Shift in public pensions seen benefiting advisers

As financially troubled states and cities grapple with their pension obligations, many institutional money managers anticipate a big public-sector switch from defined-benefit to defined-contribution plans — a change that could provide opportunities for advisers.

“We expect to see defined benefits in many public plans frozen or terminated over the next five to 10 years,” said Bill McDermott, head of defined contribution at Goldman Sachs Asset Management.

He noted that newly elected state and local officials are entering office with deficit trimming on their minds, making traditional defined-benefit plans fair game.

Changing to a defined-contribution model “can save taxpayers trillions of dollars,” Minnesota Gov. Tim Pawlenty wrote recently in an Op-Ed in The Wall Street Journal.

While insurance companies dominate existing public 403(b) plans — generally annuity contracts for teachers and other school employees — experts believe that that dominance may be ending as the movement among corporate sponsors to seek unbundled services spreads to public plans. This shift will benefit money managers serving the DC investment-only market, as well as advisers willing to provide educational services and guidance to plan participants.

Public plans are expected to follow Labor Department guidelines about offering advice to participants, said Jeffrey G. Robertson, a partner at Barran Liebman LLP.

Just as the Labor Department’s proposed advice rule would deter brokers from advising corporate 401(k) plan participants if they collected additional pay for their investment recommendations, government entities may search for ways to provide their participants with independent advice.

“There is a desire to move to one basic standard of regulation for all methods of deferring compensation,” Mr. Robertson said.

“As DCIO expands, dollars flow into non-proprietary funds, and that opens the door for me to provide access to an adviser or to education other than the sales representative from the company,” said Mr. Robertson, who counsels private employers as well as municipalities.

“There’s a growing market for independent advice, and I’m hearing more questions about it from entities that are at the same time juggling extreme loyalty to good long-term providers and a non-desire to take on the human resources task of running their own retirement plan,” he added.

Still, he warned that providing a spectrum of investment options was only a first step in a series of changes that would bring these plans closer to their 401(k) counterparts.

“You fragment the stranglehold of the single annuity product on the participants’ experience and start to provide them with different investment options,” Mr. Robertson said. “But you’re not taking the step across the bridge that says you can benchmark or get direct education from a third party — not yet.”

Currently, Alaska, Michigan and the District of Columbia have mandatory defined-contribution plans for their general employees, according to data from the National Conference of State Legislatures.

As of July 1, Utah will require its public employees to choose either a defined-contribution plan or a hybrid plan that has both defined-benefit and 401(k) components. The latter option will be the default.

Minnesota has a defined-contribution plan for elected officials, city managers and volunteer ambulance service personnel, as well as state-employed physicians.

A number of states offer DC plans to public employees as an option. These include Colorado, Florida, Montana, North Dakota, Ohio and South Carolina, according to the NCSL.

In addition to the one to be offered by Utah, seven other states — Florida, Georgia, Indiana, Michigan, Ohio, Oregon and Washington — have hybrid plans.

Some large managers see opportunity in the shifting landscape.

AllianceBernstein LP, which currently provides its custom target date funds to three 457 plans, had $1.6 billion in assets in the funds as of the end of September and plans to add a fourth public plan early this year, according to Thomas J. Fontaine, global head of defined contribution. The firm is also responding to requests for proposals on its custom target date fund from other public plans, he said.

Advisers attempting to provide education to public-plan participants must first learn the differences between 457, 403(b) and 401(k) plans and the permitted investments and age-related rules in each, said Drew Carrington, head of defined-contribution and retirement solutions at UBS Global Asset Management.

“If you’re talking about police and fire departments, you’re talking about retiring at 50 or 55, as opposed to 65-plus,” he said.

E-mail Darla Mercado at [email protected].