Your Pension Board Thinks It’s Smarter Than Warren Buffett—It’s Not

Your pension board (and pensions worldwide) is doing the exact opposite of what legendary investor Warren Buffett has told it to do—with predictably disastrous results. To protect your retirement security, you need to regularly remind the people managing your pension to follow Buffett’s expert advice and give up trying to outsmart him.

In case you’ve been living under a rock your entire life, Warren Buffett, the chairman and CEO of Berkshire Hathaway, with a net worth of $100 billion (making him one of the wealthiest people), is considered one of the most successful investors in the world.

Over the years, Buffett has had a lot to say about how corporate and government pensions should be prudently managed.

If pensions ignore Buffett’s advice, it would have to be because they believe they are smarter than Buffett. Right? 

Well, they’re not.

As I explain in Who Stole My Pension? tragically, corporate shareholders and public pension stakeholders— taxpayers and government workers—pay the price when pensions ignore the best advice and choose instead to follow the herd, i.e., gross malpractice generally practiced.

So, what advice has the Oracle of Omaha had to offer to pensions?

Buffett has been an outspoken critic of pension accounting practices in the U.S., and, particularly, the investment returns corporate and government pensions assume they’ll earn on their investments. For example, in an oft-cited 2007 annual letter to Berkshire Hathaway shareholders, Buffett noted corporate pensions on average assume they will earn nearly 8% a year, while, says Buffett, 6% would be more realistic.

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Buffet also noted that some companies have pension plans in Europe as well as in the U.S. and, in their accounting almost all assume that the U.S. plans will earn more than the non-U.S. plans.

This discrepancy is puzzling, says Buffett:

“Why should these companies not put their U.S. managers in charge of the non-U.S. pension assets and let them work their magic on these assets as well? I’ve never seen this puzzle explained. But the auditors and actuaries who are charged with vetting the return assumptions seem to have no problem with it.

What is no puzzle, however, is why CEOs opt for a high investment assumption: It lets them report higher earnings. And if they are wrong, as I believe they are, the chickens won’t come home to roost until long after they retire.”

More often than not, America’s state and local pension projected rates of returns have proven to be overly optimistic. For example, from 2000 to 2018 state pensions collectively returned just 5.87 percent, badly trailing their own 7.75 percent return assumption over that same timeframe.

The historical performance shortfall—with annual returns over the 18-year period falling almost two percentage points below public pension assumptions—contributed greatly to a decline in state and local government pension funding ratios from close to 100 percent (i.e. holding all the funds needed to provide promised retirement benefits) in 2000 to just 73 percent in 2018.

To make matters worse, as public pensions failed to meet their overly optimistic return assumptions over the past two decades and dug themselves into a deepening funding hole, they allocated ever-greater assets to the highest-cost, highest risk investment ever devised by Wall Street—hedge and private equity funds.

Like Las Vegas gamblers who have lost big, public pensions decided to “double-down” on the riskiest of investments—at the suggestion, and to the delight of, Wall Street.

Wall Street’s solution to every investor problem is and will always be, “pay us more in fees.”

With respect to hedge funds, over a decade ago the world’s greatest investor warned public pensions against these speculative investments. Buffett also very publicly wagered $1 million that hedge funds would not beat the S&P 500 over the next ten years. His pick, the S&P 500 gained 125.8% over ten years. The five hedge funds, picked by a firm called Protégé Partners, added an average of about 36%. 

John Bogle, Founder of the Vanguard Group, in a 2013 Letter to the Editor of the Wall Street Journal also warned public pensions that “hedge funds are hardly a panacea.”

America’s public pensions ignored Buffett and Bogle’s expert advice, resulting in hundreds of billions in foreseeable, and indeed foreseen, hedge fund losses. Wall Street, on the other hand, profited handsomely from the exponentially greater fees these funds charge—2% of assets under management and 20 of profits—fees which Buffett regards as “obscene.”

Buffett also warned pensions against investing in private equity.

“We have seen a number of proposals from private equity funds where the returns are really not calculated in a manner that I would regard as honest,” Buffett said at Berkshire Hathaway Inc.’s BRK.B annual meeting in May 2019. “If I were running a pension fund, I would be very careful about what was being offered to me.”

Again, his advice has been almost universally ignored in America and foreign pensions are now loading up on private equity and other toxic investments that have failed spectacularly in the USA.

Buffett has a consistent history of blasting Wall Street firms for charging high fees for actively managed investments and has recommended pensions invest in low-cost passively managed index funds.

You might think that underfunded pensions struggling to pay benefits would heed Buffett’s advice and seek to cut the fees they pay Wall Street.

Embrace austerity. Tighten their belts. Trim the fat. 

In fact, every forensic investigation I’ve ever undertaken has exposed that the nearer a pension is to insolvency, the higher the fees and the greater the risks the pension takes on.

Desperate measures—Hail Mary passes—are resorted to at desperate times.  

In summary, ignoring Buffett’s advice and choosing instead gross malpractice generally practice, translates to pensions:

·     Using overly optimistic investment return assumptions;

·     Gambling in high-cost, high-risk hedge and private equity investments;

·     Paying exponentially greater “obscene” fees to Wall Street;

·     Entrusting assets to firms that Buffett regards as dishonest;

·     Eschewing the lowest cost, passively managed investments; and

·     Moving farther and farther away from transparency.

What are pensions globally doing?

Exactly the exact opposite of what Warren Buffett has told them to do—with predictably disastrous results.

To protect your retirement security, you need to regularly remind the people managing your pension to follow Buffett’s expert advice and give up trying to outsmart him.

For more on protecting your pension see: Who Stole My Pension? How to Stop the Looting

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