PhillyDeals: Montco fires private investment-pickers

Montgomery County has pulled a lever out of the big machine that keeps the investment industry profitable even when clients lose money.

The county pension system has fired the private investment-pickers who had been struggling to keep the county's pension dollars ahead of its long-term obligations. Instead, most of the $460 million is going to Vanguard Group, the Malvern mutual fund giant, at a fraction of the cost.

The county fund isn't huge. But two of the men behind the switch, Democratic County Commissioner Joshua Shapiro and Republican Commissioner Bruce L. Castor Jr., are ambitious - they'd each like to be governor - and they're prescribing the same medicine for the state's giant pension funds.

Since the early 1990s, Pennsylvania and its $26 billion State Employees' Retirement System (SERS) and $50 billion Public School Employees' Retirement System (PSERS) have been a national laboratory for costly ideas. They've hired hundreds of firms to pick stocks, bonds, and hedge, venture, buyout, real estate and commodity funds, interest-rate swaps, and other fancy strategies.

The two plans paid close to $700 million in management and related fees in 2012 - nearly a dollar for every $100 they invested.

Despite their innovative and pricey approach, the gap between what the systems owe future retirees and what those systems own to pay the retirees keeps getting wider - as do state subsidies needed to close the gap.

Montgomery County's pensions were less insolvent, but slipping. So, backed by county finance chief Uri Monson, longtime dissident Castor, and new Democratic commissioners, the pension board cleaned house.

Out went Alex. Brown & Sons, Goldman Sachs, and JPMorgan. Out went Joseph Besecker's Emerald Capital Management, of Lancaster, and James Nevels' Swarthmore Group, and one of Philadelphia investor Ira Lubert's Independence Capital Partners funds.

In went Vanguard index funds, and the county says they will cost less than a dime a year for every $100 invested.

While most of its money went to Vanguard, Montgomery County put 10 percent aside for SEI Corp., of Oaks, to spread among plain vanilla and exotic investments, at fees averaging 53 cents for every $100 invested, with the option of adding hedge funds, swaps, and other fancy stuff.

Overall, Monson says, Montgomery County will end up paying around $600,000 (or 13 cents per $100 invested), less than one-third of the $1.9 million (or 43 cents) the county paid under the old system last year. Castor and Shapiro expect Pennsylvania could save hundreds of millions without cutting returns.

Not that many years ago, such a radical threat would have pushed worried money managers to plow cash toward sympathetic candidates like Gov. Corbett, who has seen no reason to change the current investment regime (he wants to cut pensions instead), and state Treasurer Rob McCord, who collected piles of cash early in his political career from investment contractors.

But since the mid-2000s, industry rules have curbed direct donations to elected officials who help hire pension managers - though pro investors and their paid agents can still play golf with one another and back charities that are dear to those same officials.

One of the fired managers predicted Montgomery County's move will prove a fad, not the future - as long as there's a stock-picker left in America who can claim to beat the index funds, and an elected official who believes.