How hard would it be to steal millions from CalPERS, the nation’s largest public pension with $320 billion in assets? Easy-peasy.
Yesterday the Wall Street Journal reported a disturbing fact—a fact well known to pension insiders for years. That is, officials at CalPERS do not know the full extent of the fees the pension’s private equity managers take out of the pension.
At a 2015 meeting, the chief operating investment officer openly acknowledged that no one knew the performance fees paid.
Let’s clarify what’s going on here. Presumably the mega-pension knows, or can readily establish, all the fees—asset-based and performance—it pays its money managers pursuant to fee invoices. (A breakdown of other operational fees—which can be significant—can either be gleaned from investment fund financial statements or specifically requested from managers.)
What CalPERS doesn’t know is the performance and other fees its managers take directly from the funds they manage for CalPERS without asking, disclosing or invoicing.
At the same 2015 meeting, the chief operating investment officer admitted, “We can’t track it today.”
CalPERS claims to have turned to "big data" computer models—algorithms—to understand private equity costs. Supposedly, a software program developed by outside firms determined at the end of 2015 that the pension paid $3.4 billion in performance fees over the past quarter-century to private-equity firms. In 2016, that number was said to be $490 million. Don’t believe these figures for a second.
For those who are impressed by opaque algorithms no one understands and that lack effective feedback loops to highlight deficiencies and errors, I suggest reading Cathy O’Neil’s new book, Weapons of Math Destruction.
As an expert in ferreting-out hidden, excessive and illegal investment fees, I would never recommend any pension fiduciary (and certainly not a fiduciary overseeing hundreds of billions in government workers retirement savings) rely upon an ill-defined computer model to catch criminals.
So, to re-cap the problem facing CalPERS: Private equity managers are taking billions from the pension but the pension has no idea how much. How comforting is that to pension stakeholders? You'd think that California’s largest state employee union, SEIU Local 1000 and AFSCME would be concerned about protecting the retirement assets of their members that are participants in the state pension.
Of course, if CalPERS doesn’t know how much money these private equity managers are taking out of the pension, it cannot possibly know whether the amounts taken are legitimate or wrongful—i.e., theft.
In my opinion (and based upon my experience conducting over $1 trillion of pension investigations), it is almost certain some CalPERS private equity managers are, shall we say, misappropriating assets from the retirement system. Recent SEC staff findings confirm my views.
In 2014, SEC staff found that more than half of about 400 private-equity firms it examined had charged unjustified fees and expenses without notifying investors. To be sure, CalPERS conceivably could have adroitly avoided the hoards of private equity wrongdoers but, based upon my knowledge of longstanding CalPERS due diligence lapses and monitoring weaknesses, don’t count on it. As I wrote in 2011, CalPERS involvement in an investment scheme is no assurance of integrity, or a "Good Housekeeping Seal of Approval."
CalPERS board member JJ Jelincic, who raised the issue of undisclosed fees in the 2015 board meeting mentioned earlier agrees. “We don’t know what fees our private equity managers are taking out of the pension and so we can’t possibly know whether all the fees are legitimate. When I’ve raised the issue, I’ve been told the managers are our “partners” in the funds and we should just trust them.”
I posed the following question to CalPERS today in an email: If CalPERS does not know precisely how much money private equity managers are receiving related to fund assets, how can stakeholders be assured that these managers are not wrongfully taking from the pension?
In response CalPERS said, "Our Private Equity fees are fully disclosed in our Comprehensive Annual Financial Report and in the Private Equity Annual Program Review." In my experience dealing with CalPERS, the board regularly claims certainty as to matters which it barely grasps.
How long has CalPERS known about potential theft by its managers? At least four years.
On March 22, 2013, I sent a letter to the CalPERS board reciting my credentials (for those board members who did not already know me) and emphatically stating, “It is apparent to me, even from a distance that the fund continues to lack many of the safeguards I would recommend to improve management and performance.” I received no response to the letter.
A few months later, on May 13, 2013, I sent a second letter to board member Jelencic, as requested, providing further detail regarding issues which in my expert opinion should be investigated fully by the pension. Included in these issues were specifically “undisclosed fees related to investment providers/vendors,” and “private equity and hedge fund conflicts of interest, fee abuses and malfeasance.”
I am told that when Mr. Jelencic brought my second letter to the attention of the board at a closed meeting, the Board President responded, “How is this letter different from any of the thousands of others we receive? The suggestion to meet with me was rejected, I am told by Jelencic. CalPERS today stated, "We cannot comment on issues that are discussed in closed session." (Please see update at the bottom of this article.)
If it’s true that the CalPERS board regularly receives thousands of letters from forensic experts and other credible whistleblowers alleging potential wrongdoing regarding pension investments—allegations of wrongdoing which the board routinely ignores—that’s really scary. Unions protecting government workers should be alarmed that such warnings go unheeded and demand to see all such correspondence.
My advice to would-be criminals: If you want to steal millions, escape detection and prosecution, then set your sights on the mother of all pension honey-pots, CalPERS.
Author's Update: While CalPERS initially declined to comment on a conversation that took place in a closed session, following publication of this article, CalPERS Chief of Public Affairs Wayne Davis wrote in an email that the full quote from the Board President should have been: “How is this letter different from any of the thousands of others we receive offering services?” (As my Forbes full bio makes clear, I do conduct forensic investigations of pensions through my firm, Benchmark Financial Services, Inc. In this case, I was asked to send the letter to the board by a concerned member of the board.)
