By Amy Silverman
By Olivia LaVecchia
By Monica Alonzo and Stephen Lemons
By Chris Parker
By Michael Lacey
By Weston Phippen
Practically every month, 85-year-old Edith Christy hightails it down Central Avenue in her Ford Taurus, parks in the underground garage of the Norwest Tower and rides the elevator up to the headquarters of the Arizona State Retirement System just in time for the pension fund's board meetings.
Like dozens of other oldsters who are beneficiaries of the Arizona State Retirement System, which has assets of nearly $13 billion, the former Creighton Elementary School District librarian sees reason to keep careful watch over the pension fund, which is the largest pool of public money in the state. About 45,000 retirees draw pensions from the fund, while another 200,000 state and county employees are contributing to the system for their future retirements.
The pension fund is almost three times larger than the current $4.5 billion budget for the entire State of Arizona.
Which makes it a tempting target, retirees suspect, for politicians wanting to pay back their friends. Or stockbrokers looking for commissions. Or venture capitalists and developers looking for easy sources of money. Or the countless real estate brokers and lawyers who reap hundreds of thousands of dollars in fees on such deals.
The retirees already hold a lingering distrust of board members appointed by Governor J. Fife Symington III. This is because the governor himself failed to pay several pension funds, including the state pension funds, millions of dollars in real estate loans. And, in 1993, the governor appointed John Stiteler, a developer who was linked by news reports to several bankruptcies and six-figure unpaid debts, to one of the boards governing the state retirement system. Stiteler resigned after his record became public.
These days, though, the retirees are more worried than ever.
In April, the two boards that co-manage the pension fund quietly made an unusual decision during an emergency meeting.
The five-member Investment Advisory Council and the seven-member Arizona State Retirement System, all of whose members are appointed by Symington, approved the transfer of $1.06 billion of pension-fund money "in-house."
This means the $1.06 billion that had been managed by the Boston Company, an investment-management firm owned by Pittsburgh-based Mellon bank, will soon be invested only by staffers at the state retirement system.
Activist retirees figure the move was politically motivated, and is risky because it puts their money within easier reach of locals who would like to get their hands on it.
"The weakness in this system is that the boards are made up of political appointees," says Ronald Murphy, a 68-year-old retired administrator for the Glendale High School District who is now a lobbyist for the Arizona Retired Teachers Association.
"We [retirees] don't seem to have any say on who sits on the boards," says Murphy.
Officials from the retirement system deny the move was politically motivated. They say the reasons are practical, safe and economically sound. For every $100 million the system invests in-house, $1 million in management fees will be saved, says LeRoy Gilbertson, director of the retirement system.
Retirement officials like to tout a 1994 state auditor general's report on the retirement system, which notes that most larger funds manage at least a portion of their money in-house.
By 2004, the report says, the system could expect to spend $15 million in fees on the outside investment managers. (This year, the fund paid $11 million in fees.) Internal management could cut those expenses "several million dollars annually," the report says. Sophisticated computer programs could, in part, replace the outside money managers.
But even the auditor's report raises the retirees' suspicions.
The author of the report, Anthony Guarino, was later hired by Gilbertson to be deputy director of the retirement system.
Gilbertson says Guarino's hiring had "nothing to do with the report" Guarino authored while at the Auditor General's Office.
"He was hired because he has ten years' experience in state government," says Gilbertson, adding that Guarino was simply the "most qualified" of perhaps ten candidates he interviewed. And Gilbertson points out that the board approved the hire.
"Most major retirement systems our size manage money internally," says Gilbertson. "This is not anything new in the industry. It's just new in Arizona."
As in-house investing develops a "track record," Gilbertson says, "I would anticipate moving more money internally. But that's going to be a while."
The national trend among public pension funds is going the opposite way of Arizona's fund. Some funds are reducing their internal management portfolios because it hasn't proved cost-effective. A report last year by ®MDNM¯the publication Pensions and Investments noted that of 332 public pension funds surveyed, 39 percent used some form of in-house investing in 1991. But, two years later, only 32 percent of funds utilized in-house investing.
This contradicts the state auditor general's report.
Some pension funds found they simply weren't saving money with in-house investing--the overhead was large and outside money managers were reducing management rates to funds, officials said.
And, sometimes, in-house investment does lead to the very patronage retirees like Edith Christy hope to avoid. Recently elected Connecticut Treasurer Christopher Burnham fired ten employees of the $11.2 billion Connecticut Trust Fund (the state pension funds) and eliminated the in-house securities trading desk after he discovered that local brokers were overcharging the pension funds.
In Arizona, the so-called Little Funds, three smaller public pension funds totaling $2.3 billion--the Public Safety Retirement System, the Elected Officials Retirement System and the Corrections Officers Retirement System--are managed internally and run by the same board. ®MDNM¯New Times recently reported that in the past few years, the board has entered into real estate transactions that raise ethical questions, including funneling $688,000 to school chums and friends of state insiders as fees in real estate transactions; giving a close business associate of a board member a $1.8 million real estate loan; and investing more than $13 million in a UDC Homes business deal that is stalled in bankruptcy, with $6 million due.
Pensioners of the Arizona State Retirement System fear such practices could occur with their system in the future. Moving money in-house may make it more accessible to state politicos.
The state Legislature can control the fund's investments by changing the law that governs the fund. And the retirees suspect it was the Legislature, which has long pushed for investing pension-fund money in risky, "economically targeted investments"--such as the Little Funds' real estate ventures--that wanted the money moved in-house in the first place.
Currently, state law says 20 percent of the pension fund can be invested in-house. It also says that only 1 percent of the fund can be invested in economically targeted investments.
The Legislature also dictates precisely what cost-of-living adjustment, or COLA, the retirees get with their pension checks. Up until this year, the Legislature passed out COLAs irregularly--depending on the budget and the amount of lobbying done by the retirees. Then, in 1994, the Legislature passed a law that automatically gives the retirees a COLA each year the fund earns more than 9 percent on its investments. The COLA does not go up if the fund earns more money.
So there is a degree of self-interest here. If internal investing reduces the overall return below 9 percent, the pensioners will not get their COLAs.®MDNM¯ However, if the fund earns more than 9 percent, the retirees will not get more than their regular COLAs.
The fund has averaged about a 13 percent return over the past ten years, officials say, but performance is starting to slip compared to other public pension funds nationally.
A July 1995 retirement system memo obtained by New Times compares the Arizona fund's rate of return on its investments to that of 54 other funds of similar size. Arizona ranked in the top 40th percentile of all the funds this year, slipping down from the 4th percentile for the past five years.
Currently, the retirement system divvies up its multibillion-dollar purse among about a dozen different out-of-state managers that handle domestic and foreign portfolios. About $250,000 is currently invested in real estate mortgages in Arizona through an in-state bank.
The Boston Company, which managed the $1.06 billion domestic portfolio for the retirees, has performed well in its stock portfolio, but offered a mediocre performance with fixed-income bonds, documents show.
At an emergency meeting of both boards in April, the Boston Company was fired because several staffers who'd managed the Boston Company's share of the Arizona fund had suddenly quit the firm. "The core, heart and brain of their organization has [sic] departed," minutes of the meeting say.
The solution pushed by Gilbertson and others was to hire a trainer--in this case a reputable money-managing company named Axe-Houghton, which currently manages some foreign stocks for the fund. Axe-Houghton would train state staffers in investment strategies, help set up the sophisticated computer systems and within a year turn the money formerly managed by the Boston Company over to the state. The fees proposed by Axe-Houghton were competitive--less than 1 percent of the portfolio's net worth.
According to the minutes of that meeting, only one board member, Grace Lau, suggested putting the money with another large investment management company. She wasn't convinced Axe-Houghton had been adequately checked out, and she was concerned about giving the inexperienced state staffers such a large sum of money to invest. Lau said she preferred the staff "build up" to the $1 billion, "perhaps in $100,000 increments," the minutes say. Lau could not be reached for comment.
Pensioner Edith Christy and others think the entire move was "too hasty." Furthermore, they worry that because the retirement system has no "errors and omissions insurance," a mere technical mistake by a staffer--say, erroneously pushing the wrong key on the computer keyboard--could result in a multimillion-dollar, unrecoverable loss to the pension fund.
Gilbertson says the system will have errors and omissions insurance soon. "We're not taking over this portfolio tomorrow," he says. "This is a transition stage."
What's more, he says, there are numerous checks and balances, internal policies and auditing systems that will ensure the in-house money will not be mismanaged.
Edith Christy knows she'll always get her $400 monthly pension--she's not worried about the fund going totally broke. But her grandson is student-teaching now, and she wants the fund to be solid when he retires.
"We do not want the wrong people to get their hands on that money--people who have things to gain personally," says Christy.