More than one-third of all the shares of Kaiser Aluminum & Chemical purchased in 1975 were bought by the trust deparment of one bank, Morgan Guaranty Trust Co. of New York. In that same year, none of 100 pension funds that previously had invested in fledgling businesses did so.
This is an extreme example of concentration of plan assets in blue-chip stocks on the one band and the drying up of this source of venture capital for the Xeroxes of tomorrow on the other. Both are unintended results of the Pension Reform Act of 1974.
Last week, a Senate Finance Subcommittee held hearings on a bill to remedy this situation by preventing a pension manager from buying more than 5 per cent of any company's outstanding stock (there are no limits now) and by permitting him to invest up to 2 per cent of a fund's assets in small new companies, something improbably under current regulations.
While the bill was greeted enthusiastically by venture capitalists, Treasury and Labor Department officials expressed fear such leeway for fund managers could endanger workers' benefits.
The concentration occurred as a direct consequence of the Employee Retirement Income Security Act's "prudent man" rule, which increased the liability for fund managers making bad investment decisions. When the International Foundation of Employee Benefit Plans surveyed pension trustees last year, 64 per cent of them stated they were unwilling to invest in anything but blue-chip securities.
As the bill's author, Sen. Lloyd Bentsen (D.-Tex.), put it, "Not one is going to bring a suit against a manager because the stock of General Motors or IBM went down the tube, but they might if he had invested in Widget Corp."
Public and private pension funds are big business today. With assets in excess of $445 billion, they are second only to commercial banks. But the funds are managed by a very small number of institutions.
Some 15 bank trust departments, 12 insurance companies and about 24 private financial managers control more than 90 per cent of the pension assets in this country. And they tend to invest in perhaps the same 200 or 300 securities, according to Bentsen.
For instance, Georgetown University law School, which did a study last year, stated that in the same year Morgan Guaranty's trust department bought 38.5 per cent of the Kaiser stock, it also bought between 25 and 30 per cent of the shares traded of Potlach, International Nickel, Crown Zellerbach and Manufacturer's Hanover. And it sold one out of every eight shares of Philip Morris and Schlumberger's traded in 1975.
Between 1973 and 1975, there were 128 occasions when Morgan, the largest bank trust department, accounted for more than 5 per cent of the total sales and purchases of Big Board issues. On 16 occasions, Morgan accounted for more than 20 per cent, according to the Georgetown study.
In introducing the pension investment Act of 1977, Bentsen warned that the potential for manipulation of the market by large institutions could result in "a very substantial reduction of stock prices . . . to the detriment of countless American workers and retirees."
He said, "If one of this very small group of pension managers decides to sell a major investment on a bit of news, and other managers attempt to follow, they find that the 'gate' suddenly gets very narrow."
He has proposed tax penalties to limit investment by a pension fund with more than $1 billion in assets to 5 per cent of a company's outstanding stock. Those with more than 5 per cent already would not be affected. At the same time, pension managers would have the option of investing up to 2 per cent of a plan's assets in new companies with less than $25 million in capitalization without being subject to the prudent man rule.Insurance companies and mutual funds currently are subject to similar regulation.
Besides protecting the safety of pension assets and preventing excess economic concentration, the Pension Investment Act aims to promote greater liquidity in the stock markets and to encourage investment in small, growing companies.
A panel of representatives of venture capital organizations testified that, prior to ERISA's passage, approximately 100 pension funds put up money regularly for fledgling businesses. According to Stewart Greenfield of Charter oak Enterprises in Darien, Conn., zero pension dollars were received by the 70-odd venture capital firms in the country in 1974 and 1975. In 1976, approxmiately four funds put up $5 to $6 million.
Another unintentional result of ERISA has been the high rate of plan terminations. Laurence N. Woodworth, assistant Treasury secretary for tax policy, testified that 24,347 pension plans were ended during 1975 and 1976. That was approximately three times as many as in the years prior to ERISA. At the same time, only 30,000 new plans were set up in each of those two years, or just about half as many as in the two preceding years.
One-fifth of the plans were terminated because of the economic and nuisance burden of ERISA, although Woodworth said the real percentage may be higher. (By giving "adverse business conditions" as a reaton rather than ERISA, trustees feel they will incur less enmity from disappointed beneficiaries, he said.)
Both Woodworth and Assistant Labor Secretary Francis X. Burkhardt supported legislation that would eliminate duplicative filings to their respective departments. They also backed a companion bill to split administration of ERISA so that vesting and funding would be taken care of by the Internal Revenue Service, while fiduciary responsibility and prohibited transactions would come under Labor's wing. The practical effect of these changes would be to reduce costs and delays, especially for small pension plans.
But William J. Chadwick, a former ERISA administrator now in private law practice, called the existing dual administration "neither efficient nor effective." There are now 40 federal laws and 20 agencies concerned with ERISA. He cited the "absurd" instances where the Labor Department and the Securities and Exchange Commission have aruged in court on opposite sides in pension disputes. "This makes the government look stupid," he said.
He cited the case of Daniel v. International Brotherhood of Teamsters. A Chicago court held that a participant's interest in a non-contributory pension plan, such as profit-sharing, constituted a security and would therefore be subject to the antifraud provisions of the Securities Exchange Act. On appeal last April, the SEC argued it did constitute a security while the Labor Department argued the participant's share did not.
Chadwick favors a more comprehensive solution, perhaps including a separate government agency for pension plans. Such a bill is pending before a House subcommittee.