTRS and CalPERS are above their 3, 5 and 20 year averages.

    • Robert Fellner says:

      Thank you for your comment.

      CalPERS has underperformed the market regardless of whether you choose to use a 3, 5, 10, 20 year average.

      Their 3 and 5 year returns of 10% are against market returns of 17%.

      Their 20 year return of 7.76% is not above their target. They used an 8.25% target for the first 7 years, a 7.775% target the next 8, and switched to a 7.5% in 2011.

      A simple blended-average of that period would be a 7.8725% annual return. A CAGR return is not worth my time for this comment, but in no sense can their 20 year return be considered above the blended target rate used during those twenty years.

      Their 20 year return of 7.76% is also well below the 9% return of the S&P 500, which was the point of this article.

      • S Moderation Douglas says:

        “Their 20 year return of 7.76% is also well below the 9% return of the S&P 500, which was the point of this article.”

        Apples/oranges

        Might be a valid comparison if all of CalPERS asset allocation were in equities. But, we don’t really want that, even if it were legal.

        • Robert Fellner says:

          So you think the alternative private equity firms CalPERS invests in sell that their billions in fees is a good deal because they will do worse than the market?

          That’s an interesting business model.

          • S Moderation Douglas says:

            No, Robert.

            Much of CalPERS assets are in bonds and liquid assets, real estate, etc., which are not expected to grow as fast as S&P 500.

            Just compare that portion of CalPERS earnings that are actually in the stock market.

            Only a little over half is in stocks. The rest of the fund isn’t meant to grow as fast.

            We don’t want all our eggs in one basket.

          • Robert Fellner says:

            “Just compare that portion of CalPERS earnings that are actually in the stock market.”

            Their equities returned 1.0% last year, against the S&P 500’s 7.4%.

            That is a terrible number to use for my point, however. I used their higher 2.4% total return because I am not doing a comparison of who is better at picking stocks.

            The point of my article is whether the money spent on CalPERS PORTFOLIO managers are worth it.

            It would make no sense for me to make that argument, and omit some of the strategies they employ that makes them more expensive than a baseline – private equity, real estate, hedge funds, etc – in that comparison.

            Quite literally, that’s a large part of what CalPERS is paying billions in fees for!

      • S Moderation Douglas says:

        This is the unequal comparison I was referring to. Only about half of CalPERS assets were in stocks. It wouldn’t be expected to return 9% over 20 years

        “Their 20 year return of 7.76% is also well below the 9% return of the S&P 500, which was the point of this article.”

        • Robert Fellner says:

          65% is in equity. I know that is “about half” in your world.

          I don’t think I’ve ever seen a CalPERS-defender before claim that CalPERS intends to underperform the market.

          If that is their intention then they can do so much more cheaply, as was the point of my article.

    • Steven Maviglio Spin Miester! says:

      Steven, funny how you failed to post how much CalPERS lost in 2008 when it was down 28% PLUS the 7.75% discounted rate, for a grand total of 36%…and while you’re at it why not post how much you get paid to post your one sided, biased, bought and paid for comments.

  2. Robert says:

    Robert, why would you use the S&P or the market as a benchmark? They don’t invest purely in equities…no one would use a comprehensive equity benchmark if they only invest 50% or so in equities

    • Robert Fellner says:

      For example, the New York Times reported that CalPERS paid $1.6 billion in fees to external funds managing their global equity portfolio in 2014. By contrast, the comparable fees for investing in the S&P 500 index ETF would have been $154 million, for a savings of nearly $1.5 billion.

    • Robert Fellner says:

      They underperform their own benchmark by 90 basis points over the past 10 years, but that is not the point.

      My point is not that they are worse than a passive index, which according to their own calculations, they are.

      My point is whether their investment portfolio as a whole is performing to an extent that justifies the fees.

      If their performance can be replicated, or beaten, by buying passive index equity funds and AA+ bonds, it is hard to justify the millions spent on investment advisors internally, not to mention the billions spent on investment fees externally.

    • Robert Fellner says:

      I do not use the word “benchmark” in my post.

      There is a difference between a benchmark and an alternative investment.

      I run a hedge fund where we exclusively trade Swahilii bonds. I charge a 10% fee.

      My performance is consistently half that of the S%P 500. You should still invest though, because I outperformed a comparable benchmark by 1 basis point, right?

  3. Robert Fellner says:

    Douglas:

    “Only a little over half is in stocks. The rest of the fund isn’t meant to grow as fast.”

    65% is in equities. 15% of that is in private equities which are supposed to significantly outperform the market, hence their billion dollar fees.

    The 9% in real estate, according to CalPERS own benchmark, was supposed to grow faster than their equities at 9.1% over 10 year. Which was also a higher rate of growth than the 7.79% the S&P 500 returned.

    Bonds were 17% and their benchmark grew just under 1% less than equities.

    8% of the portfolio is in cash and inflation-securities, which are not expected to grow as fast as equities. This is not “much” of their assets, as you falsely claim.

  4. Equal Time says:

    Comparing the return of a diversified investment pool, whether it is a pension fund or a mutual fund, to the overall market performance is an apples to oranges comparison. An obvious and shallow attempt to spin pension investments as poor performers. The valid comparison is to weigh actual performance over time in relation to the established performance goal. Diversification is intentional to try and reduce the exposure to market volatility. It works both ways if executed properly, outperforming the market when the market is down but under-performing it when the market is up. Thus the long term performance compared to the performance goal is the only fair measure of investment strategy effectiveness. If volatility is not a concern, then investing in S & P 500 Spyders or Dow Diamonds would be a good low cost strategy, but all eggs would be in one basket and it would be a volatile ride (such as is currently happening with the NYSE right now).

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