You are clearly right that asset management & fees are a tiny part of most pension fund problems. Funding issues are due to mismatches between contributions & benefits.
Still an awful lot of money in these funds does go to money management, mostly for “alternatives” (generally defined: hedge funds, private equity,etc) and so it is natural that it will get a lot of attention. Are funds getting their money’s worth? Is their complexity a source of problems? Are the fees an invitation to corruption? All good questions, but it seems like the studies looking at them end up showing that on the whole, it’s “all a wash.” That's pretty anticlimactic! If all those fees and costs are resulting in a “wash”, isn’t the only conclusion that in general the alts are indeed generating excess profits, but those profits end up mostly going to the managers?
Admittedly, if it really is all a wash one could argue that this is justification for getting rid of the alts. But shouldn’t these analysts be looking at which funds benefit from alts and which are losing due to them? Is it related to size? To the governance structure? It seems important to find out. Maybe this has been done but I haven’t seen it…
Finally, there is a frequently assumed idea that the “alts” are risky. I get that the funds often say this themselves via their actuarial assumed returns. But is there actual evidence that funds with high alt allocations are over time riskier than those without them? Traditional 60/40 portfolios are fairly risky! It seems like the “reaching for yield” argument needs empirical justification (not just anecdotes). Again, maybe it is out there and I haven’t seen it.
I think Ted Siedle is doing a service in his investigations, because somebody does need to really dig to find out details that are difficult to get at from a high level (like I'm pulling from the Public Pensions Database).
I have done some posts on allocations to alternatives (of whatever kind -- miscellaneous, private equity, etc.) and long-term returns. Here is one of the older ones -- from 2017:
But the problem, and why we need someone like Ted Siedle, is because I don't know if this is really giving me the net performance or gross. It makes it difficult for me to compare if it's not apples-to-apples.
When I look at the PPD returns vs alt allocation I see two things. Actually I don't see two things that one might expect. First, as you've pointed out, there is basically no relationship (or maybe an extremely weak one) between returns and alt allocations. Perhaps this means the extra fees and expenses are being paid for by the returns, but there are no leftovers to go to the beneficiaries/funds. Second, there seems to be no relationship between alt allocation and downside risk.
Risk, of course, is harder to measure than return. And yes, illiquid alts are especially difficult when it comes to measuring riskiness. Nevertheless, I haven't seen the case for the "alts implies higher risk" position in the data.
So, instead of "reaching for yield" going on, the data seems more consistent with a "reaching for assumed yield" motivation. I.e., the transaction between the funds and the alt industry is (1) funds get to justify higher discount rates and (2) money managers get to use the funds dollars to generate excess returns, which mostly accrue to them.
This may not be a good thing, but it is a different thing than the "take more risk to achieve assumed returns" argument. This is why I would like to see more research on which types of funds actually capture some of the excess gains, and which actually end up behind.
Comments and questions!
You are clearly right that asset management & fees are a tiny part of most pension fund problems. Funding issues are due to mismatches between contributions & benefits.
Still an awful lot of money in these funds does go to money management, mostly for “alternatives” (generally defined: hedge funds, private equity,etc) and so it is natural that it will get a lot of attention. Are funds getting their money’s worth? Is their complexity a source of problems? Are the fees an invitation to corruption? All good questions, but it seems like the studies looking at them end up showing that on the whole, it’s “all a wash.” That's pretty anticlimactic! If all those fees and costs are resulting in a “wash”, isn’t the only conclusion that in general the alts are indeed generating excess profits, but those profits end up mostly going to the managers?
Admittedly, if it really is all a wash one could argue that this is justification for getting rid of the alts. But shouldn’t these analysts be looking at which funds benefit from alts and which are losing due to them? Is it related to size? To the governance structure? It seems important to find out. Maybe this has been done but I haven’t seen it…
Finally, there is a frequently assumed idea that the “alts” are risky. I get that the funds often say this themselves via their actuarial assumed returns. But is there actual evidence that funds with high alt allocations are over time riskier than those without them? Traditional 60/40 portfolios are fairly risky! It seems like the “reaching for yield” argument needs empirical justification (not just anecdotes). Again, maybe it is out there and I haven’t seen it.
I think Ted Siedle is doing a service in his investigations, because somebody does need to really dig to find out details that are difficult to get at from a high level (like I'm pulling from the Public Pensions Database).
I have done some posts on allocations to alternatives (of whatever kind -- miscellaneous, private equity, etc.) and long-term returns. Here is one of the older ones -- from 2017:
https://stump.marypat.org/article/866/who-has-the-highest-holdings-of-alternative-assets-has-it-paid-off
But the problem, and why we need someone like Ted Siedle, is because I don't know if this is really giving me the net performance or gross. It makes it difficult for me to compare if it's not apples-to-apples.
Here are a few more recent posts:
2024: https://marypatcampbell.substack.com/p/alternative-assets-in-public-pensions
2023: https://marypatcampbell.substack.com/p/choices-have-consequences-public
When I look at the PPD returns vs alt allocation I see two things. Actually I don't see two things that one might expect. First, as you've pointed out, there is basically no relationship (or maybe an extremely weak one) between returns and alt allocations. Perhaps this means the extra fees and expenses are being paid for by the returns, but there are no leftovers to go to the beneficiaries/funds. Second, there seems to be no relationship between alt allocation and downside risk.
Risk, of course, is harder to measure than return. And yes, illiquid alts are especially difficult when it comes to measuring riskiness. Nevertheless, I haven't seen the case for the "alts implies higher risk" position in the data.
So, instead of "reaching for yield" going on, the data seems more consistent with a "reaching for assumed yield" motivation. I.e., the transaction between the funds and the alt industry is (1) funds get to justify higher discount rates and (2) money managers get to use the funds dollars to generate excess returns, which mostly accrue to them.
This may not be a good thing, but it is a different thing than the "take more risk to achieve assumed returns" argument. This is why I would like to see more research on which types of funds actually capture some of the excess gains, and which actually end up behind.