Teachers, state employees and other government workers across Kansas may have breathed a sigh of relief this past year as news continued to break about growing scandals in the mutual fund industry.

After all, many of their investments are in the Kansas Public Employees Retirement System, a pension fund run by a state-appointed board rather than Wall Street companies making negative headlines.

But pension-holders may not want to take an out-of-sight, out-of-mind approach. According to documents provided by KPERS at the Journal-World’s request, several of the companies caught up in the mutual fund scandal are managing approximately $1.6 billion of the pension fund’s $10.1 billion in assets.

Several KPERS members said they weren’t aware that some of the same companies drawing the scorn of regulators were managing their retirement nest eggs.

“It surprises me and does concern me some,” said Trecia Goodrick, an employee at the Douglas County Register of Deeds Office, who is a member of the pension system. “I guess I don’t understand why you would stay with a company that is having trouble if there is another company out there that can do the same job.”

Most KPERS assets are managed by Wall Street investment firms, said Glenn Deck, executive director of the pension fund. KPERS has contracts with 13 investment firms that manage approximately 75 percent of the fund’s assets. The remaining 25 percent is managed by KPERS staff members.

Of the 13 management companies, three — Alliance Capital Management Holding, PIMCO and Morgan Stanley — have agreed to settlements with the Securities and Exchange Commission, New York Atty. Gen. Eliot Spitzer or the National Association of Securities Dealers.

The settlements are based on allegations that the companies allowed improper mutual fund trading practices. The most frequent abuse has been market timing, which is a practice that allows preferred investors to make quick trades in and out of a mutual fund, which costs long-term investors money by creating more charges for the fund to absorb. Although not illegal, most mutual fund companies have written policies prohibiting the practice.

The allegations largely have centered on the companies’ dealings with individual investors, rather than their separate divisions that deal with pension funds and other large institutional clients.

Deck is quick to note that none of the improprieties within the three companies KPERS does business with have been found to have cost the pension fund money.

But some industry observers say pension funds are being too lax in their review of tainted money mangers.

“The concerns have been heard by people in the pension industry, but they still don’t have any idea how to respond to them,” said Edward Siedle, president of Florida-based Benchmark Financial Services, which investigates pension fraud and mismanagement. “Pension funds are basically just paying lip service to some very serious problems.”

Holding pat

The allegations of wrongdoing have not been enough to cause KPERS officials to stop doing business with any of the three companies.

KPERS took no action against PIMCO or Morgan Stanley, but did place Alliance Capital on probationary status, which meant KPERS officials conducted detailed discussions with the company about its practices.

Alliance was by far the company that received the stiffest penalties of the three that have contracts with KPERS. In December, Alliance agreed to pay $250 million in fines and cut its fees by 20 percent, or $350 million, during the next five years. The $600 million settlement is the largest agreed to by any single company during the course of the yearlong mutual fund scandal.

But Alliance was taken off probation “early this summer,” Deck said.

“We’re reasonably satisfied with Alliance at this point,” he said.

Due diligence

Deck said KPERS officials took strong measures to ensure Alliance still was a sound company. He said the KPERS board ordered top executives from the money management company to visit KPERS headquarters in Topeka to explain changes made in wake of the scandal.

Those changes included giving company auditors more independence, adjusting the company’s management structure and firing several high-ranking executives. Deck said the fact Alliance quickly agreed to settle and resolve the issues also was a sign the company was committed to correcting problems.

But Deck said the biggest factor was that none of the company’s indiscretions cost the pension fund money or was related to managers that dealt with the KPERS account.

“It would have been different — a lot different — if it were people who were working directly on our account,” Deck said.

Setting an example

Siedle, who also is a former SEC attorney, said it sounded like the KPERS fund was letting Alliance off the hook too easily.

“The fact is, these investment companies haven’t learned their lesson at all,” Siedle said.

But he thinks pension funds could play a powerful role in helping clean up the mutual fund industry. That’s because a $10 billion pension fund, like KPERS, has more ability to get the attention of an investment firm than an individual who may only be investing a few thousand dollars.

In fiscal year 2004, KPERS paid Alliance more than $1 million in management fees, according to KPERS documents.

“Even if a particular money manager has done great for you, these pension funds have to ask the question of whether there are other money managers who can do great without having these ethical lapses,” Siedle said. “Don’t these pension funds have a responsibility to the public to do business with ethical companies? The answer is, of course they do.”

Not everyone agrees that pension funds should use their power to punish troubled companies. Mercer Bullard is a professor of law at the University of Mississippi and director of Fund Democracy, an advocacy group for mutual fund shareholders.

“I don’t think it is their job to be a protector of mutual fund shareholders,” Bullard said. “They’re not good at it, and it is an inappropriate use of their authority. It is the job of the legislators to make laws and it is the job of the attorney general to enforce them.”

But that doesn’t mean pension funds should gloss over the troubles of the mutual fund industry, he said. Bullard said even if the scandals didn’t directly cost a pension fund money, they should be worrisome to pension leaders.

“The question is whether you can trust the firm that manages your pension money,” Bullard said. “The question is whether you are going to be the next victim. You have to look at a company very carefully and make sure you feel comfortable with them. There is no reason why KPERS can’t be a victim.”