Stoopid to the Nth degree

Pension Officers Putting Billions Into Hedge Funds

By RIVA D. ATLAS
and MARY WILLIAMS WALSH
Published: November 27, 2005

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Pension officials who have been shaken by market downturns and persistent deficits are attracted by hedge funds' promise of richer, or more consistent, returns. But the trend has caused some consultants and academics to voice cautions. They question whether hedge funds, with risks that are hard to measure, are appropriate for pension funds, whose sole purpose, by law, is to pay out predetermined benefits to retired workers.

Those benefits are considered so crucial that they are guaranteed: corporate pension failures are covered by the Pension Benefit Guaranty Corporation, a federal agency, while pension failures by state and local governments are covered by taxpayers. Given that the benefits are paid out on a set schedule, critics wonder whether it makes sense to rely on investments whose returns are hard to predict, managed by private partnerships that disclose little about their operations and charge some of the highest fees on Wall Street.

"It's very inappropriate when the company is offering a pension plan that is guaranteed by the federal government," said Zvi Bodie, a professor of finance and economics at Boston University who is enthusiastic about hedge funds in other contexts.

Hedge funds make large, sophisticated investments based on the premise that by swimming outside the currents of the markets, often betting against conventional wisdom, they can outperform other investments. Hedge funds became famous in the 1990's, when managers like Michael Steinhardt and George Soros made huge swashbuckling bets that sometimes produced returns of 30 percent or more.

More recently, hedge funds have made headlines when they ran into trouble: Long-Term Capital Management, a hedge fund whose principals included two Nobel Prize-winning economists, nearly collapsed in 1998; and this summer, Bayou Group, a $450 million hedge fund based in Connecticut, shut down after most of its money disappeared. Its two officers have pleaded guilty to fraud charges.

Hedge funds have traditionally been only for wealthy, sophisticated investors so regulators have not monitored them as they have stocks or mutual funds, although they are starting to do so.