Andrew Ziegler, the CEO of Milwaukee-based Artisan Partners (assets under management: $19 billion), suggests that "the return of the grown-ups" would be an apt way to describe pension management in the past year.
"We had this long period when managers who didn't pay attention to valuations and who took indiscriminate risks were being rewarded," explains Ziegler. "Now plans are taking a more reasonable, realistic approach to investing. More of a premium is being placed on risk management and valuation sensitivity, and plans are jiggling managers around because the guys who took too much risk have been exposed."
If pension managers have grown more wary of risk, it may be because there's more risk to be wary of. The wobbly economy and the woebegone postbubble stock market forced managers to buttress the bond side of their asset allocations. "Last year was a year full of uncertainty," points out William Gross, the CIO of Pimco ($320 billion in assets). "Whenever such an environment exists, investors tend to move to the safest investment vehicles around, like bonds."
Pension managers also reemphasized risk controls and old-fashioned diversification. But then came two highly unnerving events outside of any risk control textbook: the terrorist attacks of September 11 and the stunning collapse of the No. 5 Fortune 500 company - Enron Corp. - in a scandal that cast suspicion on accounting practices, and thus reported earnings, across corporate America.
The result: an even greater preoccupation with ring-fencing risk amid a heightened struggle for decent returns. "Today plans are focused on extracting as much risk-adjusted return as they can get," confirms Christopher Pope, director of institutional marketing at Boston's State Street Global Advisors (assets: $808 billion). "We saw an absolute explosion of interest in enhanced indexing. Everybody is playing for basis points."
"The lesson from Enron," says Barbara Novick, head of institutional sales and marketing at BlackRock (assets: $238 billion), "was, Don't have too much exposure to any single security, no matter what your discipline." All that was pension management 101.
For the second straight year, fixed-income managers have seen a surge in business as pension managers try to regain their balance in an unsteady environment. Meanwhile, the postbubble disenchantment with volatile growth stocks and the return to fashion of investing fundamentals have been a boon for value managers.
The biggest percentage gain of any money manager in this magazine's 24th annual Pension Olympics (see box, page 86) was achieved by a value manager. Pzena Investment Management, the seven-year-old, New York-based value shop run by Sanford C. Bernstein & Co. alumnus Richard Pzena, saw its tax-exempt assets climb from about $1 billion to $2.4 billion.
But value's comeback is as widespread as it is strong. For instance, Baltimore-based Legg Mason, heavily identified with portfolio manager and value impresario Bill Miller, saw its U.S. tax-exempt assets swell by nearly $20 billion, from $76.6 billion to $96.6 billion, for the largest dollar gain of any firm last year (see box, page 84). Not all of that pelf was hauled in by Miller and company, however; the firm's fixed-income subsidiary, Western Asset Management Co., collected $13.8 billion.
Worried by growing risk on the one hand, pension managers are nervous about lagging returns on the other. "Suddenly, plan sponsors are looking at their actuarial targets of 8 or 9 percent and asking, Can I get there from here?" confides James Daly, head of institutional marketing at Legg Mason Capital Management, Legg Mason's institutional equity arm.
For both pension plans and large money managers, an increasingly popular strategy for augmenting returns is smorgasbord investing: making sure that you sample all possible styles because, as one veteran money manager puts it, "you never know what's going to get hot."
Sheila Noonan, head of manager research at Chicago consulting firm Capital Resource Advisors, reports: "A lot of plans are looking to see whether they have the correct mix of managers to provide broad coverage and diversification. In just three years we've seen the pendulum swing from large cap to small cap and from growth to value."
"This business does tend to follow returns," agrees Legg Mason's Miller. Dubbed a "new value" stock picker in the late '90s - he held both America Online and Amazon.com - Miller has steered his firm's flagship Legg Mason Value Trust fund to 11 straight years of outperforming the Standard & Poor's 500 index.
Miller contends that there's "no clean definition" of either value or growth. "You have growth companies that even though they have come down a lot are still overvalued," he says. "But you have some growth companies that seem undervalued. At the same time, you have stocks in the traditional value box that appear overvalued."
Striking the right balance between growth and value (however they're defined) is only part of the challenge. Pension managers must also adjust their mix of domestic and foreign stocks. That's becoming a trickier business. Pension managers have operated on the assumption that international stocks don't generally correlate with U.S. equities, thus providing welcome diversification.
The experience of recent years, however, has been anything but reassuring on this front: Instead of rising in seesaw fashion when U.S. markets decline, European and Asian markets have been all too sympathetic in sharing the misery. The Morgan Stanley Capital International Europe, Australasia and Far East index has produced an average annualized return of -5.1 percent over the past three years; this compares with -3.7 percent for the MSCI U.S. index.
Nevertheless, the long-term case for global diversification remains compelling, and most plans continue to work toward keeping 15 percent of their assets in non-U.S. stocks. Greenwich Associates estimates the current proportion at 11 percent.
Style is a new twist on international mandates. "Searches for international growth equity managers have surged," notes CRA's Noonan, who explains that midsize pension plans have traditionally employed one or two international managers with no thought as to whether they're growth or value. As it happens, many of the international equity managers hired extensively in the 1990s - firms such as Bank of Ireland Asset Management, Brandes Investment Partners and Templeton Investments - possessed a value tilt. Thus many plans are now moving to complement existing value managers, says Noonan. Some of the more cutting-edge funds, she adds, are trying to squeeze "more of a noncorrelating impact" from foreign investments by adding international small-cap coverage.
Fidelity Investments, the gold-medal winner in this Pension Olympics with 38 net client wins, attracted a number of new defined benefit investors to its international growth product. The Boston money manager added 14 such accounts, totaling $2.1 billion, last year. Its other wins came in small cap, large-cap core and fixed income. Overall, however, Fidelity's tax-exempt assets declined during 2001 from $385 billion to $368 billion, mostly as a result of market depreciation.
Fidelity, which had long neglected the defined benefit market, has increased from one to seven the number of salespeople it has calling on major consultants. The most recent add: well-known marketer (and former Buffalo Bills linebacker) Christopher Keating, who joins Fidelity from Deutsche Asset Management, which he helped to garner 17 net wins in 2001.
Index giant State Street took the silver medal with 24 net wins in 2001. Enhanced indexing proved to be a much stronger sell than straight passive management last year, and most of State Street's gains came in enhanced strategies.
Artisan, at the other end of the style spectrum, placed third with 22 new accounts. The seven-year-old firm was launched by Ziegler, formerly chief operating officer of Strong Capital Management, and his wife, Carlene, a small-cap portfolio manager at Artisan. This burgeoning boutique now has small-cap value, midcap growth and international growth products.
In a year when bonds handily outpaced stocks - the Lehman Brothers aggregate bond index gained 8.43 percent, quite a contrast to the Wilshire 5000 index's 10.96 percent loss - it was perhaps not so surprising that many plans upped their targeted fixed-income allocation, to reduce risk exposure, cut back on fees and perhaps even bolster returns. Other plans, though, took money out of appreciated bonds and put it into stocks in routine asset rebalancing.
"It's not clear whether the historical 10 percent rate of return will hold up over the next several years," observes Richard Horlick, who heads up Fidelity's institutional business. "So you have some plans devising strategies to get a higher return on equities and others that are looking to get a higher rate of return out of nonequities, such as bonds and alternatives."
Traditional passive investors fought to hold their own against their active-manager rivals, as most pension plans seemed to be content with their existing passive-active breakdowns. Barclays Global Investors, which had dominated past olympiads as indexing surged in the 1990s, struggled in both 2000 and 2001. The San Francisco firm, undergoing a management buyout, scored eight wins last year.
Aggressive U.S. growth shops like Putnam Investments and Janus Capital have been hurt the most. Janus has forfeited half of its assets since March 2000 (they now total $150 billion), while Putnam's assets dropped by almost one third, to $303 billion.
Another big growth manager, Alliance Capital Management, came in for sharp criticism - and the threat of a lawsuit from the Florida State Board of Administration - for its aggressive investing in Enron. Alliance allegedly bought 2.7 million Enron shares for the Florida fund in the six weeks before the company filed for bankruptcy in December. It sold Florida's entire 7.6 million-share Enron stake on November 30, at 28 cents a share.
Although John Meyers, a spokesman for Alliance, won't comment on any settlement discussions, he does say that "like thousands of other investors, Alliance was misled" on Enron. He also contends that over 17 years, and even after Enron, Alliance has earned Florida retirees more than $1 billion more than they would have made investing in the S&P 500.
Alliance's bet on Enron probably didn't have much effect on its standing in this Pension Olympics, as most pension mandates for 2001 were assigned before the energy company's collapse. Nevertheless, Alliance lost ground. The firm's institutional unit, Alliance Bernstein Institutional Investment Management, which incorporates Sanford C. Bernstein, the widely admired value shop that merged with Alliance in 2000, pulled off only nine net account wins in 2001.
What's the outlook for the second half of this year?
H. Bruce McEver, CEO of Berkshire Capital Corp., the New York investment bank that specializes in the investment industry, offers this forecast and warning: "The combination of economic and political uncertainty could prove a continued drag on the industry. That means it's more important than ever to have a broad product line - you want a full hand."
The Pension Olympics is based on data compiled by Port Chester, New York-based Nelson Information, then verified and revised for publication by Senior Editor Jane B. Kenney, Assistant Editor Erika Ihara and Staff Writer Rich Blake. The feature ranks firms that achieved the largest number of net new client gains from among the top 1,000 corporate, public and union funds in calendar year 2001. (All are major funds, the smallest of which had assets of about $607 million. Pension funds are not counted as gains unless they represent new relationships and were funded in 2001.) Defined benefit and defined contribution accounts are included; to be counted, the latter must include fund management, not recordkeeping or administrative services alone.