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New CIO for Missouri retirement plan arrives under cloud of Kentucky lawsuit
T.J. Carlson accused of leading pension fund to ‘Black Box’ hedge funds that resulted in massive losses
When the head of the Missouri State Employees Retirement System told her board of trustees she’d picked T.J. Carlson to be chief investment officer, she focused on his recent record from Texas — and didn’t mention a lawsuit over investment losses that almost sank Kentucky’s pension system.
Carlson, who begins work Oct. 1 for the system called MOSERS, became chief financial officer of the Texas Municipal Retirement System in 2013. Since then, the strong fund has improved its financial position and now has the assets needed for almost 90 percent of current and future liabilities.
But from 2011 to 2013, the two years he held the same title at the Kentucky Retirement System, that weak fund made $1.5 billion in high-risk investments that didn’t pay off. By the time the damage was done, the fund was near insolvency and taxpayer contributions increased $1 billion a year to keep it afloat.
To recover some of the lost money, Kentucky Attorney General Daniel Cameron is suing Carlson and 27 other defendants – investment and consulting firms and their officers, along with former officers of the retirement system – for their role in the decisions that led to the losses. Another defendant is Blackstone Alternative Asset Management, a firm employed as a hedge fund consultant by the Missouri retirement system, which is known as MOSERS.
The importance of the job to the future of the retirement fund is reflected in the salary. Carlson, chosen by Executive Director Ronda Stegmann from more than 100 applicants, will be paid $400,000 a year. That is three times the pay of Gov. Mike Parson.
Only four state government employees covered by MOSERS — psychiatrists working for the Department of Mental Health — were paid more in 2020. Stegman’s salary is $237,839 per year.
When she revealed her choice to the 11-member Board of Trustees made up of lawmakers, gubernatorial appointees and elected member representatives, she highlighted his record in Texas but did not mention the lawsuit from Kentucky.
She was aware of the lawsuit, Stegmann said in an interview with The Independent, and had done some research to understand the allegations. The board does not vote on any MOSERS officers except the executive director.
“It wasn’t anything being hidden,” Stegmann said of her decision not to inform the board. “The reasons I thought T.J. would be a good CIO were relayed to the board and I still believe that.”
None of the trustees contacted by The Independent were aware of the lawsuit. They expressed disappointment she had not brought it up but said it did not alter their faith in her choice.

“If I were in her shoes I would have mentioned it,” State Treasurer Scott Fitzpatrick said.
Fitzpatrick said he has spoken with Stegmann about the omission.
“I don’t think it necessarily changes the outcome of the hire,” he said. “The other information made me comfortable. I don’t think outstanding or pending litigation would have changed my opinion.”
Sen. John Rizzo, D-Independence, said he had confidence the hiring process was thorough.
“I trust that they vetted this person well,” Rizzo said. “If there were lawsuits, I am sure they took all that stuff into consideration and looked into his background in total.”
Cameron’s lawsuit is working its way through the courts in Franklin County, Ky. Through a spokeswoman, Cameron declined to comment on the case.
A new lawsuit, filed Aug. 19 on behalf of four current and former Kentucky employees, also names Carlson, Blackstone and most of the other defendants in the state case.
In an interview last week with The Independent, Carlson also declined to comment on the lawsuit.
When MOSERS hired Carlson, it caught the attention of Kentucky pension watchdog Chris Tobe. He was a trustee of the Kentucky system when Carlson was hired, but with his skepticism of and opposition to the black box investments, he was soon replaced.
Tobe’s 2013 book, “Kentucky Fried Pensions,” detailed how the system’s trustees, struggling to recover after massive investment losses in 2000-2001 and 2008-2009, were targeted by Wall Street firms taking big fees for their services but failing to deliver on promises.
He would not hire Carlson now, Tobe said, because he is not a chartered financial analyst, a designation of expertise in investment management. He also would not hire Carlson because the Texas Municipal Retirement System hired fund management companies being sued in Kentucky after Carlson joined the management.
Tobe recommends that MOSERS take another look at Carlson.
“The trustees in Missouri should seriously consider whether they want to keep him on,” Tobe said.
How MOSERS works
Since it was established in 1957, the Missouri State Employees Retirement System has invested state tax dollars in stocks, bonds and other securities.
The goal is predictable costs and investment growth so the burden of the benefits is less than in a pay-as-you-go system. Its success is measured by an annual analysis of how much of all promised benefits can be paid.
That means making assumptions about the future. For example, MOSERS expects state payrolls to grow by 2.25 percent annually and for wages to increase by 2.5 percent per year.
The most important assumption, however, is the return on investment.
In 2001, analysts found MOSERS was 97 percent funded, with investment returns assumed to be 8.5 percent.
At the end of fiscal 2020, the system was 61 percent funded, with an assumed rate of return of 6.95 percent.
Fixed-income investments like bonds are paying very low interest rates. The yields on 30-year U.S. Treasury bonds are under 2 percent, so earning more means investing in municipal or corporate bonds — and even then rates are at or near historic lows.
MOSERS had $11.5 billion in cash and investments at the end of June 2020, with net assets of $8 billion. Of that amount, MOSERS held $4.8 billion in treasury bonds and $659 million in other fixed-income securities.
Pension funds across the country have been reducing their assumptions about market returns, Carlson told The Independent, and most of it is tied to low interest rates.
“That is one of the major problems pensions face and the reason they are having to reduce their expected returns,” he said.
The result is more money from taxpayers. Over the past five years, the annual expense from all funds has increased from $335.2 million to $463.3 million. About two-thirds of that cost is to cover the $5.6 billion difference between what the fund has and what it expects to pay out.
There are 51,447 retirees and their dependents and 46,417 active state employees.
In 2001, Missouri contributed 12.3 percent of the state’s covered payroll to MOSERS. The state contribution rate for fiscal 2022 is 23.51 percent.
It has almost doubled despite two revisions to the plan intended to reduce costs — including a change in 2011 that requires new employees to contribute 4 percent of their pay to the system and wait longer to retire.
The state’s contribution to the fund is projected to increase for four more years before leveling off at the higher rate for another nine years.
If the state doesn’t hit its investment target, the state’s contribution will go even higher. Unlike many states that have troubled retirement programs, Missouri has never failed to spend the money actuarial analysts show is needed to fulfill promises for 30 years.
“The state of Missouri as an employer has had a long-standing commitment to fully funding what the actuary recommends and the board certifies for the contribution rate,” Stegmann said. “That is a big key to being sound, is receiving the full contribution that the actuary is calculating.”
The billions held by MOSERS are not invested directly by employees of the system. Instead, it has four investment management consultants and 54 investment advisers. It paid $51.5 million in investment fees and incentive payments in fiscal 2020.
The governing board hires the director and approves the investment plan. Each sector — growth, income, inflation hedges such as commodities or real estate, and alternatives, such as hedge funds — have an allowable slice of the pie.
Carlson’s job is to direct the placement of money from contributions, income or sale of current holdings within those broad categories. He said he does not need the chartered financial analyst designation to meet the system’s goals.
“A chartered financial analyst designation is an admirable designation to get,” he said. “It is certainly not a requirement in any way.”
His success should be measured against clear goals, Carlson said and the first step is meeting the return goals set by the trustees.
“If you don’t understand how it is going to be measured,” he said, “you never know whether it is going to be met or not.”
Risky business
Cameron’s lawsuit in Kentucky accuses the former officers, consultants and investment firms of taking improper risks to cover up the retirement system’s long-term failure to meet its rosy actuarial assumptions.

When the 21st century began, the funding rate was over 100 percent, it states. But in the market downturn in 2000-2001, the fund lost more than 20 percent of its value. That was followed by a loss of 30 percent of its value in 2008-2009.
“All defendants also realized that if they honestly and in good faith factored in and disclosed realistic actuarial assumptions and estimates and investment returns, the admittedly underfunded status of the plans would skyrocket by billions of dollars overnight, that there would be a huge public outcry, that their stewardship and services to the funds would be vigorously criticized, and that they would likely be investigated, ousted and held to account,” the lawsuit states.
Instead, the officers led a naive Board of Trustees into $1.5 billion of investments in “Black Box” hedge funds, the lawsuit states. These investments were pushed by highly paid consultants who would in turn also benefit from the fees collected on managing the money.
“These funds of hedge funds were extremely high-risk, secretive, opaque, high-fee and illiquid vehicles,” the lawsuit states. “They were the largest, single one time ‘investments’ (individually or collectively of one asset class) ever made by KRS. Trustees took this gamble even though these ‘Black Boxes’ had no prior history of investment performance, and, because of their secrecy, were impossible for trustees to properly monitor, accurately value or even calculate the total fee burden.”
When the retirement system made its investment, Carlson defended it as a way to lock-in the 7.75 percent annual rate of return used to calculate the future value of the fund.
“The main reason (for the new absolute-return strategy) is to reduce volatility in the portfolio overall … [and] to get our expected rate of return of 7.75%,” Carlson said, according to the court filing. “Absolute return helps us maintain our expectations but lowers our risks.”
The investments didn’t deliver on a single promise, the lawsuit states. The returns were meager.
“They did generate excessive fees for those Hedge Fund Sellers, poor returns and ultimately losses for the funds, in the end damaging the Commonwealth, KRS and Kentucky taxpayers,” it states.
The same amount, invested in low-fee funds tied to major market indices, would have doubled in seven years.
Each of the trustees contacted by The Independent said they have confidence in Stegmann’s selection of Carlson. But they said knowledge of the lawsuit will make them watchful.
“If in fact the board sees there are rash decisions being made, then the board will discuss in the future,” Rizzo said.
The stability of MOSERS is not at risk, Stegmann said. Her parents are state retirees and her next-door neighbor retired 30 years ago from the Department of Corrections.
“There are a lot of people I know and care about that are relying on MOSERS for their financial security,” she said. “Certainly decisions like this are something I want to be very diligent with and I feel like I was. I have a very strong conviction that TJ is going to be a great fit and do a good job.”
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