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Taking Michigan's Retirement System Beyond its Borders
CEO Anne Wagner expands Municipal Employees' Retirement System of Michigan nationwide.
Anne Wagner, the head of the Municipal Employees Retirement System of Michigan, is not your typical fund management CEO. The 65-year-old went to Bible school in Chicago and founded a nursery school in a Mennonite community in rural Illinois before a divorce prompted her, at age 38, to return to her hometown near Lansing, Michigan, and take a job answering phones at a brokerage. Within a year she had risen to become an institutional bond broker, with MERS as a key client; four years later, in 1988, the pension fund tapped her to become its chief investment officer.
As CIO and then, since 2000, CEO, the unconventional Wagner has pushed MERS in bold new directions. The pension plan, which had $4.7 billion in assets at the end of last year, has pulled more of its fund management in-house and launched a variety of innovative programs, including a hybrid defined benefit/defined contribution retirement plan, retiree health care savings accounts and the nations first public sector multiemployer group medical insurance pool. Those initiatives have helped MERSs membership grow from 506 Michigan municipalities and counties with more than 1,500 separate benefit plans in 1996 to 721 public entities with more than 2,000 plans today.
Now Wagner is eager to push MERS onto the national stage, believing that the products and services it has developed for Michigan members will appeal to localities around the country. At her direction MERS established Tegrit Financial Group to expand its reach. The goal is for Tegrit to be a national resource for retirement systems, helping them administer and manage their money much the way TIAA-CREF does with universities. In the process, she believes that Tegrit can generate enough income to cover much of MERSs $40 million annual operating budget. "We want to help communities, but we also want to make money," she says.
The entrepreneurial effort stands in salutary contrast to the vast majority of U.S. public pension systems. Most are government agencies and lack the authority to independently set investment or benefit policies, let alone develop new services. Even though the meltdown of financial markets and rampant medical cost inflation cry out for innovative funding, only a handful of funds, such as the California Public Employees Retirement System, the nations largest, are seeking to recruit new members and expand their mandates. MERS, which Michigan hived off as a quasi-independent, nonprofit agency in 1996 to free the state of liability for local pension benefits, is the only public system to seek new members across state borders.
MERSs expansion beyond Michigan began last year when it set up Tegrit, a venture capital offshoot, to market its products to small retirement plans throughout the U.S. Tegrit is making its initial foray into the realm of pension administration software. Its long-term, and more ambitious, goal is to tap the giant market for management of retiree health care benefits, both for individuals and municipalities. Retiree health care funds are typically part of a retirement system, although they are kept separate from retirement accounts. Tegrit plans to build a business in two areas: offering 401(k)-like health care savings accounts and managing and administering money for other postemployment benefit trusts (OPEB). The market is huge. OPEB liabilities are estimated at $1.5 trillion nationwide.
The steady erosion of retiree health care benefits will help make health care savings accounts, into which employers and employees can make pretax contributions, more attractive. It adds up to a potential bonanza for Tegrit, which aims to help communities administer and invest OPEB and retiree health care funds.
So far, though, Tegrit has faced a tough slog, in part because municipal finances are under stress. It has sold its pension administration software, Arrivos, to only a handful of systems. And interest in its retiree health care investment products has been slight. "Some clients wanted to get in, and then uncertainty has put a lot of things on hold," says Stephen Garrow, Tegrits CEO. For its pension administration services, Tegrit charges a setup fee to cover costs of installation, customization and training. After that, it receives a monthly fee, which it doesnt disclose. Tegrit says it aims to collect 45 to 55 basis points of assets under management for administration services and an additional 10 to 50 basis points for money that it invests. Tegrit and MERS have talked about an annual revenue goal of $30 million, Wagner says.
Begun in 1946 by ten municipalities with less than $1 million in total assets, MERS was a typical state bureaucracy in the early days. Keen to open the throttle of the states economy, John Engler, the Republican who served as Michigans governor from 1991 to 2003, set out to privatize state services. By making MERS a quasi-independent nonprofit in 1996, Michigan shed its direct liability to the pension.
Alas, more funding is needed. At the end of 2007, MERSs funded ratio was 77 percent, about 10 points below the national average at the time, CIO Jeb Burns says. But MERSs investments have posted solid results: Its returns ranked in the top 33rd percentile of pension plans monitored by State Street Corp. in 2008. "We decided to underweight equities going into 2008 and overweight fixed income," Burns explains. MERS now targets 51 percent of its portfolio to equities, with 30 percent in bonds, 8 percent in private equity, 7 percent in real estate, 3 percent in commodities and the rest in cash. At the beginning of 2009, the portfolio included 37.6 percent equities and 35.5 percent bonds, compared with 48.4 percent equities and 31.5 percent bonds at the start of 2008. About one third of equities are passive investments managed in-house. Cash and Standard & Poors 500 index futures are self-managed as well. The board, which has authority over asset allocation, is likely to reconsider investment policy this year, with an eye to reducing risk in the fixed-income and equity allocations, says Burns. The portfolio is out of whack right now, with stocks about 12 points underweight. MERS aims to return to target ranges during the balance of this year, increasing exposure to high-yield bonds from traditional fixed income and offsetting the additional risk that entails by boosting the percentage of stocks that are passively managed.
In many ways MERSs disciplined approach is a reflection of Wagners flinty character. She grew up in a religious, working-class family in Laingsburg, Michigan. Her father, Thor Amundsen, was a Norwegian immigrant who didnt complete high school and worked as a lathe operator at Motor Wheel Corp. in Lansing, a wheel and rim maker that Goodyear Tire & Rubber Co. acquired in 1964. Her mother, Eliza, was of Puritan stock and worked as a bank teller and as a clerk at Sears.
Wagners early interest was teaching. She attended the Moody Bible Institute in Chicago. After three years, which included teaching stints in South Side housing projects, she earned a diploma in Christian education; then she enrolled at Bradley University in Peoria, Illinois, for two years, earning a bachelors degree in education in 1968. She married and had two boys, taught first and third grades, then started a nursery school in Washington, Illinois a small Mennonite community south of Peoria whose residents impressed her with their religious commitment to volunteerism. That penchant for service, as well as a knack for tough love and discipline, facilitated her career and shaped her management style.
A detour in her personal life led to an unexpected career change. In 1983 she divorced and returned to the Lansing area, taking a job answering phones at E.F. Hutton & Co. She soon became the offices insurance coordinator and, in less than a year, an institutional bond broker, where she discovered a love for sales and had MERS as a client. E. F. Hutton collapsed in late 1987. Wagner accepted a position as MERSs CIO in January 1988.
Wagner quickly began to exercise initiative at MERS. Her brokerage background, which focused on short-term instruments, qualified her to manage the systems cash holdings while leaving the bulk of the portfolio, then worth some $1 billion, in the hands of outside managers. In 1990, though, she brought in eight to 14 managers for new asset classes such as small-cap stocks and real estate.
Wagner became CEO in 2000 just as stock markets were beginning to tumble. Assets in the defined contribution plan, which MERS had added to its lineup in 1997, slid over the next two years. Today defined contribution accounts for just $28 million of total assets.
MERS responded to the market downturn with a slew of new products, including group life and disability insurance, the health care savings plan and the retiree health funding vehicle for OPEBs. The health care savings plan has attracted $17 million in assets and some 112 employers with 3,000 members. The OPEB trust funds have some 90 employers and $126 million in assets. In 2005, MERS introduced a pooled medical insurance program, the first of its kind in a public system. The following year it created the hybrid defined benefit/defined contribution plan, a low-cost alternative that pays beneficiaries roughly 1 to 1.5 percent of their final average salary for every year of service about half the level of most defined benefit plans. Employers and employees can also pay into a separate defined contribution account, with the employee bearing the investment risk. The plan has failed to catch on just yet; MERS has sold the product to only four employers and garnered just $20,000 in assets.
As its product lineup proliferated, MERS, in conjunction with actuarial and benefits consulting firm Gabriel, Roeder, Smith & Co., spent $6 million to develop customizable administrative software. Dubbed Arrivos, it was completed in June 2008 after four years of development.
MERS established Tegrit last year to market its products and services. The start-up is part of the pension funds $602 million private equity portfolio, which is managed by Credit Suisse Group. MERS owns 99.5 percent of Tegrit, and Credit Suisse owns the rest. So far, MERS has injected some $30 million of the $100 million that it has made available to Tegrit, says Tegrit CEO Garrow. Tegrit, which has its own management, used the money to lift an eight-person team of software developers from Gabriel, Roeder, Smith & Co. to form Tegrit Technologies. That division, based in Livonia, Michigan, now employs 20 people. Then it bought a minority interest in a small administrator of plans in Florida, the first of several planned acquisitions.
Tegrit sold Arrivos to the Arkansas Local Police and Fire Retirement System in November and then to the Employees Retirement Fund of the City of Fort Worth, Texas, in March. Garrow says he expects Tegrit to sign two or three more contracts this year. David Clark, executive director of the Arkansas retirement program, says Arrivos is well suited to handle the complexity of his system, which invests about $615 million for more than 450 employers with some 30,000 participants. About two thirds of member cities can now access the platform to report contributions and make payments, says Clark, noting that a lack of Internet connectivity in rural areas of Arkansas has prevented greater use of the product. The pension fund is paying Tegrit about $1 million during 2008 and 2009 to install and customize the software and train employees in its use, after which it will pay a monthly fee. "This has been a godsend," says Clark, noting that until recently, each members data had been stored on paper documents.
Tegrit has yet to land its first client in asset management or administration, which will be a challenging market to crack. It is set up to manage money through a separate division, Tegrit Investment Advisors. "As the only state system to target OPEB outside their borders, MERS can get first-mover advantage. But it needs to hustle faster to get into the market," says Girard Miller, a former Tegrit board member who is now a retirement consultant with PFM Group.
Wagner says developing MERSs presence outside Michigan will require a multiyear effort. "Were still building a reputation. I want to give this five years," she says. Wagner probably wont be at MERS that long. The pension fund has no mandatory retirement age, but she has begun thinking about winding down. The entrepreneurial energy shes unleashed at MERS seems set to live on, though.