State, Local Governments Heavily Invested in Wall Street

NEW YORK —  While Federal Reserve Chairman Alan Greenspan reiterated Thursday his opposition to investing government retirement monies in the stock market, his words seem almost certain to fall on deaf ears in one pension sector: state and local retirement funds.

Those public pension plans already are a huge--and growing--presence on Wall Street, the latest data show.

The value of U.S. shares owned by public pension plans has nearly doubled since 1995, to $1.12 trillion as of last fall, according to a survey by consulting firm Greenwich Associates.

That amount, coincidentally, is roughly the total of federal Social Security dollars the Clinton administration would earmark for investment in the stock market over the next 15 years.

The surge in public funds’ investment in stocks has come mainly in this decade, coinciding with the great 1990s bull market.

Some experts cite the public funds’ increasing shift into stocks as the single biggest factor in improving the chronic under-funding of state and local pension plans.

Indeed, despite fears by Greenspan and other experts that public funds’ investment policies are extremely vulnerable to political pressures, the upside is that “even the most corrupt states are getting closer to full funding” thanks to stocks’ gains, said Sarah Teslik, executive director of the Council of Institutional Investors, a Washington-based association for public and private pension funds.

Over the last 10 years, the return on the blue-chip Standard & Poor’s 500-stock index has been 480%. By contrast, a typical portfolio of U.S. Treasury bonds--the investments Social Security is forced to own exclusively--earned 149% in that period.

Call them smart or call them lucky, but most of the state legislatures, municipal authorities and oversight committees that steered pension funds toward stocks haven’t looked back.

Rather, they’ve upped the ante.

U.S. stocks accounted for 48% of total public pension fund assets as of last fall, up from 40% in 1994 and 39% in 1989, according to the Greenwich survey of 1,500 pension fund managers.

Foreign stocks made up an additional 10.4% of total assets last fall, up from 8.6% in 1994 and 2.8% in 1989.

Domestic and foreign bonds, meanwhile, which used to make up the lion’s share of public fund investments, have shrunk to 31.2% of the total in 1998 from 36.6% in 1994 and 43.6% in 1989.

Although public funds’ returns have unquestionably been boosted by their stock investments, they have under-performed private pensions over the years--which experts attribute largely to the fact that public funds operate under more investment restrictions.

Some funds have a cap on the percentage of assets that can be invested in stocks. Some are barred from holding stock in companies that, for example, sell tobacco products or do business with certain foreign governments.

“It is very difficult to mix fiduciary responsibilities with social goals,” said Hal Reynolds, chief investment officer of Wilshire Asset Management, which advises the California Public Employees’ Retirement System, or CalPERS.

In fact, that is one of Greenspan’s principal arguments against putting Social Security monies into stocks.

As he told a Senate committee Thursday: “Even with Herculean efforts, I doubt if it would be feasible to insulate, over the long run, the trust funds from political pressure--direct and indirect--to allocate capital to less than its most productive use.”

Yet at the state fund level, such restrictions are becoming less common, especially since the lifting of the international boycott against South Africa.

Even without restrictions, however, public funds tend to be more risk-averse than private ones, which also can cause long-term performance to lag that of private investors.

A less obvious reason for under-performance can be how the stock money is managed, according to Teslik of the Council of Institutional Investors.

She said the “dirty little secret” of the pension industry is that active management, where fund managers pick the companies to invest in, is consistently outperformed by simple passive management, where managers aim just to mirror the performance of market barometers such as the S&P; 500.

The industry doesn’t like to acknowledge that fact, Teslik said, because money managers get paid for their stock-picking expertise.

In public pension funds, stocks under active management have held steady at about 22.5% of total assets over the last five years, while passively managed stocks grew to 25.4% of assets in 1998 from 17.4% in 1994, Greenwich Associates said.

Although the overall mix of stocks has been rising steadily in Greenwich surveys dating to 1988, perhaps the most dramatic change over the last decade has been the public funds’ growing affection for foreign investments. Foreign stocks in the funds totaled $20 billion in 1989. Last year, that total stood at $242 billion.

Unfortunately, foreign stocks, overall, have significantly lagged U.S. stocks’ returns over the last decade.

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Public Pensions: Big-Time Investors

Public pension funds of states and municipalities own more than $1 trillion in stockand that is rising. The percentage of public funds assets in various investments, 1989 and 1998:

1989

Domestic stocks: 39%

Bonds: 43.6%

Foreign stocks: 2.8%

Other: 14.6%

*

1998

Domestic stocks: 48%

Bonds: 31.2%

Foreign stocks: 10.4%

Other: 10.4%

Source: Greenwich Assoc.