Hello, Mr. Blue Chips

TIAA-CREF gets a money makeover.

Illustration by Robert Neubecker

The financial adviser to the wine-and-cheese set is undergoing a money makeover. A year ago, TIAA-CREF, the $300-billion-asset not-for-profit company that invests on behalf of university professors and nonprofit employees, brought in a new, high-priced Wall Street chief executive: Herb Allison, the former president of Merrill Lynch. It bestowed upon him an uncharacteristically rich contract, the details of which were disclosed last week.

In the past two months, Allison’s strategy has become evident. In September, TIAA-CREF laid off 500 employees—about 8 percent of its staff—as part of a reorganization. Then, in October, it opened its first branch retail offices, in Princeton, N.J., and Hamden, Conn. TIAA-CREF has plans for several more. Staffed with financial advisers, the centers will become platforms for TIAA-CREF to sell new products and services both to existing TIAA-CREF customers and to new ones. Last week TIAA-CREF ditched Ogilvy & Mather, its advertising agency of 17 years, and hired an edgy startup firm in Boston, Modernista. TIAA-CREF intends, as the New York Times reported, to increase its advertising spending “significantly” from last year’s $25 million total.

These moves—textbook for a financial services company—may seem odd for a not-for-profit institution that, for nearly a century, has defined itself in opposition to Wall Street’s modus operandi. Founded by Andrew Carnegie in 1918, TIAA (it stands for Teachers Insurance Annuity Association) began offering annuities and pensions for university teachers. As academic institutions established pension programs, they turned to TIAA to manage them. After World War II, when inflation was high, TIAA—which invested mostly in bonds—decided to begin investing in stocks as well. In 1952, it created the CREF (College Retirement Equities Fund) Stock Account.

Over the past half-century, this glorified index fund has grown into one of the single largest pools of capital in the stock market—about $88 billion today. Like public employee pension funds, TIAA-CREF has thrived in recent decades because the number of employees at nonprofits, and in state government and education systems, has continued to grow over the years. As important, the entities that employ them continue to meet obligations to fund their pensions—unlike many private sector companies, which have switched to 401(k)s. TIAA-CREF now has the retirement fundsof 2 million people in its hands and is among the nation’s largest asset management companies.

TIAA-CREF has always viewed its position as that of a trustee, since its academic clients typically didn’t have much choice—or, frankly, interest—in how their pension funds were invested. Its customers are, by and large, presumed to be unsophisticated investors—”people with other things to think about,” as the recent advertising slogan put it. Things like Baudrillard, or String Theory. In keeping with its ethos, TIAA-CREF has been the campus protester of Wall Street, calling attention to poor corporate governance and excessive executive compensation. TIAA-CREF’s image as a no-frills, no-nonsense, long-term investor has left it with a sterling reputation.

Herb Allison is cut from a distinctly different cloth than previous TIAA-CREF chief executives, most of whom were university administrators. His immediate predecessor, John H. Biggs, a Ph.D. in economics, was an insurance executive who spent a substantial portion of his career as a finance executive at Washington University of St. Louis. But Allison’s arrival marks a transition away from tweediness that may have been unavoidable.

Today, TIAA-CREF’s investors—many of whom came of professional age in the market-friendly 1980s and 1990s—aren’t nearly as passive as they once were. Increasingly, they have choices as to the investment of their retirement plans. And other asset management companies have long been eager to horn in on this business. TIAA-CREF’s educational background may have made it a natural to manage many of the so-called 529 college savings programs established by states. But last summer, New York pulled its funds from TIAA-CREF and awarded them to Vanguard Group, one of the few money management outfits able to offer lower expenses than TIAA-CREF. Meanwhile, prior efforts by TIAA-CREF to branch out—by, for example, offering mutual funds to the general investing public in the late 1990s—haven’t paid dividends.

At TIAA-CREF, Allison is receiving a Wall Street-sized salary, on a par with those received by the heads of large insurance companies. His compensation includes a $1 million base salary, a $3 million performance bonus for 2003 to be paid in early 2004, plus guaranteed long-term compensation of $4 million. The icing on the cake: a fat $24 million severance payment if he’s booted out without cause by November 2004. With the huge severance and guaranteed performance provisions, it’s the sort of compensation package that TIAA-CREF’s team of shareholder activists might carp about.

These are risky moves. It could be that TIAA-CREF branches will over time become, like used-book and vintage clothing stores, fixtures in college towns. But all of these initiatives—the Wall Street boss, the souped-up advertising, and the bricks-and-mortar outlets—cost money. In the asset management business, every penny not spent by the management company is a penny earned for investors. And you don’t have to be an economics professor to know that over a 30-year period, the extra expense of a few pennies on every hundred dollars can end up making a significant difference in total return.

In addition, by choosing an executive who is a product of Wall Street, TIAA-CREF may become less temperamentally inclined to stir up trouble—precisely at a time when rabble-rousers are needed. Allison left Merrill Lynch when he lost out on the succession derby in 1999, early enough to avoid much of the taint of the post-1990s scandals. But in recent years, Merrill’s record for developing executives who are willing to buck the system on behalf of modest shareholders has been rather poor. What the recent mutual fund scandals should serve to alert us to is that we need people at the helm of massive pools of money who can speak truth to power.