Resources & Updates

By Clifton D. Petty, Ph.D., Pension Consultants, Inc.

Overview
When it comes to general principles, we are as attracted to the“exceptions” as hummingbirds are attracted to the color red. Attend any tax planning seminar, for example, and casually state that in regards to paying a particular tax “there is this one exception…” A crowd will gather, and will generate buzz that is likely to extend well beyond the immediate circle.

Of course, beyond the buzz we usually find that the exception is not a true exception at all. The tax “loophole” is not intended to open the door for tax avoidance, but is designed to apply some general tax principle to a particular type of situation or problem.

Section 404(c) of ERISA has generated all the buzz and controversy of an exception to the general principle of named fiduciary responsibility. The traditional buzz about 404(c) is that it allows plan sponsors to limit some of their fiduciary responsibility. But it is important to recognize that the buzz is half of the story, and that 404(c) is no blanket exception that allows plan sponsors to duck fiduciary responsibility. Instead, 404(c) simply allows fiduciary responsibility to “move” in concert with control over assets. Participants in a 404(c) plan are making their own investment (allocation) decisions, and it follows that the responsibility for these decisions should rest with these participants. If 404(c) did not exist, plan sponsors might find themselves responsible as fiduciaries for investment decisions (i.e., selections and monitoring) over which they could exercise no control.

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By Clifton D. Petty, Ph.D., Pension Consultants, Inc.

Overview
For years the issue of fiduciary responsibility for proxy voting was mostly a distant blip on the radar of plan sponsor concerns. But in recent months we have noticed both a strengthening of interest in this issue, and a gathering of common regulatory momentum across such agencies as the DOL and SEC. It is difficult to predict the long run implications of these developments, but in the short run we believe that plan sponsors should carefully track this issue. We also recommend that plan sponsors take some basic steps to ensure that their plans are prepared for the new wave of proxy attention and controversy.

Not a New ERISA Issue
The issue of whether fiduciaries are responsible for voting proxies is not a new one. The Department of Labor has directly addressed the issue in advisory opinion letters dating back at least to the Avon Letter of 1988, and culminating in a 1994 Interpretative Bulletin that now appears far ahead of its time.

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Any Institutional Investor (II) – qualified plan sponsor, defined benefit sponsor, endowment or foundation – faces a number of daunting decisions in the investment selection process. One of the first decisions is which broad asset classes to offer and then within the broad classes which styles or compositions should be offered. A number of papers will be written on various aspects of these processes. Because the domestic equity allocation is normally the most dominant portion of the plan it will be the first class discussed in two papers.

Background
The Morningstar database is a widely recognizable database and will be the definitional and operative database under consideration. Other databases define categories differently.

Domestic equity styles are defined by style categories. Horizontally the categories are divided into the style disciplines (value, core or blend and growth) and vertically by the market capitalization of the stocks in the funds; large capitalization (large caps), middle-capitalization (mid-caps) and small capitalization (small-caps). Two additional size categories are also found, but are included in broader categories. In Morningstar, giant-capitalization stocks account for the top 40% of the capitalization within the style; large caps are the next 30%; mid-caps the next 20%; small caps the next 7% and micro-caps the final 3%. Giant-cap stocks are included in
the large-cap group (totaling 70%) while micro-caps are included in the small-cap group (totaling 10%).

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By Clifton D. Petty, Ph.D., Pension Consultants, Inc.

Overview
Proxy cards often appear about as interesting as a mortgage loan application. It may be tempting to toss the card and assume that management’s recommendations are solid. But just as it could be detrimental to your personal finances to sign off on a mortgage without reading the fine print, we believe that it could be risky for fiduciaries to take a pass on proxy review. And recent regulatory changes will significantly raise the stakes for proxy review and voting.

New Disclosure of Mutual Fund Proxy Voting
The SEC set August 31, 2004, as the deadline by which investment companies must disclose their proxy voting records. This new disclosure, labeled N-PX by the Securities and Exchange Commission, must also include the fund’s policies and procedures for voting their proxies. Together with recent rule changes regarding proxy disclosure of the policies and procedures of Board Nominating Committees, a new proxy landscape is quickly emerging.

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