A number of public pension systems have increased their exposure to “alternatives” in recent years, at the same time that they either have curtailed (or threatened to curtail) payouts to pensioners. The official line is that the former is to prevent more of the latter, but many critics believe Wall Street is getting rich at the expense of modest retirees.

Most of this debate has flown under the radar until the electoral season elevated it in certain states. For example, Rhode Island Treasurer Gina Raimondo is a onetime venture capitalist who significantly increased her state’s exposure to alternatives. She also raised the retirement age for state workers by 5 years, moved from defined benefit plans to hybrid models and suspended annual cost-of-living increases for retiree benefits. Now Raimondo is running on the Democratic ticket for governor, after having bested a pair of primary challengers. In Illinois, a former private equity executive named Bruce Rauner is the GOP nominee for governor, and is advocating similar reforms to the state pension system that has invested in the firm that still bears his name. It also has become an issue in New Jersey, which was late to the alternatives game but has begun to play it full force. Not because there is a relevant statewide election, but because there is union interest in undercutting pension reformer Chris Christie’s possible presidential ambitions.

The situation in each state — including in ones I haven’t mentioned — is unique. The complaint, however, generally boils down to this: Alternatives have underperformed the S&P 500 in recent years, even though many alternative funds charge higher fees than would a public equities index fund manager. In other words, state pensions are overpaying for underperformance.

Great bumper sticker. Lousy understanding of investment strategies.

The simple reality is that not all alternatives are created equal. Some, like private equity, are more tightly correlated to public equities than are others. Some are designed to chase public equities in bull markets without collapsing alongside them (that’s where the name “hedge” name from). Real estate is largely its own animal. Same goes for certain oil and gas partnerships.

Lumping all of them together because of fee strategies makes as much sense as arguing that a quarterback should be paid the same as an offensive lineman. After all, they both play football, right?

To be clear, I’m not necessarily taking sides in the active vs. passive debate (although, as you can probably tell, I generally side with the former). After all, even Warren Buffett — who often is cited as a passive management advocate for public pensions — has been co-investing alongside a large private equity firm in recent deals for Heinz and Burger King. Again, it’s more complicated than good vs. bad, smart vs. stupid.

For those who want to criticize public pensions for investing in alternatives, be specific. New Jersey, for example, reported alternative investment performance of 14.21% for the year ending June 30, 2014. That trailed the S&P 500 for the same period, which came in at 21.38% (or the S&P 1500, which came in at 16.99%). But that alternatives number is a composite of private equity (23.7%), hedge funds (10.2%), real estate (12.74%) and real assets/commodities (6.12%). The sub-asset class most tightly correlated to public equities actually outperformed the S&P 500 (net of fees).

Would New Jersey pensioners have been better off without private equity? Clearly not for that time period. Having avoided real estate or hedge funds, however, would be a different argument. But even that case is tough to prove until New Jersey’s relatively immature alternatives program experiences a bear market. For example, both hedge funds and the S&P 500 went red last month, but the S&P 500’s loss was actually a bit worse. And macro hedge fund managers actually had positive returns. Does that make up for years of the S&P 500 outperforming hedge? Likewise, should real estate performance receive an indirect bump from recent rises in venture capital performance, just because they are both “alternatives?”

Again, that’s a judgment call that should be based on voluminous data, rather than on knee-jerk anger that alternative money managers are getting paid while retiree benefits are getting cut. If alternative managers are helping to stem the severity of those cuts, then everyone wins. If not, then the state pension needs a change in policy. But, in either case, the specific alternative sub-asset classes should be analyzed on their own merits, rather than as one homogeneous bucket. Otherwise, critics may throw out the baby with the bathwater.

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