Around the time of Woodstock and the team of Armstrong and Aldrin setting foot on the moon, a study was conducted on delayed gratification. The experimenter: Stanford professor Walter Mischel PhD. The subjects: 4-year old's. The reward: Marshmallows.
To measure patience around delayed gratification, Mischel and his research team sat 4-year-olds at a table and placed a marshmallow in front of them. The child was offered a proposition: Eat that marshmallow now, or wait a tortuous 15 minutes, and be rewarded with a second marshmallow for their endurance.
Mischel's, now famous Stanford Marshmallow Study, followed the children in two follow-up studies in the 80's and 90's over the next 30 years of their lives. Mischel found unexpected correlations between the results of the marshmallow test and the success of the children many years later, documenting that those children who could abstain from eating the first marshmallow earned higher SAT scores, achieved higher educational attainment, and maintained lower body masses.
The child was offered a proposition: Eat that marshmallow now, or wait a tortuous 15 minutes, and be rewarded with a second marshmallow for their endurance.”
Turns out, patience- and by extension, delayed gratification- is a virtue.
Similarly, the ability to postpone immediate gratification, and instead chose to invest savings for one's future contributes to an individual's ultimate financial freedom and greater options in life. Despite this, US tax laws have incentivized Americans to save by giving them an immediate tax deduction now by contributing to a 401k or IRA, only to have to repay those same tax savings back later when they retire. Kind of like: We will give you a marshmallow now, but you have to give it back to us later.
In 1997, the Roth IRA was born. The Roth option didn't entice taxpayers with an upfront tax deduction, but provided an offsetting reward that the taxpayer never had to pay any tax on the withdrawals. The Roth IRA was like a Cayman Island bank account, free from the eyes of the IRS.
Originally, the drawback to a Roth IRA was that the accounts were limited only to taxpayers with moderate incomes. Then, in 2006, Congress expanded the Roth mechanism to 401k's plans, and by doing so opened up the Roth tax benefits to taxpayers in all brackets.
Reducing the traditional 401K and IRA versus the Roth decision to its simplest form: If you think your tax bracket might be lower in retirement, take the upfront tax deduction offered by the traditional 401k and IRA today, and pay back the taxes in a lower tax bracket in retirement. If you think your tax bracket might be higher in retirement (or government budget deficits will increase future tax brackets) opt for the Roth now, and be rewarded with a lifetime pass from future higher tax rates.
As a CPA, I would have thought that there would have been a greater mass migration to Roth 401k's, Roth 403b's, and Roth Deferred Comp plans. There wasn't. While these Roth pension savings vehicles may not be for everyone, there are three factors I believe blind investors to their benefits:
Cash Flow: For an employee in a 33% tax bracket, a $1,000 contribution to a traditional 401k plan results in an immediate $333 larger paycheck. Or worded differently: A $1,000 traditional contribution only costs an employee $667 after tax savings. On the other hand a $1,000 Roth 401k contribution costs $1,000. Postponing the marshmallow-sugar high tax savings of $333 requires more patience, calculation, and delayed gratification.
Wealth Effect: Let's say in the prior example's tax brackets, a husband contributes $1,000 to a traditional 401k, which really only costs a net amount of $667. His wife, working for the same company, can only afford to save the same $667 net amount, but opts for a Roth 401k. After many years in the exact same investments, the husband's account grows to a value of $1,000,000 while his wife's only grows to $667,000. While the husband feels like his account is more substantial, the reality is that both the husband and wife have the same net values in their accounts. The husband has an eventual $333,000 tax lien to pay back taxes, whereas his wife does not. Thus, the traditional 401k can create an illusion of wealth. Or, it can create a false mental comparison of the $1 million 401k value being equivalent to a million dollar house or even a million dollar Roth 401k account. It is not!
Partial Financial Advisors: Because a financial advisor, brokerage firm, or 401k administrator are often compensated on a percentage of an account size, they receive more income and have a beneficial interest in promoting the husband's $1 million investment in a traditional 401k than the wife's $667,000 in a Roth 401k- even though, after taxes, they are both equal in value.
Consult with your tax advisor about whether a Roth 401k, Roth 403b, or Roth deferred compensation account is best for your particular financial situation.
Investing is often framed by professionals seeking your business to be more complex than it actually is. Too many bells and whistles often mask inferior products. Remember that the attractiveness of the salesperson is often inversely correlated to the quality of their product. But we have a new paradigm: Invest and tax plan like a four-year old waiting for your second marshmallow.
Deferred Comp Update:
In answer to many of your questions about my recent articles, now 100 days later and counting, the San Francisco Employees' Retirement System's (SFERS) CEO still has not answered my questions.
At the February 8, 2017 Retirement Board meeting (two hours and 46 minutes into the meeting when it was proposed that an audit of SFERS $2.8 billion deferred comp account would only cost each of the 30,0000 D.C. Plan participants $1, the Chairman Comp Committee, firefighter Joe Driscoll vehemently objected. Joe asserted he wanted to protect City employees from the $1 per person cost of an audit. That's ironic, because Joe said nothing in 2009, when SFERS' deferred comp plan investors lost $4,000 on average due to failed investments in derivatives. Save a dollar, but lose four thousand of them? No big deal. Way to set your priorities, Joe.
Lou Barberini, CPA lives in San Francisco's West Portal neighborhood. Feedback: Lou.firstname.lastname@example.org
Happy New Year!
Over the past several months, I authored several articles for this newspaper on the peculiarities of how the San Francisco employees' $2.8 billion Deferred Compensation plan (Deferred Comp plan) is administered. The Deferred Comp plan allows employees to save additional funds for retirement to supplement their City pensions. The employees have worked hard to save money for their families and retirements, and they deserve to be ensured their savings are secure and present when they need them!
By extension, I have contended in these articles that if the San Francisco Employee Retirement System (SFERS) neglected to apply fiduciary care to the Deferred Comp plan, it may be reasonable to extrapolate that fiduciary care may also probably be lacking on the management of the larger $20 billion public pension fund, the pension for which taxpayers are ultimately on the hook.
Two months have passed since our meeting. I have twice emailed Mr. Huish requesting answers to our questions, yet Mr. Huish still has not answered questions 2, 3, and 4…"
On November 21, 2016, another CPA and I met with SFERS Executive Director Jay Huish and posed four questions:
Question #1: Has SFERS hired an independent CPA firm to audit and authenticate the existence of the assets in the SF employees' $2.8 billion Deferred Comp plan. Because Prudential Insurance commingles numerous cities' investments into one unsegregated account, the actual existence of San Francisco employees' investments is in question. The Prudential Insurance contract with San Francisco gives great flexibility for Prudential to maintain records of how employees' investments would have performed, without actually investing the money. Mr. Huish confirmed my worst fears: While SFERS includes Deferred Comp values in their annual report, they do so without an independent CPA firm and without verifying that all of San Francisco's employees' investments actually exist at Prudential Insurance.
Question #2: When SFERS prepares its annual report, were independent documents provided to confirm the values of public employees' Deferred Comp assets or is SFERS just accepting Prudential Insurance's word. Mr. Huish said that every five years, when public employees' assets are transferred (called: "churning") to a new insurance company, the assets have correlated to what the insurance company had been reporting. That was sufficient assurance for Mr. Huish. I reminded Mr. Huish that during the SFERS 2009 insurance company switch, a significant $100 million deficit in assets surfaced. Those assets had vaporized without a trace. Mr. Huish said he would get back to me with the documents on which SFERS based its annual report.
Question #3: Why does Prudential keeps two sets of books by creating a secondary unit price for each public employee's investment that is different from the underlying fund share price the employee believes he is investing in. Mr. Huish said he would get back to me.
Question #4: If Prudential Insurance's product is manufactured out of Prudential's "insurance and annuity" division is this not in fact an annuity? Recall an elected Retirement Board Commissioner claimed annuities are "inferior investments." Mr. Huish said he would get back to me.
Two months have passed since our meeting. I have twice emailed Mr. Huish requesting answers to our questions, yet Mr. Huish still has not answered questions 2, 3, and 4 above. Mr. Huish's silence is deafening and speaks volumes about the integrity of both the Deferred Comp plan and the separate and larger SFERS pension fund. The fact that he cannot answer question #2: where does SFERS get the data that supports SFERS' annual report, is a gigantic, cautionary red flag!
On another deferred comp matter, six months have passed since I asked Prudential representatives about the government-issued "license plate" (CUSIP) number of the deferred comp components, and I have received the same answer that Mr. Huish gives me: silence. However, in November, Prudential Insurance registered that they paid $20,000 to have two San Francisco lobbyists represent them. Why does the incumbent Deferred Comp Plan manager need a lobbyist to hold on to this City contract?
This article is not intended to serve as financial advice, but to point out where investments may be negatively affected when due diligence and fiduciary care apparently have not been applied. Based upon the opaqueness of records, silence from the fiduciaries, and even the question of the existence of the entirety of the Deferred Comp plan's assets, it would be advisable for all San Francisco Deferred Comp investors to consult with their independent advisors or CPA's on how to proceed with their Deferred Comp investments.
Make sure to have your consultant factor in Mr. Huish's employment record at UC Berkeley's pension system. As the December 12, 1995 San Francisco Chronicle reported, Mr. Huish "compromised UC procedures," had a "disregard for apparent conflicts of interest," and hired a friend's friend who had just been released from prison for defrauding the government. That Huish-hired employee then allegedly defrauded the UC Berkeley's pension. UC Berkeley put Mr. Huish on leave and he was hired by SFERS.
Lou Barberini, CPA, lives and works on the Westside. Lou.email@example.com
After two years of relying exclusively on MUNI, BART, and my Bianchi, last year I broke down and purchased a car− my first new car in twenty years. Negotiating for a car has become much simpler. Immediate mobile phone price comparisons have squeezed dealers' commissions and forced dealerships to rely more on volume and customer service.
Similarly, internet price comparisons have reduced fees on mutual funds investing.
When I purchased my car, I delivered a check and told the representative I would pick my car up the following week. The rep said he would register my car with DMV and it would be waiting for me in stall #1234. By happenstance, the next day I invested in a mutual fund. I wrote a check and the representative offered to send me the shares or the company would hold my shares in account number #1234. Pretty simple. Pretty similar transactions.
why has the San Francisco Employee Retirement System (SFERS) left public employees' $3 billion deferred comp so convoluted that no one can define what type of investment it is?"
So with technological advances, it causes one to question why has the San Francisco Employee Retirement System (SFERS) left public employees' $3 billion deferred comp so convoluted that no one can define what type of investment it is? Allow me to apply SFERS methodology to a hypothetical example of a car purchase, where the car is the metaphor for an investment in a mutual fund. If you find the complexity of my example discouraging, you should question whether your entire investment exists, and who is holding the shares that do exist.
Assume a San Francisco police officer, a fireman from Seattle, and an accountant from El Paso visited a car dealership to purchase cars for their children that were scheduled to graduate from college at the end of the semester. When the three public employees pulled out checkbooks, the dealer advised them, "Don't write the check to us. Make your check payable to State National Life Insurance." The fireman protested that he didn't need life insurance, whereby the salesman responded, "By writing a check to the life insurance company, you will acquire the car for a cheaper price." The police officer, obviously the smartest person, inquired, "Businesses all try to eliminate the middleman, but you are adding a middleman, and claiming that this will lower the cost? Is the life insurance company working for free?"
One month later, the accountant from El Paso visited the salesman to take a photograph of the car her son would receive upon graduation. She asked what stall her son's car was parked in and the salesman responded: "Your car is actually registered to State National Life Insurance Company and parked in their lots. The insurance company has converted your ownership into three 'units' which act like a claim voucher." The accountant pressed, "How do I know that State National Life actually purchased my car and that they aren't just using the float on my money until my son's June graduation?" The salesman's answer: "Trust us."
There are four primary problems with this scenario, and by extension SF's deferred comp:
First, to accept that adding an extra insurance middleman-layer lowers costs requires a willing suspension of disbelief.
Second, if car buyers are not provided evidence of owning a specific car, and they don't need the car right now, one can question whether State National Life is buying the car or substituting a cardboard replica until the buyer actually needs the car.
Similarly, Prudential's contract with the city, (Item 5(a)) provides Prudential with the flexibility to replace derivatives, futures, and options for the mutual funds investors think they are buying. These esoteric instruments are leveraged, risky, and complex; and allow Prudential to mimic a mutual fund's investment performance for a fraction of the investment outlay. This frees Prudential to use some of deferred comp investors' money for other Prudential uses. In 2009, one of the SFERS' deferred comp components lost over $100 million from derivatives− not a temporary fluctuation of price, but a permanent vaporization of the investment.
Third, because investors' cars are not earmarked and they instead acquire a proportional interest in State National Life's entire fleet, if the Seattle fireman's check bounces, that has the effect of reducing the value of everyone else's "claim vouchers."
Likewise, Prudential's marketing brochure describes how every public employee from Seattle to El Paso to San Francisco has his or her investment commingled into one big multi-employer account. Thus, even if SFERS claims that their members are pure of derivative diseases, the fact that SF employees are swimming in the same infected pool with other cities means that the financial health of SF's assets are still subject to the contagious Prudential contracts with other cities.
Fourth, like FDIC insurance, SIPC insurance exists to protect mutual fund investors from transgressions up to $250,000. The security of that SIPC insurance is forfeited when Prudential alchemizes mutual funds into one large insurance account.
Prudential's annual independent audit verifies the assets on Prudential's books. However, that audit does not investigate the security, composition, or proportional value of San Francisco's $3 billion stake in the great Prudential commingled account. The only way to confirm that a) Prudential actually invests 100% of San Francisco's money, and b) San Francisco's assets are segregated from the contractual whims of other municipalities; would be for SFERS to present the account statements from Vanguard and Fidelity. If the Vanguard and Fidelity statement values do not exactly match the values SFERS disclosed in their annual report, the annual report must have been based on conjecture.
As discussed above, embedded in SFERS' 2008 annual report, were the spreading sparks of disparity between what SFERS reported as balances and an investment component that was evaporating. The end result: a $100 million firestorm that the next generation of city employees had to replenish. Without an independent audit, or SFERS providing the source documents for their annual reports, investors' are doomed to repeat themselves.
I met with SFERS Executive Director Jay Huish on November 21st and presented him with the aforementioned issues.
Lou Barberini is a West Portal CPA. Feedback: Lou.firstname.lastname@example.org
All across the country cops hear it, "If it weren't for that gun, you wouldn't be so tough!" Yet, both the accusers and police know that the police officer's gun is not their most effective tool; it's their radio. For all a police officer has to do is broadcast a three or four-digit code and either an entire district, an entire municipal force, or surrounding counties will respond to the officer's request for help. It is the principle of wave after wave of additional officers arriving that allows a force of one thousand to provide safety to a city of one million.
Firefighters should feel offended by Joe's lack of watch-my-back due diligence: It's a mutual fund that invests in other mutual funds? Really Joe? It's not just the gigantic $3 billion size of Joe's fellow public employees' assets, it's that each dollar invested represents coworkers' sacrifices and dreams of a better life for their family."
Teamwork starts the first day. Rookie police and fire recruits are measured not by their arrests or demonstrations of bravery, but on the simple test of whether they will drop everything to immediately respond to a coworkers call for assistance. Protecting each other's back, not to be confused with a wall of silence, is the pillar of public safety. Recruit, do you have my back?
The question is whether public safety officers protect their coworkers' backs to the same degree once the uniforms come off. Consider the issues I raised in the June edition of this newspaper regarding the Retirement Board meeting comments captured on video by elected commissioner and the Chairperson of the deferred comp committee, Joe Driscoll. At the April meeting, Joe specifically brought up my name and stated he was familiar with the inferiority of annuities, while ensuring that San Francisco Retirement System (SFERS) had not limited SF employees to annuities as their deferred comp option.
Two months after I contacted Joe, he doubled down in an email to me writing that Prudential's product "is a mutual fund that invests in other mutual funds." Not only does this sound nonsensical, I believe Joe, in his role as a fiduciary, has made a material misstatement of fact.
First, if Prudential created a mutual fund to invest in existing mutual funds, Prudential's new mutual fund would have to register the mutual fund and obtain an identification number, like a license plate, called a CUSIP number. I found no evidence of a new mutual fund identification number. Three months have passed since I asked the Prudential Vice President on Key Accounts whether a CUSIP exists for this new mutual fund, and I am still waiting for an answer.
Second, with an apology for the technical nature of this one paragraph, Prudential's contract with San Francisco's deferred comp plan allows Prudential "to invest in contracts issued by an insurance company including separate account or comingled separate accounts." Section 5(e) goes on to discuss the parameters for a "group annuity." By coincidence, Prudential's marketing brochure (RSBR852 June 2013) that was provided to SFERS is titled in the same language: Insurance Company Separate Account. Further, on page three: "These investment vehicles are made available through group annuity contracts issued by the insurance company (Prudential) to ….. government plans."
Not only is the word "mutual fund" absent from the documents, but it appears that Prudential's account with San Francisco is an annuity, specifically a group annuity. The differences is that the mutual funds are held in an insurance annuity vat or keg, instead of served in individual 12 ounce annuity bottles. This would mean that Joe has voted on numerous occasions to direct his fellow firefighters to an investment he defines as "inferior." The magnitude of this mischaracterization is magnified exponentially by the almost $3 billion size of this account.
Unlike me, I am not sure whether Joe has ever experienced a "406," whereby an entire public safety force has responded to help him. Also unlike me, Joe has never spent a single day in financial services where a client's whole financial life is in your hands. In both situations, the enormity of trust and responsibility is humbling, and it is my gratitude and loyalty to the uniforms that is the impetus for this article.
Firefighters should feel offended by Joe's lack of watch-my-back due diligence: It's a mutual fund that invests in other mutual funds? Really Joe? It's not just the gigantic $3 billion size of Joe's fellow public employees' assets, it's that each dollar invested represents coworkers' sacrifices and dreams of a better life for their family.
Similarly, taxpayers should also be extremely concerned that, if this is an indication of Joe's curiosity and financial expertise on a simple deferred comp plan, what exertion is he making on his hedge fund and Chinese A-share adventurism for the $20+ billion city pension, the plan for which taxpayers have ultimate responsibility?
Joe, let me prep you for when Prudential clouds the arguments made by this article. The most recent SFERS annual report states the value of the June 30, 2015 SF deferred comp investment allocated to the Vanguard 500 Fund is $199,014,798. If Prudential's assertion that they act "solely as a record keeper" is true, than Prudential should be able to provide a June 30, 2015 Vanguard document, titled in SFERS' name, for the exact amount of $199,014,798.
Joe, please ask for this documentation, and if Prudential does not supply the Vanguard statement, do the right thing and request an audit from a national CPA firm. While, Macias Gini & O'Connell CPA's conducted an audit on the $20 billion SFERS pension, it appears the $3 billion deferred comp has not been audited. Joe, its time to rejoin the team, and protect your fellow firefighters' financial backs.
You are welcome to email me for copies of the aforementioned brochure or contracts.
Lou Barberini, CPA Lou.email@example.com
The shade of the grandstand enveloped home plate in shadows as the ballpark sat nervously on edge. Sergio focused on Buster's pumping fingers; then glanced over his left shoulder. Clarence "Preppy" Vanderbilt, the multi-sport USC grad, with a gliding shuffle step, slowly crept off first base. The leading base-stealer in the National League, Vanderbilt, was a threat to steal second base and disrupt the deadlocked game.
|Dodgers C #55 Russell Martin (R) steals second by getting by Angels SS #2 Erick Aybar (L) during the Angels vs Dodgers game at Dodgers Stadium on June 30th 2010 in Los Angeles.|
Standing on the hill, Sergio, petrified like a statue, focused his attention again on Buster's fingers. Time appeared to stand still despite the draining sands of summer's hourglass. Tick-tick-tick……
Boom-boom! The calm was shattered with Sergio's cobra-fast pirouette towards first base, and point-three seconds later, Belt's mitt slammed into Vanderbilt's outstretched back. Safe! Belt casually tossed the ball back to Sergio as Vanderbilt stood, dusting the dirt off his pants, and nodding sarcastically. Without even returning to the mound, Sergio again fired the ball to Belt who again applied a hard message tag to Vanderbilt's left thigh.
Also, like Sergio, if a rookie is specially assigned to a volatile, active area; their performance should never be compared to the veteran, who is coasting into retirement in the sleepy, fog-blanketed districts.”
Vanderbilt glared at Sergio: "F$!# you. You are a positionist!"
"What? A contortionist. Ya, I know. I'm pretty flexible."
"No, A$$h@l+! You are a positionist. You judge me and treat me differently because of my position in the batting order. You have tried to pick me off 10 times in the last two days. Our pitcher makes it to first base and you don't throw over once? Because his position is a pitcher, like you, you treat him better than me? My career counts!!"
"Dude, it's your actions that matter. You crouch down, in a sprinter's position, 15-feet away from first base. Your pitcher stands daydreaming, only 3-feet from first. You put on special gloves to slide into second base while your pitchers don jackets that create wind resistance. I judge you strictly on your mannerisms. I think it's reasonable that my suspicions are aroused."
"That's B.S. If I had 'pitcher-privilege' you wouldn't make me dive into first and risk injury- you positionist!"
As Sergio's and Preppies' voices elevated, homeplate umpire Gary Gannon closed in on the mound to break up the argument.
Vanderbilt pleaded his case: "I have to dive into first more than anyone on my team creating more injury potential. It's because of my leadoff position in the batting order that Sergio profiles me. I'm just one of twenty-five players on my team. Thus, I represent 4% of my team and yet I receive 60% of my team's pickoff attempts. That's disproportionate and evidence of systemic positionism."
Sergio countered, "Preppy, you learn that math at the University of Spoiled Children? You are demanding that pickoff attempts have to be equally distributed amongst your team irrespective of the player's speed or frequency of actually being on base?"
Umpire Gannon interceded: "Vanderbilt has made some valid points and the numbers do seem to be slanted against players in the leadoff position."
"No those numbers are specious. Everyone knows Vanderbilt reaches first base four times more than any pitcher in the league. In fairness, the amount of the pickoff attempts I make should be compared to the players actually on the basepaths, and those hiding on the dugout bench should never be factored into this equation. Don't let him cherry-pick the numbers!"
"Look how dirty my uniform is compared to my teammates? Its because of your bias against leadoff batters."
Gannon weighed: "His pants are filthy. Have you considered the psychological effect on Vanderbilt?"
"Gary, that's anecdotal!! Bochy only directs me into problem situations. When I enter a game, there's always a threat on the bases. Yet, you compare my statistics to other pitchers who get to start fresh innings with no base-runners? Compare apples to apples before you draw conclusions."
Gannon stroked his chin: "The frequent pick-off throws are obviously upsetting the leadoff batters' self-esteem."
"Preppy, have you ever heard me say anything derogatory to you as a leadoff hitter or to other leadoff hitters?"
"No, I haven't."
"Gary, you hear that? I have never been accused of disrespecting leadoff hitters. Please judge me on how I personally treat leadoff hitters on a case-by-case basis."
"Yes, but I have to discourage these risky pickoff plays. My ruling, from this point forward, is that I am going to bundle pickoff attempts into three successes. If you successfully catch a base-runner off first base three times, those three successes will equal one out in the game."
"You got to be kidding me? You are creating a disincentive to containing runners! The balance of the game is at stake!"
"There are disparities, therefore there must be prejudice against leadoff hitters. Now play ball!"
Up in the Giants' radio booth, Kruk and Kuiper conducted their postgame analysis and described how it was only the seagulls that remained to witness the conclusion of the 24-22, six-hour contest.
Mike Krukow chuckled, "But then again, those seagulls got to see a new baseball record of 34 stolen bases in a single game."
Duane Kuiper closed: "Ya know, Mike -no one savors statistics more than I, but I can't stand when players cherry-pick numbers that present an unfair portrayal of what really transpired. Just like the seagulls were the only ones staying for today's disaster, our citizens remain to pay the burden when advocates skew figures just to advance their agenda and disparage public servants. Preppie Vanderbilt taking a gigantic lead and donning special sliding gloves is like the slowly moving car that continuously circles the city block despite ample parking spots. Both deserve greater scrutiny. It is inefficient for a pitcher to apply equal attentiveness to the base-runner standing only inches from a base as it is for a police officer to investigate a grandmother driving two miles over the speed limit. Sergio's pick-off attempts on Preppie were actually proportional to his impact on the game.
"Also, like Sergio, if a rookie is specially assigned to a volatile, active area; their performance should never be compared to the veteran, who is coasting into retirement in the sleepy, fog-blanketed districts.
"Rudeness and prejudice do exist and are neither acceptable on the field nor on the street. However, each player or officer's acts should be evaluated on a case-by-case basis. Ignoring exculpatory statistics, like weighing a benchwarmer's impact the same as an all-star base-stealer's, creates a false ratio and does not justify the demonization of the public safety officers that risk their lives to make our city a better place."
Lou Barberini is a San Francisco CPA who lives and writes in West Portal: Lou.firstname.lastname@example.org
Joaquin “Jack” Corrales’ patrol car glided along the Great Highway as he admired the narrow sliver of tropical hues resting on the inky Pacific and weighed by the seasonal gray dome. This was the extent of the daily sunset out here: nature’s taunt to the locals that the rest of the world was experiencing a more uplifting summer than those on the west side.
The man in the leather jacket mocked Corrales, “You’ve got to ask yourself one question: do I feel lucky? Well do you cop?”
The radio interrupted the tranquility, “Citizen says suspicious person wandering around Golden Gate Park windmill. Dark leather jacket. Has unknown object in his hand.”
The advent of cellphones has exponentially increased the citizen calls for San Francisco Police Department’s service. Corrales calculated that cellphone technology revolutionized solving crimes, though it had also stimulated some of the citizens’ television-influenced imaginations. How many times was the unknown simply imagined?
Corrales notified the dispatcher that he would look for the suspicious person and drove the remaining length of the Great Highway to the windmill parking lot. Dusk was rapidly yielding to nightfall. No cars. No people in sight.
Corrales prided himself on consciously serving the public, and took the extra precaution to ensure there was no one even behind the windmill. Jack got out of his car and walked into the park.
As he circled behind the windmill and approached the blind spot, he unfastened his gun and held it behind his rear. While he needed to be prepared for the worst, he did not want to startle an innocent citizen, but the park was desolate of either a threatening situation or an ordinary citizen. Corrales returned to his patrol car as his adrenaline rush transitioned to the emergence of an appetite. Where to eat? A hamburger? Italian?
Then, another spike of adrenaline rose up his back. On the other side of his patrol car was a man in a dark leather jacket, pointing a gun, waiting for the officer. Corrales had never seen such a large gun. When the hoop appears twice as large to Stephen Curry, or the baseball looks like a grapefruit to Buster Posey, this concentration level is extolled as the zone. With every brain cell in his head racing into overdrive, it is safe to assume Jack’s brain similarly interpreted the gun to be larger than it was.
His hand still holding his gun, Corrales eased his firearm up to counter the man in the leather jacket. Corrales knew that time and distance was his friend though radioing for backup might disrupt this equilibrium.
The man in the leather jacket mocked Corrales, “You’ve got to ask yourself one question: do I feel lucky? Well do you cop?”
Jack’s mind drifted to kissing his children goodbye, playing catch with his father as a young boy, the day he proposed to his wife. So this was what your life, flashing before your eyes, feels like.
“Put the gun down!!!”
The man only laughed loudly.
Corrales’ mind sprinted: “What’s the mental state of a person that points a gun at a police officer? This man is not sane. Is this blue suicide?” The television-obsessed citizens will ask, ‘Why didn’t you just shoot the gun out of his hands?’
If this turned into a shootout, and the man is struck as he turned to his side during the volleys, it would trigger ‘Police Violence’ headlines, the new popular phrase enamored by local columnists.
Jack processed: “When did defending myself become police violence? Who expanded the definition? If I’m violent for defending myself, isn’t a fireman guilty of violence if he ventilates a wall? Does a ‘destructive act,’ even to a wall, not meet the literal definition of ‘violence?’ Why don’t I hear about Firemen violence?
“Why am I considered violent if I fire my gun in self defense, but a career criminal, who happens to be incarcerated for drugs (this time), gets released because drugs are non-violent? In this era, even Al Capone would be released. ‘What’s that, you want to lock me up for tax evasion? Talk about non-violent crimes!’
“What if the gun is plastic? Another set of problems. I understand proportionality. Is my use of deadly force not appropriate for a man with a toy gun? The media will destroy me with their second-guessing. ‘Why didn’t you taser him? He had just recently begun to turn his life around.’
“And if the gun isn’t plastic? Taser? Useless. I’m dead, my kids are fatherless. Either way, I lose.”
The stranger slowly started backing up, slithering towards the trees. “I just wanted you to know what its like to have someone jack you!”
Corrales weighed: “What if this unstable person leaks back into society? I should be the wall. It is my responsibility to protect the public.”
Then his mind refuted, “Maybe it is a plastic gun. This is probably just a 5150 psych service case. If l bring him for a mental health evaluation, he will be back here in 72 hours.”
Lou Barberini, CPA, lives and works on the Westside. Lou.email@example.com
"I have spoken to Mr. Barberini in the past. They keep raising up issues, its not a matter of misinformation, even when we give them the correct information, its just they don't seem to want to understand. That's number 1. Number 2, Members can buy annuities if they want, but we do not offer tax-sheltered annuities. I am very familiar with the investment inferiority of that product. To defend something we don't do seems a very odd use of time."
Commissioner Joe Driscoll, Chairman, Deferred Compensation Plan Committee, San Francisco Employees' Retirement System, Retirement Board meeting April 13, 2016 at 2:41.
This is Commissioner Joe Driscoll's response to my March Westside Observer article in which I questioned why the Department of Labor has upgraded the standards of service requirements for private sector employees' 401k plans, while leaving public employees' similar retirement plans virtually unprotected.
Commissioner Driscoll's statement is an apparent contradiction. He states that he knows annuities are "inferior products;" yet over the past 30 years, he has voted in favor of SF's employees Deferred Comp (DC) Plan being limited to annuities from Hartford Insurance, Aetna Insurance, ING Insurance, Great West Insurance, and Prudential Insurance's insurance product. In terms of offering investments, an insurance company can basically only offer life insurance or annuities. Thus, either Driscoll has voted for a product he opines is "inferior," or he should explain how Prudential's insurance product differs from an annuity.
I asked Joe again: “Over the past 35 years, can you name a single city employee that has received a life insurance payout from our DC life insurance product?”
To reconcile Driscoll's board meeting comments with my understanding of Shakespeare's paraphrase, "An annuity, by any other name, is still an annuity;" on May 3rd, I emailed, and hand-delivered via SFERS, the following four questions to Commissioner Driscoll:
If this is not an annuity, why is it distributed through Prudential's "Retirement and Annuity Company?"
Considering that Prudential's Fact Sheet states these investments are not mutual funds or separate accounts, what precisely is this product?
With regards to my not understanding Joe's answers, from our meeting at 800 Bryant Street, I asked Joe again: "Over the past 35 years, can you name a single city employee that has received a life insurance payout from our DC life insurance product?"
Why is there a disparity between Prudential claiming that the ending April price on the Vanguard S&P 500 fund (VIIIX) was $23.86, while Vanguard states that the actual closing price was $188.85? Is this a bait-and-switch?
Commissioner Driscoll has not acknowledged receipt of or responded to my questions. And while he may believe that this is "an odd use of time," participants in SF's DC plan should be extremely concerned about these unanswered questions for three reasons:
First, why would anyone generate the extra work and headache of subdividing Vanguard and the other funds, into two different share prices and two sets of books?
Second, Prudential Insurance has gone to great lengths to disclose they are merely record-keepers and "participants' accounts are not separated." The implication is that Prudential does not take possession of any of the underlying fund shares. So which company actually holds these mysteriously-priced shares?
Third, if San Francisco employees' shares are not held separately, then does that translate into all of the firefighters in Driscoll's department having their DC's investments comingled into one big account? And if there are "no separate accounts," does that mean that firefighters from other cities have had their accounts merged with SFFD's investments? And finally, since we don't know where the unsegregated shares are, then what assurance does Driscoll have that Prudential Insurance does not carry every U.S. firefighter's investments as a Prudential asset on Prudential's own balance sheet? In that manner, Prudential can borrow against the nation's firefighters' assets; which of course makes Joe's coworkers' vulnerable to Prudential's creditor's claims.
There is a solid reason why there are two sets of books, SF employees have been limited to insurance annuities, and the city's contract with the outside consultant alleviates them from putting the San Francisco employees' interests before their own. It is called: slipping into the shadows of weak insurance regulation to avoid SEC oversight. But don't worry SFFD, when AIG Insurance recently teetered on bankruptcy, the government bailed them out.
The intention of this article is not to discount Commissioner Driscoll, but to address his direct refutation, as chairman of the Deferred Comp Committee, to the issues I have raised. A distinction should be made between our respect for Driscoll's 40+ years of service as a firefighter, and his role as an elected fiduciary. A similar distinction must also be made between reading about finance, and the development of a professional skepticism that comes from "street smarts" earned by actually working opposite the Wall Street wolves. Overconfidence, an absence of curiosity, and a lack of appreciation for minute details can dilute a novice's analysis.
As an example, I initially tried to contact Driscoll, via his campaign flyer email address: . Except, that email address has never been activated. I also notice that his campaign flyer, which was recently mailed to solicit the votes of 20,000+ SF employees, had a quote from "Institutional Investing" magazine. But there is no such magazine. It is Institutional Investor. Driscoll's flyer, quotes "Joe Driscoll (is) 'a driving force' behind the success of San Francisco's retirement system." Yet the article actually states that Driscoll's role was significantly smaller and he was merely a "force behind investment innovation." Even more egregious, and thanks to the campaign flyer's link to the August 8, 2005 article, it forebodes: "Driscoll also pushed for the plan's new currency-overlay program." Had Institutional Investor waited eight years to revisit the program, which only Joe received Institutional Investor credit for pushing, the journalists would have been able to report that the currency-overlay program went on to lose approximately $60 million ($2,000+ loss per city employee.)
Last month, MetLife was fined over $25 million because numerous agents received overly generous commissions for churning annuities, but couldn't justify a significant benefit to their investors. In 2014, city employees' DC Plan was switched from Great West Insurance to Prudential Insurance with a savings of about $20 on a firefighters' $100,000 DC investment. The average insurance commission on that size account is $5,000. Would you believe a salesman who advised you to trade your car in to get 20 more feet, (not miles) per gallon? It makes you wonder how much some insurance agent pocketed to switch the $2 billion SF account, just to save a couple more "feet" for our firefighters?
For these schemes, Prudential has no liability and the City Attorney has contractually relieved the outside consultant's fiduciary responsibility. Thus, as a Retirement Board commissioner, Joe Driscoll is required to operate in a fiduciary capacity, is civilly liable, and is the last line of defense against salesmen whose interests, by their very nature, are on the opposite side of the negotiating table from city employees. I, for one, do not believe the aforementioned issues are an odd use of time of any person entrusted with the fiduciary responsibility for his fellow firefighters.
Lou Barberini, CPA, Lou.firstname.lastname@example.org >
The subject of this article is whether it might be easier to balance San Francisco’s challenging budget by switching the public employees’ $20 billion pension plan into a 401k plan.
Before I present my reasoning, I wanted to share with readers a unique investment opportunity. I know a guy in Italy, Giuseppe, who is selling his three million euros vineyard for only one million euros. My friend’s 10-acre vineyard is set on beautiful rolling hills that surround a Tuscan villa and swimming pool. A spaghetti drip system, with sporadic leaks, irrigates half the vineyard, while the other half’s more difficult terrain has to be hand-watered with a pail. The estate and the vineyard really capture the romance of Italy.
San Francisco Employee Retirement System tends to select the most expensive products with the weakest oversight and regulation. The newest adventure perpetuates SFERS’s habit of paying Wall Street financiers exorbitant, hedge fund-level fees. Only this time, SFERS’ is going all the way to China to circumvent US government oversight.”
There is just one small caveat, while you may buy the property for one million euros, the title must remain in Giuseppe’s name. It is your property, but the land deed still shows Giuseppe as the recorded owner. Don’t worry, everyone tells me Giuseppe is a good guy. E-mail me if you are interested.
Back to the San Francisco landscape. Many in the private sector and the media have argued that public pensions are neither viable nor sustainable. My recommendation is that we test their wishes and create a 401k alternative- let’s call it Luigicare. The four distinguishing tenets of the Luigicare 401k will be: 1) all public employee assets will be commingled, 2) We will hire a professional financial manager, 3) employees will get retirement withdrawals from their pension, based upon a percentage of their final year’s earnings, and 4) if an employee dies before they have exhausted their 401k share, those assets will remain in the plan for the benefit of the other public employees. Come to think of it, Luigicare looks an awfully lot like the current SF public pension.
Just as the vines on Giuseppe’s land require a certain amount of water to flourish, retirees require a certain amount of income to live on. Whether that water or income is delivered through the steady stream of a black-wired drip system, or provided on an as needed basis from a pail, is not important. Our current pension is not the culprit; it’s the leakage that creates negative perceptions and shortfalls.
In my recent articles, I have shown how the San Francisco Employee Retirement System (SFERS) tends to select the most expensive products with the weakest oversight and regulation. The newest adventure perpetuates SFERS’s habit of paying Wall Street financers exorbitant, hedge fund-level fees. Only this time, SFERS’ is going all the way to China to circumvent US government oversight
We must ask: which SFERS employees are proficient in the infant Chinese market rate economy and its government’s experiments with regulations and stimulus? Which City Attorneys are versed in Chinese contract law?
Most San Franciscans believe that the city hires fairly competent finance people to work at SFERS. Several members of SFERS staff are top 1-percenters in annual public salary. The question is whether these 1-percenters recognize the risk of giving Giuseppe one million euros for property whose title will not transfer. A conclusion can be reached because that’s exactly what the SFERS executives are proposing. Chinese law fiats that Chinese A shares cannot be titled in an American’s name. Thus, the SFERS staff is proposing to send $400 million of taxpayers’/public employees’ money to two Chinese Giuseppes, who will buy Chinese A shares in their own names.
While trillions of Chinese nationals’ dollars are stampeding out of their country in search of more stable currencies, SFERS is confident they recognize value better than these locals. While our President is addressing rising tensions in the South China Seas by repositioning our navy, SFERS has no fear of risking San Francisco taxpayers’ money in the same turbulent vicinity. This is the same staff that proposed lowering the pension’s risk by fleeing US Bonds to the “safety” of hedge funds.
Will San Francisco get its money back if the rhetoric over China’s sand island expansion heats up? Folks, its not the return on the pension’s principal that’s important, it’s the return of the pension’s principal. It’s the leakage, not the conduit or the pail, not the traditional pension or the 401k.
If you think this $400 million investment is inconsequential in relation to the size of our pension, please examine the recent class action suit filed against the advisors to the Dallas Police-Fire pension because of “huge losses” and for the “reckless and improper advice” that occurred from complex investments. The Dallas Morning News (4/5/16) reported there were allegations of self-dealing and over $300 million of high-risk investments had to be “written-down.”
In December 11 & 12, 1995 articles, SFGATE documents how a SFERS one-percenter, at his previous job, mismanaged “conflicts of interest, hired a friend that had already served federal prison time for defrauding the government, conducted superficial background checks, and entered transactions that were not at arms length.” He was placed on administrative leave and the next employer to hire him was SFERS. If you are not troubled by this culture, then my friend Giuseppe has a great deal on a 10-acre plot on Pluto.
Lou Barberini is a San Francisco CPA living in West Portal email@example.com
Our society relies on trust. We put our faith in restaurants to serve us the freshest food, we rely on our neighbors to watch our homes, and we trust our lives to traffic controllers and pilots when we are 30,000 feet in the air. Yet, when it comes to financial advice, too frequently financial advisors put their commissions before the interests of their clients. To address this conflict, the Department of Labor has a proposal before Congress that requires financial advisors to "act in the best interest of their clients." Yet, while our federal government moves to increase investor protections, the San Francisco Retirement System (SFERS) has failed to keep pace with this trend.
... there is great consistency here between this deferred comp insurance product, and the Retirement System's desire for hedge funds in the taxpayer funded pension: seek the most fee-laden, opaque investment, in an environment with the least government oversight.”
San Francisco public employees are covered by a traditional public pension that is funded by taxpayer and employee contributions. Employees also have access to an optional, 401k-type account that is commonly referred to as "deferred comp." The money that goes into deferred comp comes 100% from the sweat equity of the employees. Unfortunately, through a quirk in the tax law, deferred comp receives no protections from the Department of Labor and the proposed fiduciary law.
SFERS has used a small Santa Monica investment consultant as traffic controllers to both the $20 billion pension and the $2 billion deferred comp plan. Per the firm's SEC filing, none of its other clients have been directed to the same investment runway to which SF employees have been steered. That is just one of the many issues that should raise concerns amongst San Francisco employees on whether anyone has assumed a fiduciary responsibility over their deferred comp account.
1) Per a Retirement Board member and the Santa Monica firm's SEC filing, the consultants have only one public pension plan as a client- San Francisco,
2) The Santa Monica consultants have chosen to direct participants to mutual funds packaged in a life insurance product. This maneuver obviates the SEC with the weaker Department of Insurance. It is like putting a few car parts in an airplane and claiming your jurisdiction should be moved from the FAA to the California DMV- an agency with lighter regulation standards,
3) Is a consultant qualified to recommend insurance if they do not possess an insurance license?
4) As disclosed at a public meeting, not one city employee has ever received a death benefit from this life insurance over the past 30 years,
5) Unlike mutual funds, these life insurance contracts do not allow the purchaser to receive a volume discount for the size of their account,
6) Over the past 30 years, deferred comp has been churned from Hartford Insurance -to Aetna Insurance -to ING Insurance -to Great West Insurance -to Prudential Insurance. If a retail financial advisor switched insurance carriers every time a client's contract terms matured, they would lose their license.
7) The SEC website warns against using these life insurance policies inside a pension plan (Google: "SEC Variable Annuities"),
8) For the deferred comp plan, the Santa Monica consultants selected a money-market type fund, called a "stable value fund" that lost $100 million during the financial crisis. The fund lost money not from market fluctuation, but from investing in exotic, risky investments that became totally worthless,
9) As exposed in the Financial Times of London's blog (12/16/14), the husband of one of the partners at the consulting firm accepted numerous bundled political campaign contributions from financial institutions right around the time those financial institutions' products went into the SF pension. Subsequently, the Santa Monica firm's contract was not renewed for the $20 billion pension. However, they still manage the SF deferred comp plan.
10) As discussed in the San Francisco Chronicle (11/29/99), there has been a history of lobbyists getting paid to influence which financial institution earned the deferred comp account. If our consultants and Retirement System are making recommendations purely in the best interests for the public employees' benefit, why are lobbyists in the background?
SFERS had two almost identical, boilerplate contracts drawn with the Santa Monica firm, identical down to San Francisco's condition that the firm avoids using tropical hardwood. But, despite the specificity of flooring, in item #5 on page two of each contract, the wording radically diverges. For the taxpayer/employee funded $20 billion pension, the consultant agreed to offer a "fiduciary relationship." But for the employees' deferred comp plan, "fiduciary" was replaced with the concession to only: "act in good faith and in a professional matter." This difference in wording hardly seems inadvertent and goes against the entire federal trend of enhanced consumer protection. Hardwood floors seem to matter more than the fiduciary protection of employee assets.
For San Francisco deferred comp participants, first the tax laws did not include them under Department of Labor protection; then the Santa Monica consultants eliminated SEC oversight; and finally, on a $2 billion account, the city failed to negotiate for a "fiduciary standard." It is similar to a pilot navigating through a blinding fog, radioing the tower his instruments aren't working, and curiously, the traffic controllers directing the plane to the one runway blacked out by an electricity failure. This is the reason Forbes Magazine (2/14/13) described government deferred comp plans as the "investment backwater- the Wild West of retirement planning."
As it stands now, a San Francisco public employee can walk up to a random financial storefront and receive a better federally-imposed standard of care than they would receive by investing with the full strength of the City and County of San Francisco. But there is great consistency here between this deferred comp insurance product, and the Retirement System's desire for hedge funds in the taxpayer-funded pension: seek the most fee-laden, opaque investment, in an environment with the least government oversight.
If you are still confused about these deferred comp issues, email me: Lou.firstname.lastname@example.org.
Lou Barberini is a San Francisco CPA living in West Portal
The San Francisco Giants are second only to the Boston Red Sox in the price of beer at a ballgame. We accept this as a compromise for living in a highly desirable area of the country.
But what would happen if Bill Gates decided to purchase a small-market team like the Pittsburgh Pirates? And what if Bill decided to employ his great resources to lavishly bid for players and reward the Pirate fans? This much wealth suddenly flowing into Pittsburgh would spread inflation to every corner of baseball as owners struggled to keep pace with Bill's spending. Bill's actions would singlehandedly raise the salary bar, causing a trickle down increase for the Giants bidding for even mediocre players. The ripple effect would be more expensive game tickets and even more expensive beer at AT&T Park.
What is this EB-5 visa program? In exchange for a $1 million investment, a non-US citizen can obtain green cards and gain residency permits for their families.”
A deluge of money into a concentrated area tends to overflow its banks. The Wall Street Journal recently discussed the billions of foreign money flowing into US construction projects through a special EB-5 visa program. For instance, the builder of the second post-9/11 World Trade Tower was looking to raise $500 million through the EB-5 visa program. The former mayor of Oakland wanted to finance a new football stadium with EB-5 funds. The Huffington Post reported that EB-5 money has been earmarked to build 12,000 homes and 3.1 million square feet of office space on the old San Francisco shipyards.
What is this EB-5 visa program? In exchange for a $1 million investment, a non-US citizen can obtain green cards and gain residency permits for their families. The legislative rationalization for EB-5 visas is that the money must be applied to businesses, and that the money must create new jobs.
The topic here is not anti-immigration, but three separate issues: a) the new preferential treatment for wealthy immigrants, b) skyrocketing housing prices tied to the instability of other countries' economies and the resulting capital flight to the US dollar, and c) preferential visas that have not yet been factored into the inequality debate.
Have you ever gone to an airport and wondered why someone that purchased a first class seat through a corporation such as United Airlines receives preferential government treatment through a special TSA lane? That is pretty much the EB-5 message we send to people trying to enter our country. Foreigners can give money to private businesses and get priority services from our government. This is quite a change from "give me your tired and poor."
An EB-5 investment cannot fund a personal residence. Yet, it is difficult to argue that foreigners that have invested a million dollars in the US probably have some desire to purchase a home as well. The purchase of a US house parks capital in our stable currency, while protecting the foreigner from further fluctuations in their home currency. Much of this "parked capital" sits in vacant homes that have been bid up beyond the reach of US families.
The numbers on how many houses sit empty is not clear. The Wall Street Journal recently reported that in Canada, analysts have resorted to looking in garbage cans and checking utility bills to see if the houses are "ghost homes." By their very nature, unoccupied homes are volatile investment. Money that comes in quickly can leave just as fast, leaving Americans to suffer from a pricked housing bubble.
Chinese nationals' US home purchases increased 27% between 2014 and 2015. The amount of capital fleeing the turbulent Chinese Yuan is so great that under pressure from China, HSBC bank will no longer lend money to Chinese nationals buying real estate in the United States. China is by no means the only country competing with American homebuyers. Petro-economies such as Russia, South America, and the Mideast are saturating our east coast.
Over the past decade, China has overbuilt cities, anticipating a great migration from the rural lands to metropolitan areas. 60 Minutes (8/3/14) broadcast a segment on entire cities that were built, but continued to remain absent of people. Cheap money spurred building for the sake of building and the formation of "Ghost Cities."
This should raise Californian's concern for contagion. The Los Angeles Times reported that 85% of EB-5 money in 2014 came from China. How many US construction projects are being built just because so much EB-5 bubble money is coursing freely into our economy? Is the leaking air from China's bubble now inflating a US bubble an ocean away?
The media and presidential candidates have been touting the popular issue of "inequality" while EB-5 garners virtually no media attention. Over the first 40 days of 2016, the word "inequality" appeared over 150 times on The Chronicle's SF Gate website. The term "EB-5" appeared once. The premise of inequality is that the wealthy have benefited more from lower interest rates and our tax structure, than have the middle class and the poor. Those damn Google buses. However, the issue of inequality is more complex− involving automation creeping up the food chain; the middle class not reproducing; and longevity straining our health and social programs.
Are the wealthy really doing that much better, or are we just juicing richer immigrants into the wealth pyramid creating a more populated upper class? Is this any different than Mark Zuckerberg, Warren Buffett, and Bill Gates purchasing small-market sport franchises? If that were the case, it would be specious to claim that the owners were getting richer from the sport, and more accurate to say that more rich people were becoming owners. And for the simple beer-drinking bleacher bums, foreign economies will continue to drive up the local cost of living, inflate homes beyond our reach, and force us to pare the Lagunitas IPA's at the Giants games.
Lou Barberini is a San Francisco CPA living in West Portal
If you work for the city or if you are a city taxpayer, you should be concerned that the ultimate responsibility for the viability of the San Francisco public employees’ pension falls on your shoulders. With that in mind, consider this question: Would you prefer 1,000 additional police officers making our streets safer, or would you rather pay that money to Wall Street hedge fund managers? Do a few rich guys on Wall Street contribute more to our city than 1,000 new city employees?
...does it make sense to spend 2/3rds of the fire department’s budget on a few Wall Street hedge fund managers? We could hire a thousand more teachers, or a thousand more gardeners, or a thousand more police officers, or doctors and nurses for Laguna Honda Hospital.”
Over the past two years, the Chief Investment Officer for the San Francisco public pension, William Coaker, has advocated allocating 15% of the $20+ billion city pension plan to hedge funds. His rationalization is that hedge funds provide a cushion during a stock market decline and are less risky than stocks.
Opaqueness, Arbitrary Valuations, and Fees, Fees, Fees
What is a hedge fund? Let me provide a hypothetical example: As the theoretical manager of the West Portal Hedge Fund, I will use your public pension plan’s assets to invest $100 million in a package of West Portal businesses including the Empire Theater, Papenhausen Hardware, Barbagelata Real Estate, Trattoria de Vittro, and various others.
There will be many costs that you will incur as the beneficiary of my hedge fund. The first layer of fees will be paid to business brokers, property managers, attorneys, accountants, and of course San Francisco’s pension plan will have to hire more employees specifically to analyze my West Portal Hedge Fund.
The second drag on your pension’s income will be the 2% fee I charge every year on your $100 million investment whether the value of the fund goes up or stays flat. The third layer of fees will be my annual 20% cut on the profits on the West Portal Hedge Fund.
Calculating the value of the West Portal businesses is not a simple matter. If the pension invests in stocks or bonds, we can look at any newspaper and determine its exact value. In contrast, how will we determine the Empire Theater’s profits and its value? The ticket and popcorn sales are easy. But, how do we determine whether the theater building appreciated 5%, 10%, or 15% in value?
First, drop the “we.” As the hedge fund manager, I get to subjectively tell you how much I think the Empire Theater has appreciated. The higher my personal appraisal, the larger the base for my 20% cut.
Mathematically, if the West Portal Hedge Fund earns a 7.5% profit (4% income and 3.5% based on my evaluation), you get to keep $4.5 million and I get to keep $3 million. You risk $100 million, and I get to keep 2/3rds of what you receive without risking a penny.
A hedge fund is not liquid. Unlike a stock or bond, you can’t just sell out of it. And in 20 years, when the West Portal Hedge Fund is liquidated, neither Coaker nor I will be around to answer if the selling price is less than the total of my annual guesses on appreciation.
History of Underperformance:
Mr. Coaker has stated that he will look for the “rock stars” of the hedge fund world that will work for us and continue with a high level of success. This is the same pension plan that recently lost over $60 million ($2,000, per employee), investing in currency hedge funds. Mr. Coaker was asked, in retrospect, which hedge funds he wished he had invested in, but he has remained silent. This makes it hard for us to evaluate how hedge funds can help us. It is easy to predict the past. If a basketball expert cannot tell you he wishes he picked the Warriors last season, how can you trust who he will predict this season?
Both CALPERS, the gigantic California pension plan, and Warren Buffett, the greatest investor of our time, disagree with Coaker’s strategy. CALPERS recently decided to dump their entire hedge fund allocation. Buffett claims that an index fund, running on autopilot, can beat hedge funds because hedge fund fees create too strong a headwind to success. Buffett is so confident in his theory that he has waged a bet that the average hedge fund cannot beat a passive index fund. So far Buffett is winning because over the past five years, the average hedge fund has earned less than a 4% annual return.
We gained more context of hedge funds’ potential with San Francisco’s plan when a union attorney recently published the performance of the “gold standard of institutional investing,” the Yale Endowment Fund. In the union newsletter, the attorney claimed that not using the Yale hedge fund approach caused San Francisco’s pension plan to underperform over the past five years.
Thus, if we substitute the Yale gold standard numbers into San Francisco’s pension, we can compare the Yale performance to Warren Buffett’s simpler advice. While the union’s attorney is correct that Yale outperformed our pension plan, Yale’s high priced Wall Street managers could not beat Buffett’s robot-S&P 500 Index. A passive index fund beat the best minds by an average of 1.5% per year. It’s like Coaker and his proponents are selling us on replacing our reliable car with a Rolls Royce for our two-block commute; and while we are stuck in traffic, we watch our neighbor leisurely walk past us.
If we continue to apply the Yale performances to Coaker’s desired allocation, we can determine how much the Yale style would have cost us in hedge fund fees. For a performance that could not even beat a passive index, we would have paid hedge fund managers $220 million per year. That’s one billion dollars in fees over five years! The entire San Francisco Fire Department’s 2015 budget is $332 million; does it make sense to spend 2/3rds of the fire department’s budget on a few Wall Street hedge fund managers? We could hire a thousand more teachers, or a thousand more gardeners, or a thousand more police officers, or doctors and nurses for Laguna Honda Hospital.
Coaker’s final selling point is that a hedge fund will outperform stocks in a year when the stock market really declines. Remarkably, in the most devastating year during the middle of the Great Recession, the Yale Endowment declined 24.6% while San Francisco only declined 22.26%. San Francisco outperformed Yale in a down year!
Impetus for Hedge Funds:
In fairness to the commissioners on the Retirement Board, they have recently voted to cap hedge funds at 5% of the plan’s assets. And, in fairness to Mr. Coaker, every pension chief investment officer is trying to leverage his performance to obtain a better gig. If you are trying out for a major league baseball team, and you are a small second baseman, you have to swing for the fences to get discovered. Even if you are not a home run hitter, you have to take great risks and to play over your head to get noticed. Steadiness just does not attract attention. Unfortunately, when chief investment officers of pensions swing for the fences, they are playing with other people’s money- ours!!
Lou Barberini is a San Franciscan and a CPA living in West Portal
The Dangerous Neighborhood and Schools Act
The broken car window glass glittering on our sidewalks is as ubiquitous as the traffic congestion and the straining cranes dotting our skylines. The media is whispering that car break-ins for 2015 are up an unprecedented 50% from the previous year.
FBI crime stats show, that since January 2011, annual burglary, robbery, and larceny rates reversed a long decline and started an upward trajectory. By coincidence, in January 2011, former Mayor Gavin Newsom appointed George Gascon as San Francisco’s District Attorney.
Even realignment of California’s prison population to county jails cannot explain the deviation between San Francisco’s exploding larceny rate and the decline in such crimes in other large California cities.”
The FBI defines “larceny” as breaking into cars, stealing bicycles, shoplifting, and iPhone thefts. Since January 2011, most cities experienced a decline in larceny crimes: Los Angeles -2%, San Jose -7%, San Diego -1%, Chicago -18%, Detroit -24%, and New York up only +1/2%. San Francisco countered this trend with a 41% increase in annual larcenies. Even realignment of California’s prison population to counties jails cannot explain the deviation between San Francisco’s exploding larceny rate and the decline in such crimes in other large California cities.
It was from this 41% increased larceny platform, that George Gascon doubled-down by sponsoring a measure for the November 2014 statewide ballot−
The Safe Neighborhood and Schools Act. Despite the explosion of larcenies, proponents of this proposition believed that drug crimes and thefts from unlocked cars were nonviolent crimes that should be decriminalized, and the savings from reduced incarceration could be redirected back into schools and neighborhoods.
Just as San Francisco’s larceny rate has strayed from the California norm, The Safe Neighborhood and Schools Act did also, in two ways. First, 14 district attorneys opposed this measure, while only one other district attorney supported it.
Second, many police departments have experienced success implementing the Broken Windows Theory of policing- most notably, New York City. The premise of Broken Windows is that no level of crime should be acceptable to law enforcement, while simultaneously demonstrating to the public that the police are active, involved, and concerned.
Per Suhr, the public is slowly realizing that under Prop 47, the bike thief now gets to walk away with a just a piece of paper.”
The philosophy of The Safe Neighborhood and Schools Act is the inverse of the Broken Windows theory. The Safe Neighborhood and Schools Act proffered that some crimes were not worth addressing at the traditional level. Included in the proposed decriminalized behaviors, was the crime of ripping an electronic device, with a value of less than $950, out of a victim’s hands. Prior to this proposition, the penal code deemed any taking of property off a person, irrespective of value, was such a serious violation of a victim’s space and freedom, that the theft would always be characterized as a felony crime. After all, does a thief really know the specific value of an electronic device before he steals it?
Legally, since stealing an iPhone is now a misdemeanor, a police officer cannot even issue a citation to a thief unless the victim wants to make a citizen’s arrest. Thus, many victims prefer to accept the return of their cellphone rather than attending court to testify against the thief.
The Safe Neighborhood and Schools Act, displayed on the California ballot as “Proposition 47,” passed in California by a 60% to 40% margin. Overnight, car break-in’s jumped almost 50%.
Why? It’s the message!
Per the thieving mindset, if taking a cellphone off a person’s cheek is now only a misdemeanor, why not climb the ladder just one more rung? Why not simulate a gun with a pointed finger in your jacket pocket? And, while we are preying for weak victims, what about the tourists who just put all their belongings in their trunk before departing for a museum?
Just as we drive 59-mph in a 55-mph zone and 68-mph in a 65-mph zone, criminals now perceive that breaking into a car is just a venial, small step over the felony line. This is the deflation of repercussions in an inverse Broken Windows world.
With the approaching release of the final 2015 crime figures, the blame game has already begun. In the SF Weekly (11/12/15), District Attorney George Gascon pointed a finger at SFPD and said,
“We are seeing reduced police activity. A police culture that places a great deal of value on felony arrests. We’re asking them to do things differently, and we are seeing a lot of resistance to that.”
This statement implies that the ego rush of felony arrests is what motivates the members of the SFPD. You have to wonder what would happen if the NFL responded to a rash of quarterback injuries by downgrading a roughing the passer penalty from 15 yards to a 15-inch wrist slap. Because of the reduced effect of the milder penalty, no one would be surprised if the NFL referees threw less flags. After all, the message from the NFL hierarchy is that protecting a quarterback is less important.
Ironically, per Chief Greg Suhr, the combined SFPD activity on 15-yard felonies and 15-inch misdemeanors is virtually at the same level as prior to Prop 47. Much of Gascon’s claims about arrests being down are actually attributable to Gascon’s renaming felonies to misdemeanors. Per Suhr, the public is slowly realizing that under Prop 47, the bike thief now gets to walk away with a just a piece of paper. This mistakenly creates the perception that SFPD is doing less while this is specifically the desired reduced incarceration outcome that Gascon sought when he sponsored The Safe Neighborhood and Schools Act proposition.
George Gascon refutes the failure of The Safe Neighborhood and Schools Act by quoting the low recidivism rate cited in the Stanford Justice Advocacy Project. The study boldly claims that only 159 prisoners out of 4,454, who received reduced sentences under Prop 47, returned to “state prison” for new crimes. But Gascon omits an extremely significant point from the same study (page 6):
“County jails do not report recidivism rates at all.”
Thus, there are no statistics on how many arrestees are sent back to county jail. It is kind of like only tallying quarterback injuries if they end up in an ICU, but not if they just break a limb.
Mr. Gascon is a very smart and educated man. But it seems that instead of a vanilla strategy of moving the ball down the field, he is more attracted to the notoriety of developing a revolutionary offense. His search for radical solutions is evidenced by his 180-degree turns: his conversion from a Republican to a Democrat; his departure from LAPD to becoming a Ford dealership manager; his switch from police chief to District Attorney; and his determination to clean up the Tenderloin, to arguing against incarceration:
“There is evidence that indicates incarcerating people for low level offenses actually makes them worse. There is evidence that even 24 hours in jail creates enough, sometimes, to create a problem for rehabilitation for the rest of their lives.” (KTVU 11/15/15)
Mr. Gascon’s latest strategy was a $3,000 grant for the Mosquito, a device that emits a harsh high-pitched buzzing that was supposed to deter loitering in the Tenderloin. It is a reminder of a predecessor’s suggestion that “wind baffles” were the solution to the hostile Candlestick Park weather. Fortunately, more pragmatic minds prevailed and we gained a landmark ballpark. Similarly, silver bullets do not exist for reducing crime; a 50% increase in larcenies documents a failed experiment; and Prop 47- The Safe Neighborhood and Schools Act didn’t just relabel felonies, it redefines the word “safe.”
Lou Barberini is a CPA who lives in Miraloma Park.