Here’s how state Treasurer Russell has reformed the state’s pension fund investment strategy

When he was growing up in New Haven and West Haven, State Treasurer Erick Russell said, his family didn’t have “a lot of resources.”

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“I didn’t know much about state government growing up, but I always knew I wanted to do things to be helpful,” he said during a recent interview with Hartford Business Journal.

In particular, Russell wanted to help others who lacked resources.

“How do we look at government and make it work for people in a real way, and create opportunities and give people a shot?” he asked.

In his nearly two years in office, Russell has taken steps to answer those questions. One of the first was to help negotiate a deal in 2023 to implement Connecticut’s first-of-its-kind Baby Bonds program.

Enacted by the state legislature in 2021 but delayed by Gov. Ned Lamont, the program seeks to address the racial wealth gap. It automatically places $3,200 into a trust for each newborn covered by HUSKY, the state’s Medicaid program.

According to the treasurer’s office, each deposit will be invested and potentially could grow to between $11,000 and $24,000, depending on when the money is accessed, which can be between the ages of 18 and 30.

Equally important to Russell is getting the state’s pension house in order. During his tenure, the pension fund has seen notable improvement — in December, Russell joined Lamont and Comptroller Sean Scanlon in announcing the state employees retirement system is now 55.2% funded, the highest level since 2003, while the state teachers’ pension fund is 62.3% funded, the highest since 2008.

While that means Connecticut remains one of just six states with employee pensions funded below 60%, the improvement is significant.

It’s due in part to $8.5 billion in additional contributions since 2020, but also to two straight years of strong investment returns — 8.5% in fiscal year 2023, and 11.5% in fiscal 2024.

Last fiscal year’s performance placed Connecticut in the top 25% nationally of large public pension funds, Russell said.

“When I think about the pension funds, it is so critical,” Russell said. “I mean, we went 70 years of not (funding the pension funds). And the frustrating part is, I look at myself and younger generations who are going to bear the burden of 70 years of mismanagement and digging us out of this hole.”

With state employee pensions funded 17 percentage points higher than they were 20 years ago, they are now at least on a better path toward easing that burden on future generations.

That’s the opinion of Jeffrey A. Sonnenfeld, senior associate dean for leadership studies and the Lester Crown Professor in the Practice of Management at the Yale School of Management. He co-authored a study published in May 2023 that was critical of past state treasurers and the state’s past investment performance.

In fact, the study concluded that “previous treasurers provided this state, consistently, with one of the single worst investment track records” in the country, costing Connecticut billions of dollars in returns that could have significantly improved the pension fund’s funding status and/or led to tax cuts.

Sonnenfeld has, however, expressed high praise for Russell’s first two years in office, calling him “probably the best treasurer we’ve had in 30 years.”

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“We are very fortunate to have Erick Russell in that role,” Sonnenfeld said. “I’m hugely enthusiastic about the reforms he’s made. … He’s a godsend!”

Hartford Business Journal recently sat down with Russell to discuss the reforms he instituted and his expectations for the future, including the anticipated impact of the incoming administration and Congress in Washington, D.C.

Asset allocation

While he was sworn in as state treasurer on Jan. 4, 2023, Russell already had some experience with the office.

After graduating from the University of Connecticut School of Law, he joined law firm Pullman & Comley, eventually rising to a partner in the firm’s public and private finance group. In that role he represented municipalities and state agencies in financing infrastructure projects, managing debt and restructuring pension obligations, often working directly with the treasurer’s office.

Armed with that experience, and the knowledge that state investments had severely underperformed, Russell hit the ground running.

“We’ve put in a lot of reforms since coming into office, the biggest one being changes in asset allocation,” he said.

That has included eliminating $394 million in transportation-related debt, which will save taxpayers $682.1 million over the next decade, Russell said.

It also has included methodically moving more of the state’s portfolio into private markets. He and the state’s Investment Advisory Council developed a “five-year pacing plan” to increase allocations to “private equity, private credit, rail assets, infrastructure (and) natural resources,” he said.

They are now a couple of years into that plan and review it regularly, he added.

They also have allocated some investments into public markets, while reducing exposure in emerging markets, Russell said.

“That certainly has benefited us over these last couple of years,” he said.

The treasurer’s office also has improved its staff, which now includes 25 people on its pension fund management team and 136 employees overall. Meantime, the state has bolstered the Investment Advisory Council, which includes five appointed members of the public who assist the treasurer on investment policies.

The council added Philip Zecher, a Stamford resident who is the chief investment officer for Michigan State University, as chairman, and Christopher Murphy, senior managing director for Hartford Investment Management Co.

Fund managers

Another change involved reducing the number of asset fund managers the state relies on, Russell said.

“Managers that we have high conviction in, we’re scaling up our investments,” he said. “That allows us to get better economics on those transactions, and lower fees as we’re investing on a bigger scale.”

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The state has also moved more pension money into “passive” investments, he said, which also reduced fees.

In the report on the state’s investment performance written by Sonnenfeld and Steven Tian, director of research and chief executive of the Leadership Institute, they criticized the state’s reliance on certain poor-performing asset managers.

“There are cases where we are invested in funds where Connecticut is the single largest client — sometimes substantively the only client, all while Connecticut pays high fees, with some obscure asset managers individually earning more than the entire state’s cabinet combined,” they wrote.

In a recent interview with Hartford Business Journal, Sonnenfeld said “there are some long-standing underperforming asset managers that seem to still be on the Connecticut payroll,” indicating there is still room for improvement.

Russell declined to comment on the Yale report or Sonnenfeld’s criticism, but did say the majority of the changes he instituted occurred before the report was published.

“What I would say is, we are constantly evaluating all of our managers,” Russell said. “We have regular check-ins and reviews. We have a watch list. So, if there are managers that are not meeting their benchmarks, or that are underperforming, we are constantly reviewing that.”

His office is “constantly engaging” with asset managers about fees to ensure the state is getting the best deal on its transactions, he said.

“You pay fees because people perform,” Russell said. “You don’t mind paying fees when people are actually providing returns for pensioners, right? And so that’s what our ultimate goal is.”

He added that the state is now managing a growing, $60 billion fund, and that even small changes in performance “are really significant when you multiply that over the portfolio.”

He also cautioned that the intent of the investments is to meet long-term goals.

“We’re not day traders,” he said. “We’re not trying to time the market. What we want to do is position our portfolio to perform over a long period of time in a way that is mitigating risk for pensioners.”

New administration

Russell is certainly aware of the potential changes coming in Washington, D.C., and how that may affect the returns on the state’s investments.

He believes the best course of action is to wait and see what happens, but to prepare as best as possible.

“I think my biggest concerns are, when you combine what has been talked about from a tariff perspective with the talks of mass deportation, I just think it has the ability to really cripple us economically in a big way,” Russell said.

“From a market perspective, I think we’re going to see rates higher for longer,” he added.

Despite the uncertainty, Russell said he does not expect the state legislature to return to the days of kicking the can down the road.

“To be very clear, there’s been no conversation whatsoever around not making our required contributions to our pension fund,” he said. “I don’t think that there will ever be an appetite for that in Connecticut again.”