Pension Plan Scale, Bargaining Power, and Investment Allocation and Performance

This paper uses a unique proprietary database with granular cross-sectional fee and performance data to explore the relation between the structure and size of defined benefit pension plans and their choice of (1) active vs. passive management, (2) internal vs. external management, and (3) allocation to public vs. private markets. Our inquiry is driven by potential scale economies of pension plans related to the market power of large plans, as well as the advantage of human capital directly employed by large plans—which can potentially provide internal economies in analyzing investments or fund managers. Our results indicate a strong role for economic scale in pension plans: large plans have superior bargaining power over their external managers in negotiating fees as well as having access to higher-alpha funds, relative to small plans. We find that some of this bargaining power is related to the greater ability of internal management by large plans to ``compete’’ with external managers, due to fixed-costs in setting up internal management. Further, large plans internally manage a greater proportion of assets, and do so successfully, as compared to smaller plans. Finally, large plans benefit from active management at lower cost, indicating that smaller plans may perform best when they embrace passive management.