All public pension plans face risks that could result in situations where employees do not receive promised benefits. Frequently, this is unavoidable due to factors like securities market fluctuations, interest rate changes, liquidity demands, and inflation.
In addition, public pension boards have unique pressures due to the “hothouse” environment in which they operate. Political constituents like lawmakers, local politicians, the media, and citizen groups often try to influence pension policy which can create a lot of distracting noise. If not screened through a quality management system, board members can wind up chasing investment fads with chaos the result.
What may seem to be politically viable is many times downright foolish for pension boards from a risk management viewpoint. This can happen when:
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lawmakers vote to amend plans without following a defined process to evaluate the impact;
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benefit formulas increase obligations without considering demographic trends and available assets;
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rate of return assumptions are increased in order to reduce contributions but windup creating funding shortfalls.
Certain risks are preventable, serve no purpose, should, and can be avoided. A key risk that can be neutralized is governance risk. Governance risks occur when trustees invest plan assets in a way that needlessly under-performs expectations.
The 2000 study by the Association of Public Pension Fund Auditors, titled Public Pension Systems: Statements of Key Investment Risks and Common Practices to Address These Risks, stated “characteristics of poor governance may include incompetence, poorly or improperly defined roles, poor communications, failure to meet fiduciary responsibilities, lack of ethical standards and inconsistency.”
In 2003, this same organization issued its report titled Public Pension Systems-Operational Risk of Defined Benefit and Related Plans and Controls to Mitigate these Risks. This study described other hazards that many trustees and executive staff of pension boards face. Hazards include:
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board members and executive staff are not adequately trained and qualified to perform their functions and fiduciary responsibilities;
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board members and executive staff do not have the expertise to promulgate policies or operate the public pension plan;
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one or more board members and/or executives may not be independent, thus possessing a conflict of interest, and may not be performing their duties solely for the benefit of retirees and beneficiaries;
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involvement in inconsequential projects, causing critical functions to suffer.
What’s more, all retirement plans, including public pension plans, rely on outside contractors. Pension board members and plan executives are often at the mercy of these contractors when:
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the scope and the object of the contracts are not sufficiently defined;
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due diligence is not performed on major investment vendors and service providers like recordkeepers;
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service providers are not certified to provide fiduciary support services;
- investment vendors, service providers, and/or recordkeepers have conflicts of interest with the plan; and
- trustees fail to monitor investment vendors, service providers, and recordkeepers as defined in fiduciary laws.
In order to combat the potential problems defined in the above mentioned studies, pension boards should ensure that they use a “structured and methodical evaluation process.”
Recently, the Global Fiduciary Standard of Excellence emerged for all pension plans. Substantiated by the Uniform Management of Public Employee Retirement System Act, case law, and industry best practices it is a defined Standard that can help public pension trustees perform safely their investment and fiduciary responsibilities. It defines a management system that ensures safety and quiets detractors.
Roland|Criss trains trustees on the new Standard. Roland|Criss also developed a system that implements the Standard’s practices and helps avoid relapses.
The initiative to promote pension trustee excellence is governed by the Centre for Fiduciary Excellence (“CEFEX”). It is a certifying body that provides independent recognition of pension boards that can prove their conformity to the conduct defined by the Standard. Qualifying pension boards are evaluated based on a structured, methodical process and receive CEFEX’s mark of excellence. CEFEX selected Roland|Criss to manage its certifications in the United States.
Roland|Criss can assist public pension plans in three ways:
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deliver training in the practices for which trustees are legally accountable;
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install a management system that prudently guides investment decisions; and
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help certify public pension boards against CEFEX’s impeccable fiduciary standard of care.
