Local Government Financial Advisers Must Have No Conflicts

It's important not to have pension board members with serious conflicts
of
interest, such as a personal interest in the board's investments,
or acting as providers of investment products (see <a href="http://www.cityethics.org/content/pension-board-reform-california&quot; target="”_blank”">my
blog
post</a> on California reforms prohibiting such conflicts).<br>
<br>
But it is equally important for a pension board not to work with others
who have conflicts. This issue has arisen with respect to the Denver
board of education's catastrophic decision to get involved in a complex
investment vehicle — pension certificates with a derivative attached —
according to <a href="http://www.nytimes.com/2010/08/06/business/06denver.html&quot; target="”_blank”">an
article in yesterday's New York <i>Times</i></a>.<br>
<br>

At the center of this decision was, of course, a conflict of interest.
The board of ed's independent financial adviser in this transaction,
Royal Bank of Canada, also participated in the debt transaction. School
officials signed a conflict waiver with the bank. That was a big
mistake.<br>
<br>
Governmental bodies need to have truly independent financial advisers,
even when they're dealing with relatively traditional financial
transactions. There are issues such as whether to sell callable bonds
or not, which absolutely cannot be left to anyone who might profit from
one approach more than another.<br>
<br>
The general rule is, the more complex the transaction, the more the
underwriters and insurers profit. These firms must be held completely
at arm's length. Local governments need someone who understands what
the underwriters are saying and,
especially, knows what they are not saying (in this case, the risks of
the downside, which turned out to be huge and of great benefit to the
underwriters). This someone must be absolutely loyal to
the governmental body. Any board members
or other officials who refuse to hire a truly independent adviser
should be held, as fiduciaries, personally liable for losses to the
government.<br>
<br>
The Denver waiver of the Royal Bank of Canada's conflict was at least
as destructive to the citizens of Denver as it would have been had the
school board members each had a conflict themselves, and given
each other a waiver.<br>
<br>
Robert Wechsler<br>
Director of Research-Retired, City Ethics<br>
<br>
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