Monday, March 16, 2009

The Next Shoe: State Pension Funds Victims of Investment Fraud

A gripping analysis done by the good folks at demonstrates just how much more pain is in store for state and local pension funds. While I discussed the losses borne by the fund of fund divisions of state pension funds previously through investments in legit (if pretty lousy) asset managers, the latest shot of pain will come from ongoing disclosures of investment fraud by ponziers such as Madoff and WG Trading, the latter causing nearly half a billion in losses to the Iowa Public Employees' Retirement Fund and the North Dakota Retirement and Investment Office. Stateline's piece shows just how much worse it will likely get:

The letter from a Connecticut investment firm arrived shortly after New York financier Bernard Madoff was arrested in December on charges of swindling billionsof dollars from investors.

“Why WG Trading is NOT Bernard Madoff,” the letter informed Iowa’s public pension fund managers.

WG Trading was trying to assure the Iowa officials that the $339 million the state had trusted WG to manage was safe from the kind of pyramid scheme shenanigans that landed Madoff in jail.

“Our holdings are totally transparent,” the letter said. “Our auditor… confirms the balance sheet, the income statement and all cash flows. As a result, the returns are real.”

It turns out Iowa had plenty to worry about. WG’s owners were arrested Feb. 25 on securities and wire fraud charges, accused of stealing tens of millions of dollars from Iowa, North Dakota and other investors to buy horses, Steiff teddy bears, rare books, Manhattan apartments and other personal items. The owners, Paul Greenwood and Stephen Walsh, treated investor money “as their own piggy bank to lavish themselves with expensive gifts” said Stephen Obie, acting director of enforcement for the Commodity Futures Trading Commission.

And while the mainstream media is still focused on the trivial impacts of a declining stock market, the real dangers are the exponentially increasing cases of investor fraud. In addition to Iowa and ND, Westridge Capital, another offshoot of WG Trading has caused irreparable harm to the University Of Pittsburgh, Carnegie Mellon University, San Diego County and Sacramento County. The response pension funds are taking in light of these adverse developments will only eventually become apparent as more and more pensioners are left out in the cold:

Wisconsin has reduced monthly payments to retirees for the first time. New York Gov. David Paterson (D) recently proposed a pension reform plan calling for reduced benefits for newly hired public employees. Nevada Gov. Jim Gibbons (R), facing a $2.3 billion budget gap, has also called for trimming retiree benefits.

Kentucky is considering cutting the amount of money that the state and local governments contribute to their public pension funds to help cover budget shortfalls. Indiana lawmakers are weighing a proposal to merge the state employee and teacher pension funds and raise contributions. New Mexico lawmakers recently learned they may have to boost contribution rates if the economy does not rebound soon.

As the attached chart demonstrates, some of the less discussed pensions funds represent substantial portions of their respective state economies: as these funds' bleeding continues either due to market declines or investor fraud, some of the smaller states are likely to declare force majeure soon and become dependent on the federal government for ongoing bailouts.

The likely final outcome? In the words of Fordham law school professor, "We’ve seen this movie before, and we know it’s not a happy ending."

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Anonymous said...

The next disaster du jour will occurr in municipal bonds.Poor pension fund results combined with ridiculous pension and health promises will result in a a much larger number of defaults tahn during the depression of the thirties