A battle over how New Jersey invests its state pension funds has intensified as the New Jersey State Investment Council approved a plan to invest 13% of its $66 billion in assets into alternative investments. The plan would allocate 5%, or about $3.3 billion, of its assets to private equity. The plan faces opposition from local unions – two of which have filed lawsuits – and state legislators who say that the Investment Council needs legislative approval to proceed.
The council voted 7 to 2 in favor of the plan with two members absent. The plan was spurred by a report issued earlier this year by Independent Fiduciary Services (IFS). The report calls on the state of New Jersey to “more broadly diversify its investment portfolio” by “adding further, nontraditional asset classes and strategies.”
As expected, the report supports bringing in outside investment management in “passive management in efficient securities markets.” The report also calls for the Investment Council to have enhanced internal controls, greater compensation and higher staffing levels and resources.
The New Jersey pensions are completely invested in stocks and bonds and managed in-house. As a result, the pensions took heavy losses with the bursting of the tech bubble four years ago.
Proponents of the changes argue that New Jersey’s losses from its pension funds have been greater than other states. The state’s pension funds, owing largely to big drops in the stock market, declined from a market value of $82.6 billion in June 2000 to $60.2 billion in August 2002. These large losses underscored the state’s need to diversify, says New Jersey State Treasurer John McCormac. “Most states are ahead of us in terms of diversification,” he says.
But the diversification effort is being met with resistance by unions who represent workers charged with making investments under the current system. They fear that the management fees and riskier investments may not be the best course of action. The Communications Workers of America and the New Jersey Teachers Association have filed lawsuits seeking to block the proposed changes. They claim that the Investment Council needs the approval of the state legislature to make the proposed changes.
“It’s not possible to have in-house employees manage a venture capital or private equity or hedge fund portfolio,” says McCormac, who adds that outside managers will be selected by the end of the quarter. The treasurer declined to comment on the litigation brought by the unions.
Union representatives concede that the current staff of the Investment Council does not have the private equity investment experience to establish a program commensurate with other states. The unions are also concerned that the Investment Council has not taken enough precaution to prevent the kind of “pay to play” scandals that have gripped Connecticut and Hawaii.
It is also noteworthy that the plan recommended by the investment council will not cost any state workers their jobs. Still, the unions say it is too risky to put money into risky assets and pay tens of millions of dollars in fees to outside investors.
The unions and allies in the state legislature cite a letter from the Office of Legislative Services last year that claims the Investment Council needs approval of the legislature to make proposed changes.
The treasurer’s office and the Investment Council say that a finding from the state attorney general claims that they do have the authority. Both the attorney general’s office and the treasurer’s office refused to provide copies of this finding, citing “attorney-client privilege.”
New Jersey State Senator Peter Inverso and his assembly colleague, Assemblyman Bill Baroni, who are Republicans, have begun the legislative process to block any changes to the state’s pension investments without the legislature’s approval.
“The issue very succinctly is one of whether or not the treasurer and the Investment Council had the authority to pursue alternate investments without getting statutory approval from the legislature,” Inverso says.
He expects that the plan will not go forward without a court ruling.
“For them to move ahead without having the judiciary weigh in on this would be pretty brazen at this point,” he says. “If they have the authority to do it, then it becomes a matter of sitting down with the unions and other affected parties and seeing what would be reasonable.”
Inverso says that while it makes sense to diversify, costs of fund managers, the needs of local unions, and the size of the allocation, need to be examined by all sides.