State public pension funds love buying shares in local companies, but it is not so much a matter of “buying what you know” as “buying shares of companies with political clout.”

A new study of equity holdings of self-managed state public pension funds finds that they have not only a bias towards in-state companies, but in particular towards those with political connections and influence.

What’s more, these investments aren’t winners; this bias towards in-state politically connected firms costs the typical state pension fund about $225 million in annual decline in fund performance, according to estimates in the study, which is slated to be published in an upcoming Journal of Financial Economics.

“We find that state pension funds overweight these politically active firms and doing so is detrimental to fund equity performance,” write authors Daniel Bradley andXiaojing Yuan of the University of South Florida and Christos Pantzalis of the University of Massachusetts at Lowell. (http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2636996)

“Our evidence is most consistent with the political bias hypothesis.”

Remember too, state pension funds are hardly in good shape and cannot afford to make poor and politically motivated investments.

The aggregate funding ratio of U.S. public pension funds was only 72 percent of liabilities in 2013, according to a survey by the National Association of State Retirement Administrators. That leaves more than $1 trillion of future liabilities unfunded nationwide.

It has long been known that state pension funds have a tendency to invest in firms within their state. Some argue that this is due to mere familiarity, though were this true it would not affect performance. Others assert that pension funds invest at home because they enjoy some information advantage which they seek to exploit. If this information advantage were due to political connections, then holdings of firms in this group would outperform.

What the study seems to have found, though, is that the allocations are going to local firms for political reasons and that this, because it comes from conflicted political motivations, leads in turn to underperformance.

It should be noted that the study used a relatively small sample size: 16 pension funds which manage their own money and made Securities and Exchange Commission disclosures for at least 20 consecutive quarters between 1999 and 2009. That said, the sample included large and well-known pension funds including theVirginia Retirement System, the California Public Employees' Retirement System (CalPERS) and the New York State Common Retirement Fund.

First « 1 2 » Next