Compliance January 18, 2017

Does ERISA Permit Courts to Order One Fiduciary to Indemnify Another?

This is the question in a petition before the Supreme Court in a case involving a leveraged buyout of an ESOP.
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The Supreme Court has invited the solicitor general to file a brief in a case concerning whether the Employee Retirement Income Security Act (ERISA) permits courts to order one fiduciary to indemnify another.

According to case documents, Trachte Building Systems, Inc. established an employee stock ownership plan (ESOP) in the mid-1980s. In the late 1990s, David Fenkell and Alliance Holdings, Inc., a company Fenkell founded and controlled, developed a niche specialty of buying and selling ESOP-owned companies with limited marketability. In the typical transaction, Fenkell would merge the ESOP of an acquired company into Alliance’s own ESOP, hold the company for a few years and then spin it off for a profit.

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Alliance acquired Trachte in 2002 for $24 million and folded its ESOP into Alliance’s ESOP. Fenkell estimated the company would gain him around $50 million in five years. However, when the time came to sell, Trachte’s profits were flat, its growth had stalled and no independent buyer would pay that price.

Therefore, Fenkell offloaded the company to its employees in a complicated leveraged buyout. When all was completed, Trachte and the new Trachte ESOP had paid $45 million for 100% of Trachte’s stock and incurred $36 million in debt. By the end of 2008, Trachte’s stock was worthless.

The participants in the new Trachte ESOP sued Alliance, Fenkell, his hand-picked trustees and others alleging breach of ERISA fiduciary duties. The National Center for Employee Ownership notes that a district court ruled that the ESOP trustees needed to restore losses suffered by the plan while at the same time ruling that Fenkell, indemnify the other trustees. The district court found that Fenkell was the “more culpable fiduciary,” and the 7th U.S. Circuit Court of Appeals affirmed this decision.

Circuit courts are split on whether ERISA permits courts to order one fiduciary to indemnify another.

Data & Research January 18, 2017

Adviser Familiarity with Strategic Beta ETFs Overwhelmingly Low

While market volatility and geopolitical events are major concerns for advisers, a new study suggests most aren’t utilizing strategies that can address these issues, such as strategic beta.
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A new survey by Hartford Funds suggests that strategic beta exchange-traded funds (ETF) are grossly underutilized by advisers, and the biggest factor pushing down engagement could be lack of familiarity with these products.

According to study, 72% of advisers don’t use strategic beta ETFs or have less than 10% of client portfolios invested in these solutions. Only 5% of advisers allocate more than 30%. Of the advisers not using strategic beta ETFs, 41% say it’s due to lack of familiarity. Only 14% of investors claim to be familiar.

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The study concludes that although investors are most concerned with market volatility (36%) and geopolitical events (22%) affecting their investments, the majority aren’t incorporating products into their portfolios which can address these challenges and manage risk exposure. Hartford Funds argues that while most advisers (62%) are somewhat familiar with these products, most are not versed in them enough to meaningfully use them in client portfolios.

“As strategic beta ETFs proliferate the marketplace, advisers have an enormous opportunity to educate themselves and their clients about their potential advantages,” says Ted Lucas, head of systematic strategies and ETFs at Hartford Funds. “These investment products have the potential to help clients solve for specific objectives like growth, volatility and income—typically at a lower cost than traditional actively-managed mutual funds.”

However, the study also elicited adviser interest in strategic beta ETFs with 33% citing the potential to achieve index outperformance, and 30% citing diversification as the most attractive features of these products.

“Strategic beta ETFs provide advisers with an opportunity to help investors with the challenges in today’s low-growth and potentially volatile market environment looking forward,” adds Lucas. “While strategic beta usage has often been tactical to date, many multifactor strategic beta products were designed for core allocations and long-term investments.”

However, most advisers (72%) believe strategic beta to be a tactical investment tool as opposed to a strategic “core” investment tool (28%), the study found.

But as more strategic beta ETFs enter the market, it’s important to note that ETFs are generally a small part of the retirement space with many ETFs entering the defined contribution (DC) realm through target-date funds (TDF).

The Hartford Funds survey of 794 investors and 348 advisers was conducted both in-person and via phone throughout October and November 2016.

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