Public pension funds have been a "target-rich"
environment for unscrupulous individuals. Will greater public
scrutiny be enough to stop cronyism?
Public pension funds have been
a "target-rich" environment for unscrupulous individuals.
Will greater public scrutiny be enough to stop
First of a two-part series. The high-profile cases speak
for themselves: There was Connecticut State Treasurer (and
sole fiduciary) Paul Silvester, who had demanded and
received kickbacks from private equity firms doing business
with the state fund and finally was sentenced in November,
seven years after pleading guilty and agreeing to cooperate
with the authorities. Also setting a high-water mark for
sleaze was Miriam Santos, the Chicago city treasurer who
was convicted of extortion and fraud in connection with
solicitation of campaign contributions from firms doing
business with the city and blacklisting
The hard fact is that unethical dealings by public
pension officials, and particularly by elected officials
who serve on pension boards or appoint their members,
remain part of the landscape in many states. Misbehavioror
the appearance of itall too often involves high-profile
elected officials, and the size of the assets at stake and
the number of workers and retirees affected tend to be too
large to ignore.
The fishbowl-like atmosphere in which public funds
operate today is clearly a deterrent to criminal behavior.
Indeed, most public plansfrom large to smallhave never
been accused of harboring ethical conflicts. Even so, the
glass seems half-empty. Patterns of wrongful dealing, from
pay-to-play to outright extortion, are still everyday
occurrences at some of the largest public pension systems.
Securities and Exchange Commission rules that effectively
eliminated political giving by municipal bond fund
underwriters have, ironically, increased the incentives for
elected officials to seek campaign contributions elsewhere,
particularly from investment managers and other pension
vendors. Indeed, a whole new category of vendorlaw firms
specializing in investor lawsuitsnow appears to be
enmeshed in the pay-to-play pattern.
The Santos and Silvester cases, in particular, prompted
the SEC to embark on a nationwide study of pay-to-play
practices by state and local elected officials in charge of
pension assets. The study documented pay-to-play
allegations in 17 states and culminated in the drafting of
a stringent new rule. This rule would have barred
investment managers from receiving any compensation for
managing public money for two years after the firm, its
executives, or agents made a campaign contribution to an
elected official or candidate who could have influenced the
money manager's selection.
Not unexpectedly, the commission received a heap of
negative comments both from officials of large public funds
and from investment firms, mostly arguing that it was too
stringent and a restraint on free speech. After SEC chair
Arthur Leavitt left office, the momentum for a nationwide
rule dissipated. Indications are that, in many places,
public fund portfolio management remains a game of
A recent telling example occurred in Maryland, where
money manager Nathan Chapman, an investment manager who ran
money for the State Retirement and Pension Systems, was
fired early last year for allowing one of his submanagers,
Alan Bond, to buy stock in Chapman's own company. The $25.3
billion state pension fund lost some $4 million on its
investment in eChapman, an Internet investing start-up. An
internal investigation following Chapman's firing revealed
that Peter Vaughn, chief executive of the State Retirement
Agency that oversees investment of the $25 billion state
pension funds, earlier had directed CIO Carol Boykin to
halt an inquiry into Chapman's dealings with Bond. Vaughn
and Boykin both subsequently left the agency and have
declined to discuss matters there.
The plot thickened last summer when federal prosecutors
began probing the relationship between Chapman and Debra
Humphries, one of the pension system's trustees. At the
same time Chapman was indicted for the illegal investments,
Humphries was charged with failing to reveal to a grand
jury that Chapman had given her $46,000 in money and gifts
while they were personally involved. Humphries, a bond
manager with Potomac Asset Management, did not recuse
herself from board decisions involving Chapmanindeed, she
had opposed his firing. It also emerged that Chapman, who
chaired the state university system's Board of Regents, had
recommended Humphries to then-Governor Parris Glendening
for her post as a pension trustee (see "Oh, Maryland!"
August 2003). In August, Humphries pled guilty to lying
about the cash she had received.