Cypen & Cypen
NOVEMBER 26, 2008
Stephen H. Cypen, Esq., Editor
The U.S. Department of Labor published a final rule on November 17, 2008 to update its regulations under the 15-year-old Family and Medical Leave Act -- a measure that will help workers and their employers better understand their rights and responsibilities, and speed the implementation of a new law that expands FMLA coverage for military family members. Provisions in the final rule call for increased notice obligations for employers so that employees will better understand their FMLA rights, while revising employee notice rules to minimize workplace disruptions due to unscheduled FMLA absences. The rule also contains technical changes that reflect decisions by the U.S. Supreme Court and lower courts. Featured final rule actions implementing the statutory expansion of FMLA for military families are as follows:
Additional Regulatory Provisions:
The entire text of the final rule (200 pages), which is effective January 16, 2009, is available at: http://edocket.access.gpo.gov/2008/pdf/E8-26577.pdf. Federal Register, Vol. 73, No. 222, pp. 67934-68133.
An article in the November 2008 Nappa Report deals with balancing sensible governance against failed principles, and asks “Is this the end to the wild west of investing?” Like the wild west, hedge funds are a largely unregulated investment vehicle marketed to investors as a tool for reaping large returns for investors willing to accept higher risk. In the current climate of market volatility, it appears that a sheriff is riding into town and the wild west of investing may soon end. The questions are who will the sheriff be and when will the sheriff arrive? United States public pensions are uniquely poised to change how these investments are regulated, including advocating for transparency of hedge funds and pursuing recovery for investors. From 1999 to 2004, hedge fund assets under management grew by more than 260%. By last summer, an estimated $1.9 Trillion was under management in more than 9,000 hedge funds, including $24 Billion invested by U.S. public funds. One commentator states for every bank that fails, five hedge funds will fail. Another market watcher predicts that two-thirds of all hedge funds will cease to operate during this wave of financial crisis. Investors removed $43 Billion from hedge funds in the month of September, alone, and losses for the three-month then ended topped $210 Billion. In 2006, the Securities and Exchange Commission attempted to regulate hedge funds, passing the Hedge Fund Rule that required hedge funds managing more than $25 Million to register with SEC, provide details about operations and submit to periodic audits. SEC’s attempt to impose regulation was short-lived: it became effective on February 1, 2006, and by June 2006, the Court of Appeals for the DC Circuit determined that SEC’s interpretation of the word “client” to include each investor in a hedge fund was arbitrary, effectively striking down the Hedge Fund Rule. In a climate nearly devoid of oversight, hedge funds do not report trading positions or holdings. They are not required to say how much they owe or to whom they owe. Because hedge funds are not required to register with SEC, there is no accurate count of how many hedge funds exist. It is not known how many hedge funds are on the brink of collapse or are actually collapsing. However, things may be changing. On September 18, 2008, SEC Chairman Cox asked the Commission to consider an emergency disclosure rule requiring hedge funds and other large investors to disclose their short positions. The new rule was designed to insure transparency in short selling. Managers with more than $100 Million invested in securities would be required to begin publicly reporting their daily short positions. (They are already required to report their long positions to SEC.) SEC changed course when hedge fund managers complained that requiring public disclosure would put them out of business because other investors could copy their investing strategies. In response, hedge fund managers are only required to report their short positions to SEC on a weekly basis and not to the investing public. On October 15, 2008 SEC extended the rule to August 1, 2009. We know that hedge funds are fiercely protective of their investment strategies and that they are girding themselves for a fight over disclosure and regulation. Industry analysts are floating ideas about disclosing investments 45 days after close of a quarter to allow for a cooling period so that any disclosure to the public is historic. Others suggest full disclosure to SEC and that the full disclosure be held in confidence. Still others suggest total transparency in the market. Regardless, reform of any type will take time. In the meantime, public pensions are uniquely poised to reform this industry just as they have served as key players in reforming corporate governance. The wild west mentality is demonstrably failing hedge fund investors. Sensible governance concepts offered by public pensions can have the same positive impact in this environment that they have had in more traditional corporate governance. The leading edge of reform may come through litigation. Indeed, numerous hedge funds are being sued by investors, including public pensions, for various causes of action, including breach of fiduciary duty, gross management, breach of contract, fraud, negligence and violations of federal/state securities laws. In conjunction with these actions, negotiating for greater transparency at the outset and setting clear risk tolerance boundaries will continue to play a pivotal role in public pensions’ decision-making around whether to buy into hedge funds.
South Carolina voters rejected two constitutional amendments that would have allowed state and local governments to invest in equities in order to fund Other Post Employment Benefits for retirees. The votes show how risk-averse the public has become in recent months. Currently, state and local governments have set aside funds for retiree benefits, these funds are invested in low-yielding fixed-income investments. Despite warnings that by rejecting the amendments voters would have to pay higher taxes, more than 55% of voters defeated the measures, according to worforce.com.
Writing in the current issue of SACRS Magazine, actuary Edward Friend says mark-to-market accounting has been identified as one of the culprits in the current credit crisis assaulting the nation. (SACRS is an acronym for State Association of County Retirement Systems, an association of twenty California county retirement systems, including Los Angeles.) Although repeal of such accounting is one of the provisions of the bailout plan developed to help stabilize our markets, it nonetheless remains a cornerstone of a “disclosure” practice recommended for adoption by the American Academy of Actuaries Pension Practice Council. If adopted, and a mark-to-market value of assets is compared to the “Market Value of Liabilities,” Friend writes, a distorted funded ratio could result. If taxpayers are suddenly told that the funded position of their tax-supported pubic sector retirement system is less than they believed, taxpayers will feel they have been misled. Support for continuation of the government-sponsored defined benefit systems will quickly erode. Legislators will soon begin to initiate replacement of defined benefit plans with defined contribution plans. And Friend is so serious about this issue, he and other actuaries have begun exploring feasability of founding an organization upon which public actuaries could come together to develop their own discipline and growth, independent of the inapplicable structuring of private sector actuaries whose dedication has become focused upon deterministic, “stick-figure” point-in-time measurements of value, clearly inappropriate in this volatile fluctuating economic world of finance. Friend hopes this new organization of public sector actuaries might become the assembly center for public actuaries.
Political Economy Research Institute, University of Massachusetts Amherst, has published a new workingpaper entitled “Prudent Investors: The Asset Allocation of Public Pension Plans.” Defined benefit pension plans for state and local government employees are an important source of retirement savings. DB plans offer employees a fixed level of retirement income, typically based on years of service, age and prior earnings. Employers generally absorb consequences of risks associated with the long-term financial commitment that a pension plan entails. Employers will have to contribute less to their pension plans if financial rates of return are better than expected and more if rates of return are worse than anticipated -- as was the case after 2000, when funding ratios (assets to liabilities) fell, and employer contributions subsequently increased. Pension plans may attempt to handle a drop in funding in a number of ways. One of them is to seek higher returns in the short-run by incurring more portfolio risk. A more imprudent portfolio allocation may reflect a weak governance structure, where plan trustees fail to exercise caution, thereby demonstrating a classic principal-agent problem. Alternatively, a strong governance structure would serve to limit principal-agent problems, and be mirrored in a move towards a more prudent asset allocation when financial demands increase. The authors are particularly interested in determining whether public sector plans responded to underfunding by increasing their risk exposure. To the authors’ knowledge, theirs is the first empirical effort systematically to look at the determinants of asset allocations by public sector plans following the stock market correction of 2000-2001. They specifically look at the question of whether public sector plans follow prudent investment practices. They consider the roles that asset prices, pension plan funding, past employer contributions and peer performance play. By looking at the asset allocation of public sector plans, the article contributes to the discussion of how public sector plans responded to the drop in funding levels that occurred after 2000. In general, the authors found that public sector plans from 1993 to 2006 tended to be prudent in their asset allocation -- possibly overly so. Public sector plans rebalanced their asset allocations regularly in response to large price changes, indicating that managers are adhering to their allocation targets. Also, public sector plans tended to hold more risky assets when they had higher funding levels, which the authors interpreted as evidence that principals are able to monitor agents and prevent them from taking riskier positions when funding ratios are low. Interestingly, this relationship seems to have become stronger after 2000.
The financial crisis has sparked proposals to reform the retirement income system. One component of such system would be a new tier of retirement accounts. These accounts would augment declining Social Security replacement rates for low-wage workers and provide a buffer of security for middle- and upper-wage workers who, increasingly, will rely totally on 401(k) plans to supplement their Social Security. Designing such a new tier requires answering a number of questions: Mandatory or voluntary? Employee and/or employer contributions? Subsidies for low earners? Payments as lump sums or annuities? Tax favored or not? But the most fundamental question is whether the goal of the new tier is to provide a defined contribution account, where the retirement income will depend on market performance or an account that can provide a certain percent of final earnings -- that is, a target replacement rate. A new Issue in Brief from Center for Retirement Research at Boston College takes the first step in exploring the question of how much risk is acceptable. The first section makes the case for a new tier of retirement income. The second section describes implications of using a defined contribution approach for the new tier. The third section uses a model to demonstrate that even using target date funds and full annuitization at retirement, a defined contribution approach produces enormous variation in outcomes. The fourth section explores implications of modifying these fluctuations. Some other key findings are
Helloooo, Ever hear of a defined benefit plan?
Purchase of long-term securities by foreign investors skyrocketed in September, according to Markets Media Online. The monthly Treasury International Capital report recently released by the Treasury Department showed that foreign purchases of long-maturity U.S. securities leapt to $52.7 Billion in September, up from only $8.1 Billion in August. The report tracks cross-border acquisitions of securities with maturities of more than one year. The Chinese became the main holder of U.S. Treasury Securities with $585 Billion, trumping Japan's $573 Billion, which continued a larger trend of mounting foreign investments in U.S. securities perceived to be safe by global investors during disruptive market conditions. Meanwhile, U.S. residents sold a net $35.4 Billion of long-term foreign securities.
The U.S. Treasury Department announced that it has agreed to assist with liquidation of The Reserve Fund’s U.S. Government Fund, due to unique and extraordinary circumstances. (For some background on The Reserve Fund, see C&C Newsletter for September 25, 2008, Item 8.) The Fund, which Treasury has accepted into its temporary guarantee program for money market funds (see C&C Newsletter for September 25, 2008, Item 7), has not made a claim to Treasury under said program. However, in a separate agreement with the Fund, Treasury has now agreed to serve as a buyer of last resort for the Fund’s securities, which consist of short-term U.S. Government and government sponsored enterprise securities. This action is being taken to ensure that the Fund is liquidated in an orderly and timely fashion. The agreement grants the Fund a 45-day period in which it will continue to sell assets at or above their amortized cost. At conclusion of such period, Treasury’s Exchange Stabilization Fund will purchase any remaining securities at amortized cost, up to an amount required to ensure that each shareholder receives $1 for every share owned. This extraordinary action is in response to the unique situation of the money market fund, which was permitted to suspend share redemptions in accordance with an order issued by the Securities and Exchange Commission. No other funds participating in Treasury’s temporary guarantee program received a similar order from SEC. Thus, Treasury does not foresee a need to take similar actions with regard to any other funds participating in Treasury’s temporary guarantee program. (Where have we heard that before?) The agreement requires the fund’s adviser and its trustees to waive all fees accrued after November 19, 2008 (the date of the agreement) to the extent that the fund shareholders do not receive distributions of $1 per share. For those of you interested in the real nitty-gritty, you can read the entire agreement at www.treasury.gov/press/releases/reports/reservefundletteragreement.pdf.
Watch this short video, and learn how
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Try going over your boss’s head when you don’t like his decision. Few issues in corporate life raise such deep concerns about loyalty, betrayal and ethics. Opinions on this touchy subject range from “never, ever, ever,” to “if you don’t, you’re not doing your job.” In between, there are enough gray areas to paint an elephant, according to a piece in Promoting Yourself. The author personally leans toward the “no way, no how” school. He would do it only if he were willing to quit his job over the issue. Typically, going over the boss’s head is advisable only if you’re are suicidal or going to be dead meat, anyway. Pass the salt, please.
“As a child, my family’s
menu consisted of two choices: take it or leave it.” Buddy
BEST WISHES FROM OUR FAMILY TO YOURS
FOR A VERY HAPPY THANKSGIVING
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Items in this Newsletter may be excerpts or summaries of original or secondary source material, and may have been reorganized for clarity and brevity. This Newsletter is general in nature and is not intended to provide specific legal or other advice.