By Heather Gillers
A Texas pension fund lost about $9 million over the past 13 months investing in U.S. regional banking firms just days before their stock prices collapsed.
The bets on New York Community Bancorp, First Republic Bank and SVB Financial Group were tiny compared with the $38 billion in assets that the Texas fund safeguards on behalf of retired public workers. But they show the challenges for pension managers trying to make opportunistic wagers on investments that look cheap.
Employees Retirement System of Texas, or ERS, disputed the idea that the bank trades were risky and said overall pension-fund returns are strong. ERS returned 7.5% annually over the decade that ended Sept. 30 last year, slightly beating the median from Wilshire Trust Universe Comparison Service. Last year, ERS lagged behind the median by about half a percentage point.
"Our strategic focus is to build a well-diversified portfolio that delivers attractive risk-adjusted returns for the entire $38 billion," said investment chief David Veal, who took over the pension fund's portfolio of stocks, bonds, private equity and other assets in August 2021. "Focusing on a relative few poorly performing stocks out of hundreds of holdings misses the much bigger picture."
Hundreds of U.S. state and local government pension funds around the country manage a total of about $5 trillion. Their investment chiefs can earn some of the highest salaries in state government. But they often struggle to produce consistently strong returns. One study found many state pensions would do better with a cheaply run, set-it-and-forget-it portfolio of stocks and bonds.
Instead, many have turned to complex and speculative investments, often in an effort to plug shortfalls without using up more taxpayer dollars. Public pensions had about three-quarters of the amount needed to pay future benefits as of 2022, according to a 2023 survey by the National Conference on Public Employee Retirement Systems, thanks to decades of underfunding and market losses. At ERS, that figure was 71% as of August.
Some investors were surprised by the regional bank bets at the Texas fund, which serves about 430,000 current and retired Texas employees including social workers, state police and prison guards. David Merkel, principal with Ellicott City, Md.-based Aleph Investments, said he would avoid buying stock in a troubled bank where the best conceivable outcome is an investor rescue package or a bailout.
"I personally don't think it's a great strategy," Merkel said.
Last year's regional banking crisis was triggered by rapidly rising rates that drove down the market value of banks' long-term holdings and prompted depositors to flee. Silicon Valley Bank and Signature Bank collapsed and First Republic narrowly survived. New York Community Bancorp has floundered this year in response to concerns about its commercial real-estate holdings.
The turmoil has dinged other retirement funds, including the California Public Employees' Retirement System, the nation's largest pension. But the Silicon Valley and Signature Bank stocks in Calpers' portfolio were generally multiyear holdings, not bets made on the way down.
ERS's bets on NYCB and Silicon Valley Bank were the brainchild of Brandywine Global Investment Management, a subsidiary of Franklin Resources. ERS contracts with Brandywine, an outside adviser, to manage a small portion of the pension fund's $13 billion stock portfolio. ERS staff execute trades in the Brandywine-advised portfolio but they must generally follow the adviser's directions.
On March 9 last year, ERS's Brandywine-advised portfolio added $2.8 million of shares in Silicon Valley Bank, according to trade records viewed by The Wall Street Journal. The next day, regulators closed the bank down.
"We entered the position understanding we could lose money," a Brandywine executive wrote to an ERS manager on March 10.
The loss led one ERS staffer to suggest either ending the relationship with Brandywine or talking with the firm about how to prevent future missteps, emails viewed by the Journal show. An ERS spokeswoman told the Journal that the pension's staff "remains in continual communication" with external advisers.
Last month, the fund's Brandywine-advised portfolio added nearly $1 million in New York Community Bancorp shares after a fourth-quarter loss sent the stock plummeting, trade records show. "We believe the continued weakness in the share price is unwarranted," Brandywine wrote in its notes on the trade.
But the price continued to fall. When a rescue plan earlier this month prompted a small bump, ERS cut its losses and sold all its NYCB stock.
About $6.4 billion in institutional money is invested in the Brandywine strategy that included the NYCB and SVB bets, a strategy geared toward buying the stocks of companies the firm believes are undervalued. A Brandywine spokeswoman said the fund returned 15.8% for the period running from Jan. 1, 2023, through Monday.
In a letter dated March 6, the day of the NYCB loss, ERS requested to withdraw $150 million from the Brandywine-advised portfolio, which held $365 million as of February, according to documents viewed by the Journal. The ERS spokeswoman said it was a routine withdrawal to pay out pension benefits and redistribute stock gains.
ERS staff came up with another ill-timed bet on an ill-fated bank on their own. ERS added $7.7 million worth of First Republic stock to the pension fund's internal "Lone Star" stock portfolio in February 2023.
Unlike the other trades, there was little sign of the coming trouble. But the purchase brought ERS's First Republic holdings to nearly $30 million. Then ERS hung on to the stock even after it dropped to $82 a share from $115 in 48 hours. The pension fund sold all its First Republic shares at $30 a week later, taking an almost $6 million loss on the month-old shares.
The ERS spokeswoman said that the pension fund doesn't engage in speculative trading. She said ERS's trades in all three bank stocks were based on deep knowledge of the banks by ERS and Brandywine. She also said the $10 billion Lone Star portfolio returned 16.1% for fiscal 2023, beating the fund's chosen benchmark, an MSCI world index that excludes China, by roughly a percentage point.
ERS did dodge one bullet in the regional bank turmoil. The pension fund sold its stock in Signature Bank -- worth about $5 million -- in 2022.
Write to Heather Gillers at heather.gillers@wsj.com
(END) Dow Jones Newswires
March 16, 2024 05:30 ET (09:30 GMT)
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