Placement agents, intermediaries that make millions of dollars from public pension plans, can be best described as “just people with connections.” Essentially, they are brokers hired by investment companies to make contact with and find investors. Specifically, they aim to connect public pension funds with investment professionals who want to manage the billions of dollars controlled by a public pension. The process lets investment companies avoid paying salaried employees for the time it takes to track down investors.
Instead, investment companies charge a higher fee against the incoming revenues, the money that a client invests, calling them management or placement agent fees. Those higher fees are then passed along to the placement agent as payment for bringing in the new investor. There is no cost to the investment company. That’s because the fee is charged to the principle of the investor, and is not deducted from the standard management fee the company receives under the contract.
While that may sound like a great business plan for investment companies, the interplay between the higher fees and pension funds for government employees has caused quite a stir recently. For starters, a class action lawsuit filed this June by the City of Fort Wright, Ky., alleges that the board of trustees for the City’s pension fund breached its fiduciary duty, among other things, by putting the fund’s money in high-priced, low-yield alternative investments. The largest aspect of damages alleged in the complaint stems from fees paid by the board for the opportunity to be included in these alternative investments. Fees, like management and placement agent fees, are alleged to have exceeded $50 million in just five years. For example, the pension fund ended up paying around $2 million to a placement agent when the City connected with Arrowhawk Durable Alpha Fund. Absent the actions of the placement agent, the City probably would not have invested in the fund. Interestingly, it was a startup fund with no track record to support its viability. In 2009, the Kentucky pension fund invested $200 million with Arrowhawk, but by 2012 the fund was out of business.
Fort Wright is not the only one concerned about these additional fees. I predict there will be more suits, soon to be filed, looming on the horizon. Concerned with the fees, New York City just announced that the five boards in charge of the City’s $150 billion pension system agreed with the City Comptroller to ban placement agents from all transactions involving public pension funds. In 2009, New York City put in place a lesser ban on placement agents dealing with certain types of investments made by the City’s pension funds. But it contained some loopholes that have since been exploited by placement agents.
The 2009 ban was the result of an investigation conducted by then New York Attorney General Andrew Cuomo. That investigation uncovered a “national network” that “victimized states and taxpayers all across the country” and shows “the inherent risks” that placement agents pose. Interestingly, at one time, the SEC considered a ban restricting placement agents’ dealings with pension funds. But it appears that the SEC yields to political pressure and abandoned the plan.
It should be noted that public pension plans hold more than $2.2 trillion of assets and represent one-third of all U.S. pension assets. As one specific example, Blackstone, a Wall Street investment firm, has around $111 billion in its investment pool. Of that, $37 of every $100 comes from state and local pension plans. That means there are likely several other public pension funds that may be mishandling the funds of their current and future retirees by paying large placement agent fees, knowingly or unknowingly.
Investors should be aware of these excessive fees and talk to their board to discourage participating in those types of investments. The impact these fees have on a pension fund can cause drastic effects on the retirement prospects of public employees. If you need more information on this subject, contact Rebecca Gilliland, a lawyer in our firm’s Consumer Fraud Section, at 800-898-2034 or by email at Rebecca.Gilliland@beasleyallen.com.
Sources: http://pando.com and http://globenewswire.com
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