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CalPERS: “opaquely transparent”

A Columbia Business School case study on CalPERS has criticised the fund for being “opaquely transparent”, with a computation of investment expenses revealing the fund pays three-to-four times its peers in fees.

Written by Columbia professor of business Andrew Ang and Columbia CaseWorks fellow, Jeremy Abrams, Californian dreamin’: The mess at CalPERS examines the political, governance, staff and funding obstacles that the fund has faced.

One of the enduring aspects of the fund, according to Ang, is the lack of true transparency of reporting. While there is a lot of publicly available documentation, CalPERS does not report any meaningful numbers, he says. For example, the fund does not report a single management expense ratio (MER) figure.

“CalPERS does not directly report its expense ratios, or even its proportion of internally or externally managed funds,” the report says.

Ang and Abrams calculate total investment expenses by summarising investment expenses from several tables in the 2011 annual report, including the statement of changes in fiduciary net assets, schedule of fees and costs for private equity partners, schedule of fees and costs for absolute strategies program, and the schedule of commission and fees (see table).

According to the case study, in the fiscal year ending June 30, 2011 CalPERS’ expense ratio was 1.7 per cent for internally managed funds, 1.6 per cent for externally managed funds and 1.7 per cent overall.

This is significantly greater than CalPERS’ peers globally.

 Associated with transparency

A 2012 CEM Benchmarking study, which examined the organisational design of 19 of the world’s largest funds with average assets of $90 billion, found these funds spend an average of 46.2 basis points on external management, compared to 8.1 basis points on internal investment capabilities.

Ang, who describes the case study as “sad”, says not only is CalPERS paying significantly more than its peers in investment expenses, but because of its reporting it is difficult to see where value is added.

“The fund can start a reform process with transparency. They are transparent, everything is there, but they are opaquely transparent and need to report meaningful numbers,” he says. “For example, there is not one MER number recorded – the case study had to calculate both the total internal and external costs.”

Associated with transparency, Ang says, is the way the fund uses benchmarks.

“With more successful funds, the benchmarks are often simple, stable and easy to follow. They represent a
feasible alternative to the investment strategy in an indexed way, then you can see the added value.”

With CalPERS, he says, it is hard to see the costs and how much value is being added.

“For example, the fund has a huge cost for real estate but you can’t see what they’re spending it on,” he says.

“This is a clear symptom of management. You manage what you measure but you can’t see it directly at this fund. All this money is going out the door and you can’t see what it is for.”

The case study points to a number of political and governance issues the fund will need to overcome in order to position itself for success.

But on the investment side it also details the reactive nature of some of the decision-making, including the lack of a strict rebalancing policy before 2007.

Ang says lobbying for legislative change would be the best, but most difficult, way to make changes to the fund.

“It’s difficult because it requires political willingness, which is very difficult, but it could create something: a phoenix from the mess,” he says.

“But really working within the current structure of piecemeal reform is necessary. CalPERS could look to emulate best practice of funds within restrictive circumstances, for example, Alaska, which has done well on a shoestring budget.”

Ang, who will teach the case to his business class in the fall with an emphasis on the tremendous opportunities for change at the fund, says he deliberately didn’t speak with anyone at CalPERS “because I wouldn’t get approval”.


CalPERS investment expenses in 2011 (thousands of dollars) 
AUM Expenses Expense
Internal expenses
Consultants and professional services 87,337
Cost of lending securities 44,631
Real estate 1,893,044
Other 576,541
Brokerage costs 48,948
Total internal 155,781,798 2,650,501 1.7%
External expenses
Domestic equity 12,492,750 83,281 0.67%
Domestic fixed income 899,122 9,217 1.03%
Global equity 12,720,128 57,472 0.45%
Inflation linked 2,376,846 81,669 3.44%
Real estate 17,063,352 288,299 1.69%
Consultants 48,707
Attorneys, custodian and others 76,643
Alternative investments 34,398,914 658,879 1.92%
– private equity 28,908,879 516,858 1.79%
– absolute return strategies 5,490,035 142,022 2.59%
Total external 83,507,665 1,310,930 1.57%
Total AUM 239,289,463 3,961,431 1.66%

Source: “California Dreamin’: The Mess at CalPERS”, Columbia CaseWorks

Collated from the Comprehensive Annual Financial Report (CAR) 2011 and Annual Investment Report 2010 and 2011

    David Hartley

    A “total” MER is practically impossible to determine. Money flows from individuals to individuals and anyone who takes payment along the way can be said to be taking a “fee” by whatever name. To get a total fee one would need to take into account the interest margin that a bank takes on loan, the underlying staff costs in listed companies, embedded fees in ETFs and a virtually limitless range of euphemisms for taking fees. Not to do so risks a victory of form over substance.
    For example, if a listed company undertakes trading activities and 50% of the gross profits are distributed to staff in the form of salaries and bonuses, why should this be allowed to appear as a zero fee relative to an “expensive” hedge fund that distributes, say, 20% of gross profits to staff in the form of salaries and bonuses? I am by no means suggesting that hedge funds are “cheap” but in this example the hedge fund actually offers a better share of the economics to investors.
    I have a solution to this conundrum but .. not enough space to detail it…

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