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BENEFITS BEAT
Moving Beyond Divestment
The tide may be turning against the practice of divesting pension funds from terrorist states. It's time for a specialized activist consortium on public-plan corporate governance policy.
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One of the most vexing problems of retirement plan administrators and trustees has been the multi-state lobbying of political activists — the ones who persuaded legislators to adopt laws that force public pension funds to divest from Sudan, Iran or so-called "terrorist states." These well-intended political initiatives are a festering sore for pension funds. They force public trustees to violate their duty of loyalty and put political interests ahead of the sole interest of their beneficiaries.
At minimum, divestment laws impose administrative headaches and financial losses on pension plans — losses that are not reimbursed by legislatures. At worst, they seriously impair investment returns and impose costs on future generations who will be forced to pick up the tab for investment underperformance.
My previous column on this topic established my point of view on this subject, which can be summarized as follows:
• Divestment is ineffective. It has no impact on the targeted country or political regime. The number of outstanding shares of stock doesn't change. Only the stock ownership changes as a result, which shifts voting power from those who care to those who don't care (and get a bargain for not caring).
• Divestment is costly. It results in administrative costs and unnecessary trading costs. It impairs portfolio returns by limiting the diversification and putting the pension plan in a sub-optimal portfolio
• Legislatures should reimburse these costs. They should put their money where their mouth is.
Interestingly, it looks like the tide may be turning. A recent Wall Street Journal article reports that in many states, public pension fund administrators have successfully shown legislators that divestment is bad public policy, or at least a costly public policy, and they have successfully beaten back several divestment bills in various states.
This is encouraging, but it may be just a short-term victory in a longer war. What I'd like to suggest is a more enduring, long-term solution to the problem public funds face in the political arena: a limited-purpose institutional consortium to organize and coordinate public pension fund activism policies in lieu of divestment.
Several large pension and retirement plans such as CalPERS, CalSTRS and TIAA-CREF have already organized shareholder activism and corporate responsibility programs. As long-term investors, they vote their proxies wisely with a view toward maximizing long-term returns and ensuring that management and corporate boards take a longer-term, sustainable approach to running their businesses. Sometimes they shake up management by opposing greedy compensation plans and self-serving governance policies.
Imagine for a moment that public pension funds worked together rather than individually to coordinate their voices in corporate meetings (both domestic and overseas) to oppose economic activity in countries targeted for divestment. Instead of selling their shares and losing their voice, they would instead gain immense clout to drive these targeted companies to adopt constructive business practices and improve the image of Western capitalism overseas.
For example, the consortium could introduce shareholder proposals to freeze business expansion in the target states unless the company pro-actively takes demonstrable and visible measures to improve the social conditions of the citizens of the target countries — and more than just offering employment to a select few who may be politically connected to the ruling regime.
For example, when the American oil driller Apache provides schooling to children in Egypt, it probably accomplishes far more good for that country than it could ever accomplish if political activists eventually force every pension fund to sell shares in the company simply because it conducts its business in the Middle East. Likewise, if the French company Total is forced to freeze its operations in Iran and make some social investments to show the people there a positive face of capitalism, because of American legislators' concerns over the potential risks of their investments in that madhouse environment, that might be smart business. The pension funds could maintain a diversified investment in the global oil industry in order to hedge their inflation risks and to provide COLA allowances to retired teachers facing $4 gasoline prices.
Making this happen is no small task. It would require the creation and staffing of a new organization (or at least a new department in an existing organization such as the Council of Institutional Investors or one of the national public pension associations). The costs of such shareholder activism would be significant and would require reimbursement from the state legislatures or the pension funds (preferably the former). But those costs are far less than the price of manipulating portfolios, suffering impaired investment returns and managing the politics of the current wave of divestment.
I would be willing to help build the organization if other leaders in the public pension community agree with me that there has to be a better way.
Girard Miller, an analyst of benefits and investments with 30 years of experience in the public, private and nonprofit sectors, can be reached at Girardinmalibu@charter.net. His general market observations and institutional investment strategies are his own and should not be construed as investment advice or recommendations concerning specific securities. More biographical information.