The California Public Employees' Retirement System is struggling. Over the last few months the press has been full of stories of troubles at this financial behemoth, which manages pensions and other benefits for more than 1.6 million California public employees, retirees, and their families. The problems are saddening, as CalPERS has been a beacon in the financial industry by promoting corporate responsibility and considering the societal effects of different investment strategies. Now it is a symbol of how all of us have been pawns in the rapacious games of Wall Street. It is time for CalPERS to take a step back and think about its future role.
Its recent problems occurred when it began getting involved with complex real estate and private equity deals to juice up its investment returns. In October, The Wall Street Journal reported that CalPERS had been forced to sell stock at a severe loss to raise cash to fund obligations that it had made to its real estate partners and private equity firms. Then, in November, the paper reported that CalPERS will take more than 100 percent loss on some of its gigantic real estate investments. How do you lose more than 100 percent of your money? You do it by borrowing money to invest in "surefire" deals that later turn sour. The most famous bad deal is the now-bankrupt Land Source venture, in which CalPERS is expected to lose $1 billion speculating on 15,000 acres north of downtown Los Angeles. CalPERS also still owns 288,000 vacant home sites in no less than twenty states, a development sure to bring more pain for the state's retirees. Pain is already on the way for cash-strapped government agencies and their employees, as CalPERS has announced plans to require additional pension contributions of 2 to 4 percent of their payrolls.
The just desserts from our orgy of real estate speculation are there for all to see, but the damage from private equity deals is still masquerading behind concerted obfuscation. Private equity is simply another name for leveraged buyouts, the deals that Michael Douglas' character Gordon Gekko made famous in the movie Wall Street with the line "Greed is good." After that morality play, LBOs went into hiding for a while, only to later reemerge as private equity deals with the willing help of entities like CalPERS. Pension funds competed to get into so-called "2 and 20" investments — deals in which the private equity moguls keep 2 percent of the principal and 20 percent of the earnings from the investment, thus making a king's ransom in both good times and bad. When the history of this financial period is written, most of these private equity schemes will be seen for what they are — attempts to make money for a few at the expense of the many.
In 2004, an embarrassed CalPERS had to settle a lawsuit brought by the California First Amendment Coalition by agreeing to provide information on the fees it had paid to these folks. Yet the retirement system did not stop engaging in such risky investments; in fact, it doubled down. Now, with the continuing liquidity crisis, the other shoe is dropping. The result is as likely to be as ugly as the pension fund's forays into real estate. How is CalPERS reacting? With incredible shortsightedness, the system has just announced new plans for private equity's latest flavor-of-the-month investments: infrastructure and forestry. The "forestry" initiative is sure to run up against environmental concerns. Meanwhile, "infrastructure investing" is red-hot in the fast money crowd now, based on a hope that large projects like roads, bridges, and other public transportation projects can be privatized using pension money from CalPERS and others. In other words, facing epic losses on its exotic investments, CalPERS has decided to get even weirder.
If you read the financial press, the CalPERS story sounds like one we are seeing in all sectors of the financial industry, with denials of culpability by all. What is new here, the cynics ask? No one saw this coming and everyone is suffering, they say. Even The Closer, Kyra Sedgwick, lost money in the Madoff Ponzi scheme. If The Closer can't figure it out, who can? They argue that if there is any blame we all share equally in it, from the Oakland homeowner, to the Fremont autoworker, to the tycoons across the bay.
But the real story is that CalPERS has hitched the wagon pulling California's retirees to the worst parts of the system that caused the financial crisis — and before it the decline of middle-class America. The East Bay is fortunate in that it has a middle class of creative jobs that will cushion, to some degree, the difficulties ahead. For much of the rest of the country, the decline in unionized manufacturing jobs has ended the ability of many to find a secure job with benefits.
CalPERS told the press this week that it intends to review its assets allocation decisions early this year, instead of waiting until 2010. It is time for the world's most important pension fund to ponder whether it should continue lending money to private equity barons who destroy good jobs and then grotesquely claim that the profits from these "rightsizings" are being used to secure the pensions of people who gave their working lives to California. Money from the likes of CalPERS is the oxygen for these private-equity moguls. It can be cut off.
The retirement system had a name much admired for its battles for proper corporate governance. It was among the pioneers of the effective use of large-scale proxy voting to attempt to corral ridiculous corporate salaries and has named the offending corporations when others were unwilling to do so. It has lost that positive image, but now it has an opportunity to do more. It is time for the system to get off the conveyor that eats good jobs so a small few can make a few more dollars. CalPERS has the opportunity to once again lead in a positive direction. It should consider this when searching for its next group of leaders and investments.
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