PENSION FUND WON’T INVEST IN BIG DONORS

Trustees of the state’s massive teacher retirement fund voted Friday to stop doing business with financial investment firms that make large political contributions to the governor or other statewide officials -- a move that experts said would prompt pension boards across the nation to follow suit.

The action follows a series of pension scandals involving board members of multibillion-dollar funds steering investments toward their political patrons. The vote by trustees of the California State Teachers Retirement System, known as CalSTRS, is an attempt to purge such influence peddling.

“Our goal is to make sure we don’t make investment decisions based on the political contributions people give,” said Anne Sheehan, who represents Gov. Arnold Schwarzenegger on the board and led the push for the ban.

The new rule will limit firms the fund does business with and their employees from giving more than $1,000 in campaign cash yearly to board members -- who include the state treasurer and controller -- or the governor, who has several appointees on the board. Previously, most of the firms were limited only by state campaign finance rules, which in an election year allow individuals and companies to give up to $44,600 to a candidate for governor and $11,200 to treasurer and controller candidates.

A Times analysis shows that financial firms, including investment banks, venture capitalists, hedge funds and financial advisory services, gave at least $27 million this year to the governor, Treasurer Phil Angelides and Controller Steve Westly.

The Times reported this spring that Angelides and Westly, rivals in the June Democratic gubernatorial primary election, steered the pension boards they sit on, including the teacher fund panel, to invest in firms that contributed to their campaigns.

Violators of the new rule will pay a penalty to CalSTRS of at least $10,000 and will be prohibited for two years from receiving any CalSTRS contracts -- considered among the most lucrative in the financial industry, with the potential to yield millions of dollars in fees.

Arthur Levitt, a former chairman of the Securities and Exchange Commission, called the board’s vote “an act of enormous courage which will have a ripple effect in pension systems throughout the country.”

“It is simply wrong to have trustees of pension funds be the recipient of political contributions from firms who have an interest in their actions,” he said. “It is an out-and-out conflict, and it is wrong.”

The CalSTRS vote comes as corruption has tarnished several retirement systems in recent years, bruising boards in such cities as San Diego, Chicago and Philadelphia. Its own members have also been accused of using their influence on the board to land contracts for donors.

Financial experts say the awarding of investment contracts based on political connections can prove costly to taxpayers. It can result in hundreds of millions, if not billions, of dollars in investments being placed in the hands of companies that might not be up to the task. The state has already promised billions more in benefits than its pension systems are projected to have the funds to cover. When pension investments perform poorly, the gap left for taxpayers to fill becomes that much bigger.

The cost is also felt in the fees financial firms charge. Levitt says even the most qualified firms feel pressured to make political donations to keep their contracts. Those donations become a business expense. The firms make up the cost by increasing their fees, which in turn diminishes the amount available for retirees.

CalSTRS is now one of only two public pension boards nationwide with such a ban, the other being in New Jersey. Experts predict that the move by CalSTRS -- the second-largest pension fund in the nation, with $153 billion in assets -- will spur officials at other funds to move forward with proposals to combat influence peddling.

“This will start a rally through the pension industry,” CalSTRS CEO Jack Ehnes said during a 3 1/2 -hour board meeting at the pension system’s Sacramento headquarters Friday. “You can guarantee that.”

Although staff members at the teacher retirement fund say it will be at least six months before the new rule is operational -- official language must still be hammered out through a regulatory process -- other pension boards have already begun to take notice. Trustees at the California Public Employees Retirement System, or CalPERS, the largest public pension fund in the country, directed its staff to develop a contribution ban proposal after the CalSTRS board made clear in September that it was heading in that direction.

CalSTRS “is making a statement that money corrupts the process,” said Robert Stern, president of the Center for Governmental Studies in Los Angeles. “They are saying they don’t want people who are bidding to give campaign money.”

Stern said that though the move is unique for such a large governmental organization, some California cities have already put similar bans in place. Gardena, for example, prohibits contractors from giving money to City Council members while they are seeking government projects. Pasadena has such a proposal on the ballot Tuesday.

Officials at the pension fund had expressed concern that curbing political giving could prompt firms with attractive investment opportunities to simply walk away from CalSTRS, damaging its overall returns.

Chief Investment Officer Christopher Ailman told board members that was unlikely to be a problem. He said most firms he surveyed told him they would be “thrilled” with such a rule, and a few even told him, “frankly, that would cut my costs.”

The only group Ailman said was skeptical were venture capitalists, who account for a small but highly lucrative share of CalSTRS investments.

“They are very politically active,” Ailman said. “Some of the comments we got back were very strong.... One [general partner] said he would not consider CalSTRS [investments] any longer.”

It was the aggressive pursuit of pension fund cash and policies on behalf of venture capitalist donors by the treasurer and controller -- both CalSTRS board members -- that became a focal point of last spring’s primary for the Democratic gubernatorial nomination.

Westly had helped a politically connected venture capital firm land a $5-million contract from CalPERS after outside investment experts hired by the state to pick funds took a pass on the proposal. And the controller’s desk calendars, obtained through a request for public records, were filled with private meetings with donors linked to financial firms doing business with California pension systems.

The Angelides campaign aired a commercial that accused Westly of corruption. Angelides’ own campaign coffers, meanwhile, have received a huge boost from companies with business before the pension funds, and his advocacy on their behalf was frowned on by ethicists.

Both the treasurer and controller, however, voted for the new rule Friday.

evan.halper@latimes.com

Times staff writer Dan Morain contributed to this report.