Funeral Trust Was Underwater For Years
Investments managed by the Wisconsin Funeral Trust — marketed to consumers as a safe place to invest cash earmarked to cover their funeral expenses — have had a shortfall of millions of dollars every year since 2008, one year after the fund’s investment advisers called for putting money into the stock market and other riskier investments, records obtained by the Milwaukee Journal Sentinel show.
The state last month persuaded a Dane County judge to place the Funeral Trust and the Wisconsin Funeral Directors Association into receivership, comparing the fund to a Ponzi scheme with a financial shortfall of more than $21.5 million. The newspaper has since determined that the fund has been underwater for at least six years.
The 2007 call for a more a more aggressive investment strategy for the fund was made two weeks after an attorney for the Funeral Directors Association told the trade group it did not have to restrict investments to a small number of conservative options, according to financial records, memos and other documents provided to the newspaper by sources and in response to open records requests.
In fact, records show that the fund had been involved in risky investments, such as hedge funds and futures, well before the legal opinion was written in April 2007 . Those types of investments can sometimes produce higher returns for the fund and higher fees for the advisers, but they also carry additional risk.
The aggressive strategy was supported by a legal opinion issued in April 2007 by the law firm of Reinhart Boerner Van Deuren, which began advising the fund that year.
“It is our opinion . . . (state law) does not limit the investment of such trust funds to certificates of deposit and other accounts at . . . financial institutions,” wrote Todd Martin, who resigned from the law firm last month to create his own firm. His departure was unrelated to the Funeral Trust situation, he said.
Less than two weeks after the 2007 legal opinion was issued, brothers Michael and Patrick Hull, the Funeral Trust’s investment advisers from brokerage firm Smith Barney — then part of Citigroup — urged the funeral directors to implement a more diversified investment strategy that included slashing the amount of money invested in fixed income instruments, such as bonds, and investing the bulk of those funds in the stock market.
“Keeping in mind that the members of the (trust fund) committee have always taken a conservative approach toward the investment of Trust assets, we feel that the (legal opinion) allows us to further reduce the overall risk of the portfolio, while providing the trust with the opportunity to increase investment returns,” Patrick Hull wrote in the April 24, 2007, memo.
Materials attached to the letter, however, show the new strategy involved riskier investments. A chart included in the packet disclosed that four of the six recommended investment scenarios — including one that was circled — had higher risk ratios.
The following month, the funeral directors’ trust fund committee approved the new strategy.
The Funeral Trust hired Smith Barney as its investment adviser in the late 1990s. Michael Hull, 44, started advising the trust in 1999 as an employee of that brokerage and its subsequent incarnations. Patrick, 42, joined his brother in the investment business and on the funeral directors’ account in 2004 when he left his post as a music teacher in the Fall Creek school district.
Both men left the brokerage, now known as Morgan Stanley Smith Barney, this year.
Funeral directors say they put their faith in the Hull brothers and their assurances that the investments were appropriate for the fund.
“The committee consists of funeral directors volunteering their time to run the trust, and we pay people like the Hull brothers a good salary to give the best advice they can,” said Charles Myrhum, a West Bend funeral director who chaired the association committee that oversaw the trust fund. “The attorney says sure, it’s legal. We hired these people, paid them very well. . . . You take their advice.”
Connie Ryan, a Madison-area funeral director who was instrumental in creating the trust fund in 1999, agreed that the directors were simply following their hired experts’ advice.
“We had lousy information, lousy legal advice and lousy brokers,” Ryan said. “There isn’t a single funeral director who did anything wrong.”
Michael Hull counters that he and his brother were doing the bidding of the funeral directors, who according to Hull and court documents were seeking returns above 8%. He says the board was aware of their investment activities.
Two Milwaukee-area investment advisers who reviewed the recommended investment strategy at the request of the Journal Sentinel said the new plan involved additional risk.
“That’s unquestionably more risky,” said Michael Francis, president of Francis Investment Counsel, who advises clients who are investing about $6 billion in assets.
“Any time you take about 30% of a portfolio and move it from bonds to stocks, it is riskier,” said Michael Sadoff, an investment manager at Sadoff Investment Management.
Sadoff noted that according to “investment theory” the stock strategy could provide higher returns over the long term.
“That’s why it’s called investment theory and not actual practice,” said Sadoff, whose firm manages about $650 million. “Obviously, in this case it didn’t work.”
During an interview on his 12-acre Oconomowoc estate on Ashippun Lake, Michael Hull defended the work he and his brother did. Though state regulators say the fund has a shortfall — the difference between the amount of money promised to investors and the actual amount available — of at least $21.5 million, Hull said the shortfall would have been eliminated in time.
“The portfolio was very well designed,” he said. “In three to five years, who’s to say” what would have happened.
He said regulators are overplaying the importance of the shortfall because it represents the amount of money the fund would be short if every investor died or tried to cash out their investment at once.
“That’s not going to happen,” Hull said.
The state’s action last month came after an investigation by the Department of Financial Institutions, which is charging the trust fund with misrepresentation, saying it used deceit and fraud to sell unregistered securities.
The state says in court documents the fund should have about $70 million available to pay investors, although it actually has less than $50 million. In addition, the funeral trust posted an actual loss of $6 million.
“If the trust were to be liquidated tomorrow, we estimate that each account would receive perhaps 30-35% less cash” than the amount that had been promised to them, court-appointed receiver John Wirth wrote in an email to approximately 500 funeral directors this month. “I, of course, intend to attempt to recover that loss.”
Wirth’s job as receiver is to run the operations of the trust and the trade group, and to try to recoup any losses.
Until the losses are recovered, funeral directors are covering the costs of the funerals for those who invested in the trust. Some funeral directors have a potential liability of more than $1 million.
Even those who didn’t use the trust fund are paying a public relations price, said Mark Krause, president of Krause Funeral Homes in Milwaukee, who is not a member of the state trade group that owned and operated the fund for its members.
“This makes us all out to be a bunch of Bernie Madoffs,” Krause said.
Interviews with those involved in the controversy and a review of documents show that:
The shortfall was growing steadily since at least 2007, although investors buying into the fund were not told it was underwater.
The shortfall was less than $200,000 on March 31, 2007, according to financial reports by the trust fund’s auditors. It jumped to $8 million one year later and hit nearly $19 million in spring 2009. The shortfall dropped to $13.3 million by March 31, 2011. The state complaint puts the shortfall at more than $21.5 million now.
William Downs, a Superior funeral director who chairs the committee that oversees the Funeral Trust, said he learned about the shortfall in March 2011 when he joined the committee. He said he told Scott Peterson, who was then the association’s executive director, to work with the Hulls to right the financial ship.
Peterson, who was fired as the director by Wirth last month, said he and committee members were concerned about the fund’s performance. But, he said, “We left the choices of those investments to them; that’s what the investment adviser does.” Wirth also fired the Hulls as the fund’s advisers last month.
The Hulls were being paid fees that ran up to about 2.5% of the investments — a cut that financial advisers say is on the high end of the scale. The fees varied depending on the type of investment and the work performed by the advisers. Officials are investigating whether some trades were made merely to generate commissions; the Hulls say all trades were justified.
Michael Hull was fired by Morgan Stanley Smith Barney in April of this year because of “a loss of confidence” and concerns about his “involvement in outside investments that were not approved by the firm,” according to a filing with securities regulators. The filing also shows that three customers had filed complaints against Michael Hull and that one resulted in a $1.75 million payment to the Erica P. John Fund. The Milwaukee nonprofit alleged that Hull had made “misrepresentations regarding unsuitable investments.”
Hull said that he did nothing wrong and that the firm settled the matter to avoid costs of litigation. He said he is filing an arbitration claim against Morgan Stanley because he said he was fired as retaliation after the company heard he was preparing to launch his own firm.
Patrick quit Morgan Stanley, and the brothers have launched BluePoint Investment Counsel in Madison.
A spokeswoman for Morgan Stanley declined to comment.
At the heart of the state complaint is its contention that the trust fund is restricted by law to only investing in securities through lending institutions insured by agencies such as the Federal Deposit Insurance Corp. — an interpretation of the law that would mean the fund was in violation from day one.
Ralph Weber, an attorney representing Reinhart, said the law firm stands behind its 2007 opinion, which gave a green light to more aggressive investing. He noted that the trust fund was approved by three state agencies in 1998, 1999 and 2009 and that the association disclosed at the time that its investments would go beyond CDs and insured accounts.
“They approved it and they were correct in doing so,” Weber said. “These are smart people; they knew what they were approving.”
Regulators, however, counter that they approved the Funeral Trust based on the information they were given by the funeral directors association.
“The approval was not based on the information we have now,” said Richard Wicka, deputy counsel at the Office of the Commissioner of Insurance, which reviewed the trust agreement in 2009 because the trust fund was creating an insurance company to sell funeral policies. “We asked all the right questions, we were satisfied with the answers we got and we know now the answers were incomplete.”
Sources say regulators are now pressuring the fund to sell that firm, Requia Life Insurance Corp., because according to the Justice Department’s interpretation of state law, the trust cannot own an insurance company.
The current action against the funeral trust caught many by surprise, including Mark Paget, the association’s executive director from 1998 to 2006.
Paget, who now oversees the Wisconsin Dental Association, said he didn’t realize the fund was involved in risky investments even while he was in charge.
“There is no way that we would have knowingly allowed that to happen given the tight parameters and the rules we were following,” Paget said.
Paget’s recollection of the fund: “Our investments were so boring, we would laugh about how boring we were.”
JOURNAL SENTINEL WATCHDOG REPORTS
(c)2012 the Milwaukee Journal Sentinel
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