11:17 p.m. October 28, 2013

Heads Wall Street Wins, Tails Retirees Lose

"Heads I win, tails you lose" - this is the pithy motto of modern Wall Street, and deservedly so. It perfectly captures the con artistry of too-big-to-fail investment firms that get to gamble with other people's money and yet know they inevitably will be bailed out by taxpayers when the losses pile up.

But here's the thing: the motto doesn't just summarize the financial shenanigans of the big banks. It also embodies the financial industry's cunning political strategy - the one which creates policy choices that seem distinct and binary, but that each conveniently end up padding Wall Street's bottom line and too often fleecing the average American. Heads, one proposed policy is a win for Wall Street, tails, the other policy is a loss for the middle class.

A new Bloomberg News column by a former financial industry executive and aide to Republican Gov. Arnold Schwarzenegger is a primer for how this works in practice when it comes to pension funds. Responding to the recent reporting done by myself and Rolling Stone's Matt Taibbi about the financial industry's new initiative to extract wealth from those public pension funds, David Crane defends the practice of Wall Street-funded politicians like Rhode Island Treasurer Gina Raimondo (D) handing over more retiree money to her friends in the hedge fund and private equity industry. Crane says these so called "alternative investments" - which incur massive fees paid to Wall Street billionaires - are justified because states "are desperate to achieve higher yields to help close pension deficiencies."

Heads It's Hedge Fund Fees, Tails It's Benefit Cuts

The supposition here is that betting retiree money in the hedge fund casino isn't about corruption - it isn't about, say, the politicians overseeing pension funds quietly working to enrich their Wall Street campaign contributors. Instead, the conservative-flavored assumption is that the hedge fund investments these politicians authorize are just earnest efforts to boost pension returns in order to pay out allegedly excessive retiree benefits to greedy public workers. Further, the assumption is that those allegedly greedy public workers should be thankful for the "alternative investment" schemes because those schemes are all but guaranteed to successfully replenish depleted public pension funds.

To support such an assertion, Crane cites a study from Cliffwater LLC that says these so-called alternative investments "played a role in the above-average performance of 19 of the 20 top-performing state pension funds." Yes - Manhattan hedge funders are saving the middle class!

But wait - doesn't that fuzzy language - "played a role" - look a fishy? Obviously it does - because it is.

Crane doesn't mention, for example, that, as the New York Times recently documented, the Organization for Economic Cooperation and Development found that the alternative investments are shrouded in secrecy, thus calling into question such vague claims of success. The claims, in fact, are especially questionable when they come from a consulting firm like Cliffwater. After all, as Forbes columnist Ted Siedle recently documented (but Crane didn't mention), Cliffwater's own SEC filings show that it is paid by the very financial industry it is promoting. Meanwhile, the scattered bits of crystal clear evidence we do have about "alternative investments" show that while they have been a boon for Wall Street, they can be a financial disaster for retirees.

In Pennsylvania, for instance, the state pension's investment in hedge funds forces retirees to pay a whopping $770 million in fees every single year. For that money, the Wall Street Journal reports that "the $25 billion pension system was disappointed after suffering a 16% loss on its hedge-fund investments."

Similarly, in Louisiana, three public employee retirement systems handed over $100 million to Manhattan hedge funds, only to watch all that hard-earned retirement money vanish.

Then there is Rhode Island, where skyrocketing hedge fund fees are devastating the public pension fund and not even keeping pace with the stock market. Indeed, as the New York Times reports, that Raimondo's move to invest more pension cash in hedge funds has transformed the pension fund into one that pays huge fees to Wall Street, but that is being out earned by simple fee-less index funds.

Overall, Bloomberg News reports that both private equity and hedge fund investments grossly underperformed the S&P 500. Those numbers are a reminder of why pension funds in general should be more wary of Wall Street's too-good-to-be-true schemes. Such a reminder was previously underscored by a Center for Economic and Policy Research report which showed that had pensions steered clear of Wall Street's most risky investment schemes in recent years and simply invested in Treasury bonds, "their assets would be more than $850 billion greater than they are today."

Such numbers explain why pension analyst Leo Kolivakis recently wrote:

Take (Cliffwater's) report on state pension performance and trends with a grain of salt. There is no doubt some state funds have done better than others investing in alternatives...(But) the bulk of U.S. state pension funds praying for an alternatives miracle, buying the hedge fund myth, are doling out huge fees and getting mediocre returns. Sure, Wall Street loves it but the approach and governance are all wrong.

All of this data, of course, is hardly "good reason for aggressive support of alternative investments," as former financial exec David Crane insists in his Bloomberg News dispatch. In fact, it is good reason to consider taking retiree money out of "alternative investments" and putting it into safer investments - the kind which are less risky and don't incur Wall Street fees that blow big holes in pension funds. But that's where "heads I win, tails you lose" comes in.

Because of the 2008 financial crisis - and because for years lawmakers raided pension monies to pay for business-backed tax cuts and corporate welfare - pensions face shortfalls that need to be addressed. But through its campaign contributions, lobbying, political activism and PR (the latter, from loyal flacks like Crane), the business community has managed to control the debate over how precisely to deal with those shortfalls. More specifically, Corporate America has self-servingly marginalized proposals to generate new public revenues for pension funds by either raising taxes or eliminating all the wasteful corporate welfare states and cities are handing out. Instead, we are led to believe that the only possible "solutions" to the pension shortfalls are either Wall Street-enriching "alternative investments" or huge cuts to pensioners' guaranteed retirement income. In both scenarios, the financial industry makes big money and the corporate subsidies are protected, while retirement benefits are slashed.

It's heads Wall Street and Corporate America win, tails workers lose.

Heads, It's Alternative Investment Fees, Tails, It's 401(k) Fees

Of course, there is one other "solution" permitted in the political discourse - the one pushed by infamous right-wing groups like the American Legislative Exchange Council. These greedheads apparently aren't satisfied with converting mere billions of dollars of retiree money into hedge fund fees and preserving states' and cities corporate welfare programs. No, ALEC and right wing activists want to completely scrap the state and municipal defined-benefit pension system that pools risk and provides guaranteed income. In its place place, they want to engineer 401(k) systems that create individual Wall Street-managed investment accounts (and that often involves higher costs for taxpayers in the process).

Incredibly, from Crane to the conservative American Enterprise Institute, the right portrays this as not only good policy on its own, but also as a way to placate those who are critical of the aforementioned "alternative investment" schemes. As Crane insists, "Alternative investment managers would lose a fortune if pension money were shifted to 401(k) plans." The implication is that shifts to 401(k)'s is actually a way to get tough on Wall Street.

Technically, it may be true - hedge funds and private equity firms might lose some cash if more pension money was moved into 401(k) accounts. That's because those accounts have not typically offered workers a way to put their money directly into those "alternative investments." However, that's starting to change as behemoths like Goldman Sachs begin rolling out 401(k)-ready mutual funds that invest in - you guessed it! - "alternative investments." Yes, those mutual funds serve as passthroughs for retirement money to go into hedge funds and, thus, finance the same exorbitant hedge fund manager fees being paid by many of today's public pension funds.

But, then, that's not even the point. What's more important is that even if a shift to 401(k)'s does happen to reduce the amount of retiree money being used to specifically subsidize hedge funders, it doesn't necessarily reduce the amount of retiree money being used to subsidize the financial industry in general. In fact, as a recent Demos study of 401(k) plans shows, it may actually increase those subsidies by incurring new fees for the financial industry's 401(k) managers.

According to the think tank, in a 401(k) plan, the "ordinary American household will pay, on average, nearly $155,000 over the course of their lifetime in effective total fees." That household, notes Demos, "could have bought a house with the amount they paid in fees" to financial managers through their 401(k). In all, PBS Frontline reports that workers in 401(k) systems can lose more than half of their entire nest egg to fees. And don't forget, those grotesque fees are further subsidized by taxpayers.

In light of all that, pretending 401(k) schemes are a way to get tough with Wall Street is as absurd as pretending that a speeding ticket-esque sized fine against JP Morgan Chase will deter future financial fraud. They are both ruses. In the specific case of pension "reforms," it is a ruse that leads back to that same Wall Street motto. Indeed, if its a choice between traditional pension funds paying exorbitant fees for "alternative investments" or moving workers into fee-heavy 401(k) systems, it's heads the financial industry wins, tails retirees lose.


Any lobbyist worth his tithe will tell you that if you can limit the scope of possible outcomes to those that exclusively serve your interests, you've already won - regardless of which particular policy happens to emerge. The "heads Wall Street wins, tails the rest of us lose" strategy is just the financial industry's brutally effective version of that political axiom.

In state after state, Wall Street is managing to limit the scope of perceived possibility when it comes to pension policy - all with $3 trillion in its eyes. That's how much cash is in America's public pension systems. And whether its through "alternative investments," 401(k)'s or some other future scheme, the goal of the financial industry and its media mouthpieces like David Crane is simple: to convert as much of that $3 trillion as possible into fees - the kind that do not necessarily deliver great returns for the typical thousand-aire retiree, but deliver a jackpot for the typical billionaire on Wall Street.