Hiring of Pena’s Ex-Firm in L.A. Raises Questions : Investment: Ethics issue is cited in pension fund deal. Transportation secretary denies any improprieties.

At the same time that Federico Pena was preparing to take office as secretary of the U.S. Department of Transportation two years ago, an investment firm he founded sought the business of a public transit pension fund in Los Angeles.

Pena and his partners had made an unsuccessful approach months earlier with the Southern California Rapid Transit District. But this time local officials decided to hire the firm to manage $5 million for the pension fund. Records and interviews show that they sealed the deal on Feb. 8, 1993--without competitive bids--shortly after Pena took federal office and about a month after he sold his stake as the company’s president and chief executive officer.

The transit district’s turnabout was no coincidence, according to key local officials who were involved. The support of the incoming Clinton Administration was considered crucial to plans for expanding the multibillion-dollar Los Angeles subway, and the local officials were eager to cultivate Pena’s goodwill.

“The question is, would the firm have been hired if he had not been who he was at that time?” said Melvin F. Marquardt, the investment manager of the pension fund during 1992-1993. “And most likely, not. . . . In all honesty, (the firm) wouldn’t have been hired.”

The pension fund’s hiring of Pena Investment Advisors is worthy of scrutiny, according to public investment experts consulted by The Times, because California and federal law call for pension funds to be managed solely in the best interest of participants and retirees.

Political connections or possible benefits for other entities are not considered valid factors in determining how money is invested or by whom.

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Pena, as Clinton’s chief transportation policy-maker, has consistently backed the Los Angeles project over the past two years. Starting in May, 1993, he has committed $1.7 billion of federal funding for expanded construction. Last month, he authorized an extra $187 million, mostly to help pay for extending the subway to East Los Angeles.

In an interview, Pena said his actions as transportation secretary have “absolutely not” been influenced by the relationship between the Denver-based investment firm, Pena Investment Advisors Inc., and the Los Angeles transit pension fund.

“There is no relationship between any of the decisions that this department has made, or I have made, as secretary, and the (investment) firm,” he said.

He said he tried to avert a conflict of interest by selling his stake in the firm, for what he termed a loss, within the first two weeks of January, 1993. “The best way to deal with this problem was to completely sever my relationship with the firm,” Pena said. He also pledged in a Jan. 5, 1993, letter to the federal Office of Government Ethics to “recuse myself . . . for a period of one year, in any particular matter having a direct and predictable effect” on Pena Investment Advisors.

In the interview, Pena, 47, did not identify the price he received for selling his interest in the firm, but said it was not affected by the firm’s push at that point for the business of the transit pension fund in Los Angeles. He said he has not decided whether to return to the firm when he leaves office.

At Pena Investment Advisors, spokesman Susan Reinke said the firm won its clients on the basis of performance and qualifications.

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At the time the Pena firm was hired, the transit fund was already stocked with 10 larger and more experienced investment managers, responsible for earning returns on the pension money of transit system retirees and about 10,000 workers.

“With all these other (money) managers, why did they need another manager? And why this particular manager? . . . I don’t know what to call it, except favoritism,” said Ian D. Lanoff, a Washington lawyer and former federal pension administrator who now advises public pension funds.

The Pena firm’s success in winning the transit pension fund’s business was a watershed for the firm: In addition to fees of at least $37,500 a year, the transaction gave the fledgling company its first client from the public sector. Records show that the $5 million from the transit pension fund amounted to almost one-third of the $16 million that the firm had under management at that point.

“This would prove that a firm can win in the corporate world and in the public world,” said Rodger F. Smith of Greenwich Associates, a Connecticut research firm. “It’s very important in establishing a firm as a viable competitor for other business.”

Reinke said the firm’s assets under management had grown to $97 million by the end of 1994.

According to the officials in Los Angeles, Pena Investment Advisors first solicited the transit pension fund around mid-1992, without success.

The firm’s prospects suddenly soared, the Los Angeles officials said, in December, 1992, and January, 1993--when it became apparent that Pena himself would play a prominent role with the incoming Clinton Administration.

Marquardt, who retired in late 1993 after 25 years as the rapid transit district’s pension manager, said that he felt pressured by his superiors to hire the Pena firm.

“I thought we were being pressured to make a decision that I didn’t approve of,” Marquardt said in an interview. “I was more or less annoyed.”

The push to hire the Pena firm, said another official familiar with the matter, “was a show of goodwill for the project. The desire was that it would help the (subway) project, the speed of funding,” particularly for the extension to East Los Angeles.

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Marquardt said he discussed his misgivings with the agency’s general counsel. In protest, he cut by half the $10 million that the Pena firm otherwise would have managed.

If it had been his decision alone, Marquardt said, he would have stood pat with the pension fund’s existing money managers. The transit district merged with the Los Angeles County Transportation Commission in spring 1993 to form the Metropolitan Transportation Authority.

The timing of Pena’s arrival in the then-newly forming Clinton Administration paralleled the Los Angeles transit pension fund’s hiring of Pena Investment Advisors:

* Pena in late November, 1992, was named to head President-elect Clinton’s “cluster” group responsible for staffing top positions in the transportation department.

* Clinton announced on Dec. 24, 1992, that Pena was his choice to be transportation secretary.

* In either December, 1992, or the next month, officials told The Times, Pena’s partners at the investment firm contacted the Los Angeles transit district in a renewed effort to win the pension fund’s business.

* Pena testified at his Senate confirmation hearing on Jan. 7, 1993, that he had divested his interest in the investment firm. Two days earlier he had written to the federal Office of Government Ethics pledging to recuse himself from any matter affecting Pena Investment Advisors.

* On Jan. 23, 1993, Pena took office.

* On Feb. 8, 1993, Marquardt and his colleagues on the Los Angeles transit district’s pension board voted, 4 to 0, to hire Pena Investment Advisors. The pension fund investment board is composed of four management and three union representatives.

One of Marquardt’s superiors at the time said that he and others regarded the hiring of Pena Investment Advisors as a benign way to curry the goodwill of the incoming transportation secretary.

“We saw there was a connection to someone who was going to have a major role in the new Administration,” said Thomas A. Rubin, one of Marquardt’s superiors who at the time advised the pension fund as the treasurer-controller of the local rapid-transit district. “We figured it couldn’t hurt.”

Both Rubin and Marquardt said they believed that representatives of the Pena firm did try to parlay their founder’s status with the Clinton Administration.

“I think they were capitalizing on his nomination as secretary of transportation,” said Marquardt, who now works for a stock brokerage in Los Angeles.

Pena disagreed. “For anyone to suggest that somehow there was this relationship or pressure is absurd,” he said. Reinke, who is chief operating officer of the Pena firm, said the company succeeded on the basis of merit, not “political patronage.”

According to ethics experts contacted by The Times, the transit pension fund’s hiring of Pena Investment Advisors raises difficult questions for those involved.

They question whether the action was based on advancing the interests of workers and retirees whose money was at stake. And, experts said, the timing of the solicitation by representatives of Pena’s firm calls into question whether they sought to profit from their partner’s pending government position.

“It certainly raises questions of propriety and ethical decorum,” said Geoffrey C. Hazard Jr., director of the American Law Institute at the University of Pennsylvania.

Yet there is no policy that calls for the retention of minority-owned investment firms, according to Leslie V. Porter, who succeeded Marquardt as manager of the fund.

Rubin and others who approved hiring Pena Investment Advisors said that they viewed it as harmless because the $5 million entrusted to the firm represented about 1% of the fund’s roughly $500 million of total assets. They said the hiring also helped expand the pension fund’s number of minority-owned money managers.

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But Marquardt said one of the reasons he would not, of his own choosing, have hired Pena Investment Advisors is because the pension fund already had a number of minority-owned firms managing its assets.

“These managers all use incremental fee schedules,” Marquardt said. “So the more money you manage, the lower your fees are. There’s no doubt there was some added cost to the plan for that reason.”

After two years of buying and selling stocks for the pension fund, Pena Investment Advisors has compiled a mixed record, public documents show. The firm got off to a shaky start in 1993, with an investment return 65% below the comparable industry wide index. But last year the firm exceeded the index, with a 4.1% return.

Pena incorporated his investment firm in December, 1991, six months after leaving office as mayor of Denver. Records show that throughout 1992, the investment firm’s first and only institutional client was the pension fund of Colorado-based US West, one of the seven so-called “Baby Bell” telecommunications companies.

Meanwhile, Pena and his business partners were reaching out for new clients, marketing Pena Investment Advisors as a minority-owned firm with a niche as a buyer of undervalued stock in small-to-medium-sized firms.

Both Rubin and Marquardt said that representatives of Pena first called and visited the Los Angeles transit district around early to mid-1992. The Pena firm provided “simulated” returns to show what their track record would have been, according to Marquardt.

At some point in mid-1992, Pena said that he spoke with Marquardt and with one transit board member, Los Angeles City Councilman Richard Alatorre, regarding the firm’s interest in a share of the pension fund’s business.

“(Alatorre) supported the notion that minority firms of one kind or another ought to be able to do business with various city agencies in L.A.,” Pena said. “ . . . And we were, basically, a Hispanic company.” Alatorre did not return telephone messages seeking his comment.

The firm was not hired and Marquardt said there was no movement to bring it aboard.

Pena said that in his view his partners waged a “continuous” effort in 1992 for the pension fund’s business. “I don’t think it’s a question of stopping and going” to exploit his new status, he said.

But Alan F. Pegg, the transit agency’s general manager and top executive, said that representatives of the Pena firm first contacted him in late December, 1992.

Pegg said he was unaware, until interviewed by The Times, about the earlier solicitation.

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“Nobody made me aware of (that),” Pegg said. “The investment people didn’t come up and say, ‘We talked to these guys a few months ago, and said no.’ They (the Pena representatives) didn’t mention it either. . . . I wish they had.”

Pegg said the status of Federico Pena arose in the first conversation, with two of Pena’s partners, Jose L. Santillan and Michael C. Barela. “It was a very up-front conversation,” Pegg said. “I mean, they were very clear that part of the separation allowed them to keep the (Pena) name, that they regarded that as attractive.”

Pena’s two former partners declined, through Reinke, to be interviewed.

Pegg said that he agreed to meet with the Pena representatives in January, 1993, and assigned an assistant to deal directly with the firm, to ensure that they were “hooked up” with Rubin, Marquardt or other members of the pension board who might vote.

Pegg acknowledged that he weighed whether the hiring of Pena Investment Advisors would favorably impress the incoming secretary of transportation.

“Did I think about it?” Pegg said in an interview, “Yeah, I thought about it. . . . Did it cross my mind? Yeah. Do I seriously think that’s a big issue? No. . . . A quid pro quo wasn’t something that I (had encountered before). So did I believe this one would be any different than all the others? The thought occurred to me. I can’t say, realistically, I believed that.”

Pegg said he assumed that Pena’s departure from the investment firm, as of January, 1993, averted any legal problem. But if he had it to do over, Pegg said, he would proceed more cautiously.

“In hindsight,” Pegg said, “ . . . there’s a question here of the timing. I suspect I’d be a little more careful to separate the time.”

Pegg, noting Alatorre’s exhortations at earlier transit board meetings, said he believed the entire agency--including the pension fund--was under direction to make “a push at all minority firms doing business with the government.” Pegg accepted an early retirement in mid-1994 as an outgrowth of the merger of the Los Angeles transit agencies.

Pena’s importance to rail construction in Los Angeles has been underscored over the past four months.

Last fall Pena approved his department’s freezing--and five weeks later the unfreezing--of $1.6 billion of future federal funding for the subway construction.

Administration officials said the funds were frozen in an effort to improve problems with the management, construction quality and safety of what is the most expensive subway project, per mile, in U.S. history.

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“This is a very important project for the country,” Pena said in an interview. “ . . . I have simply continued the relationship between the (Department of Transportation) and the agency” in Los Angeles.

Pena said the transit pension fund should feel free to retain or fire Pena Investment Advisors without respect to his position. “That’s a judgment they have to make to protect the interest of the employees who are part of that pension fund,” Pena said. “ . . . Whatever decisions that agency makes about whomever they hire is their own business.”