Heads I win, tails you lose. It is a pervasive characteristic among the practitioners of “modern” finance, whereby new methods of fleecing the public are re-branded as “innovation”, the circumvention of existing law is “skill”, and the ability to obfuscate risk is called “talent”. Herein I will attempt to present the darker side of the manner in which your money at MOSERS is being “invested”.
MOSERS PR has skillfully created a mirage of stability, from the typical politically-correct, demographically-diverse chorus of smiley faces on its website, to informational “coffee-breaks”, and repeated references to superior investment performance. All that has been so effectively spoon fed to its stakeholders should not be accepted at face value.
1. MOSERS operates a large portable alpha program called “the alpha pool”. Consisting of exposure to hundreds of hedge funds, such a strategy entails a high degree of leverage and inherent risk. The presence of this allocation may not be apparent to the layperson gradually browsing their website, as their asset allocation breakdown does not graphically depict this multi-billion dollar exposure.
2. MOSERS accounts for the risk of such a hedge fund program by measures of beta (relative risk, correlation with the market) and standard deviation (absolute risk). However, it is a well-known fact that reliance on these backward-looking risk measures is not at all appropriate and potentially catastrophic during market turmoil. The simple fact remains, no matter how you repackage it, the attempt to enhance returns through implied leverage involves a high degree of RISK.
3. Hedge fund strategies, rather than being “market neutral” (not correlated to the market), have the undesirable characteristic of becoming highly correlated with the market at only the worst times. The return profile looks similar to that of selling an insurance policy….in return for a small annual premium, MOSERS takes the risk of an eventual catastrophe. Prudence is not exemplified by “picking up nickels in front of a steamroller”. Even during periods of stock market tranquility, betas are exaggerated on “down” days versus “up” days.
4. MOSERS staff bonuses are based on return/risk measures that are not appropriate. They are merely being rewarded for taking on financial risk that will inevitably present at some indeterminable time in the future. In order to retain bonuses and notoriety, they are trading a decrease in portfolio volatility in the short term for a tail-risk event in the future that will put a tremendous funding strain on the State of Missouri.
5. Hedge funds are notoriously opaque and the hedge fund due diligence staff at MOSERS has only the illusion of control. In reality, very few of these hedge funds will divulge what their current activities entail, but rather what the strategies/exposure were at some time in the past. It feels “safe”, and is good PR, to have a very highly paid investment professional with multiple professional designations rubber-stamp such exposure, but in reality this professional only knows the true extent of the underlying activities when an anomalous outcome occurs.
6. Risk aside, if it is possible to distinguish the winners from the losers in the hedge fund world, such proficiency is most likely not due to manager skill, but rather the clout and purse of MOSERS as an institution. The MOSERS name, with its sheer size of financial resources, is a valuable relationship for some of the most exclusive hedge funds.
7. Rather than manage funds internally and be responsible for the outcomes, MOSERS hires external managers. This is a very valuable scapegoat option. When investment outcomes are favorable, MOSERS staff takes responsibility. When outcomes are unfavorable, guess who gets the blame – those “irresponsible” hedge fund managers.
8. Such a large exposure to private investments probably allows MOSERS to influence the timing of revaluation of such investments. The true portfolio volatility of a private equity portfolio is not readily observable in the marketplace. The ability to control the stale pricing of certain investments will cause the overall fund to appear less volatile than is otherwise the case.
This set of issues is neither exhaustive, nor immediately curable. I encourage anyone interested to contact MOSERS for more information, but don’t be surprised if your FOIA request gets denied. Transparency and stakeholder education are paramount to a healthy pension portfolio. Do not allow the stewards of your retirement money to excessively lever while portraying an illusion of control and financial stability. This brand of financial “sophistication” is just a cleverly constructed and public relations-friendly strategy to take on more risk to speculatively minimize future State contributions. Furthermore, do not view any one of these excessively paid investment professionals as the “Joe Montana” of the pension world, but rather the equivalent of an insurance salesman who is not prepared to take responsibility when the inevitable catastrophe protection is demanded.
If anyone’s curiosity is such that they wish for me to expand on any of the aforementioned, I will be glad to share additional information.
For further information on risk obfuscation, refer to Nassim Taleb’s Technical Papers Associated with The Black Swan: The Impact of the Highly Improbable (2007-‐2010).
The preceding is my belief based on my perception of available information and experience. Please independently confirm before accepting these assertions as fact.
MOSERS: Anatomy of Risk Obfuscation 