New Institute Challenges ESG-Minded Divestment Movement

A new pension-focused institute has been created that seeks to challenge nationwide efforts to convince public pension funds to divest from companies for environmental, social, or governance (ESG) reasons.

The Institute for Pension Fund Integrity says many of the stocks that the ESG movement shuns generate good returns, so dumping them will harm pension portfolio returns. The group said it wants to ensure that state and local leaders are held responsible for their choices in public pension investment, and “to keep plan managers from placing politics ahead of prudent investment.”

It advocates four core principles in public pension management: adherence to fiduciary responsibility; balanced economic, social, and governance factor investments; long-term pension fund return; and data-driven investment. The institute’s president is Christopher Burnham, chairman of strategic advisory services firm Cambridge Global Advisors, a former Connecticut state treasurer, and a former undersecretary general at the United Nations under President George W. Bush.

“At a time when public pensions are dramatically underfunded, and both inside and outside stakeholders push for politically-driven divestment, something has to be done,” said Burnham in a release. “Public pension fund managers have a fiduciary responsibility to their beneficiaries to make rational decisions based on risk and return, not politics.”

For more stories like this, sign up for the CIO Alert newsletter. 

The institute said it will provide resources and commentary from thought leaders in the public investment and retirement fields, and coincided its launch with the release of a white paper titled “Fiduciary Responsibility; Getting Politics out of Pensions.”

The white paper argues that if a fund manager is investing based on “political decisions” and not purely on the risk or return, then they are weakening the fund and “undermining its integrity.” It also strongly objects to the act of divesting from companies for almost any reason that isn’t 100% financial-based.

“In order to make sound investments for maximum returns, fund managers cannot divest from huge sectors of the economy, simply because politicians urge them to,” said the white paper. “Instead, they must be guided by prudent investment strategies and enforce a diverse investment fund without the influence of politics.”

The paper cited the push for divestment from energy companies and nuclear weapons manufacturers as being counterproductive to a pension fund’s fiduciary duty.

“The numbers don’t lie: those companies have incredibly well-performing stocks and provide reliably strong returns, even during economic downturns,” said the institute, which also objects to public pension funds divesting from companies that earn revenue from fossil fuels.

“Fossil fuel companies represent some of the best-performing and most-reliable stocks available,” said the paper, adding that they are noted for having extended rates of return and reliable dividends over decades of investment. It also criticized New York City’s proposal to divest its public pension funds from fossil fuel companies, saying divestment not only will not solve New York’s pension problems, but is likely to only make them worse.

“Divestment is not a responsible investment strategy,” said the paper, “and any public pension manager that pushes for that is not executing their fiduciary responsibility appropriately.”

Tags: Divestment, ESG, Institute for Pension Fund Integrity

Despite having steadily boosted their funding levels over the past year, US pension funds run the risk of losing their improved status if they don’t hedge their liabilities, according to a report from investment firm Cambridge Associates.

Although the “once-yawning gap” between assets and liabilities has been reduced, or in some cases closed, over the past few months, the report warns that improved funding levels bring new challenges, particularly concerning the ratio of the market value of assets to the present value of liabilities.

According to consulting firm Milliman, the funded status of the 100 largest defined benefit pension plans sponsored by US public companies rose to 86% in 2017 from 81.1% in 2016, while their sponsors contributed $62 billion.

The gains, which the report says amounts to billions of dollars, could be squandered unless plan sponsors protect them with strategic adjustments to their liability-hedging portfolio, which is designed to reduce the volatility of a plan’s assets relative to its liabilities as a result of changes in the discount rate, which is used to calculate the present value of employer pension obligations.

For more stories like this, sign up for the CIO Alert newsletter. 

“Plan sponsors need to find a new balance between generating returns to close the asset-liability gap and protecting any incremental improvements in funded status,” Alex Pekker, senior investment director at Cambridge Associates, and co-author report, said in a release.

“Until recently, closing that gap has rightly been the primary focus, and now since the funded status has improved for most plans, the balance should be shifting to the liability-hedging portfolio.”

Pekker says that although striving for fully funded status is a laudable goal, plan sponsors should consider revisiting their investment strategy to develop a more nuanced approach to liability management to protect their gains. Specifically, he says plans need be aware of three new risks they face:

Curve Risk: Well-funded plans can afford to hedge not only the overall interest rate risk of the liability, but also its sensitivity to the “full maturity spectrum” of interest rates. The report says this is important because short-term rates often move differently than long-term rates, and therefore it is possible to lessen these differing curve exposures through customized portfolio construction and the use of derivatives.

Credit Spread Risk: Because liabilities are valued using near top-rated corporate bond yields that incorporate the difference between the yield of a corporate bond, and the yield of a comparable Treasury, plan sponsors can invest in credit to hedge the difference in yields, also known as the credit spread. Because credit is correlated to equities, the allocation to credit should increase as the size of the growth portfolio decreases, and the liability-hedging portfolio increases.

“Even a fully funded plan has an incentive to outperform the liabilities to offset ongoing administrative costs and any future mortality improvements,” said Pekker.

Operational Complexity Risk: Plan sponsors tend to use more managers and more complex instruments, such as Treasury futures and interest rate swaps, when hedging curve and credit spread risks. According to Cambridge Associates, this introduces more complexity, which means plan sponsors should be aware of the additional operational and reporting burdens, and ensure that any associated risks are managed appropriately.

“Articulating a coherent liability framework and revisiting it frequently will serve plans well in maintaining an effective liability hedge exposure,” said the report.

Tags: Cambridge Associates, Funded Status, Pension

Subscribe to a free PW Newsletter!