Thursday, October 20, 2016

Nevada Does Not Gamble With Their Public Pension

The Wall Street Journal recently ran an article about the Nevada Public Employee Retirement System pension investments.  The entire pension investments are managed by one single person who invests 100% in passive index funds.  The entire investment process costs a paltry $18 million per year.  Compare that to North Carolina's annual costs of $595 million per year (see page 10).

Now compare the investment results ending June 30, 2016:

          NV           NC
1-year 2.3% 0.8%
3-year 7.8% 6.1%
5-year 7.7% 6.0%
10-year 6.2% 5.5%

Click here to view the actual investment return reports for Nevada and North Carolina.

Now consider this, the difference between 7.7% and 6.0% returns amounts to $10 Billion in lower returns over just the past 5 years for North Carolina's $90 Billion pension fund.  That $10 Billion shortfall will need to be made up by North Carolina tax payers and lower payouts to retirees.  The result is, taxes will need to be higher and less money will be available for services such as education and healthcare. Considering North Carolina's entire state budget is just $22 Billion each year, the $10 Billion in lower pension returns is a silent fiscal catastrophe the burden of which will be felt for generations.

It is brutally clear, that the North Carolina pension should aim to emulate Nevada.  North Carolina needs to quit investing in expensive investment strategies that do not work.  North Carolina needs to follow Nevada's example and invest 100% in passive indexed strategies and quit squandering money on private equity, real estate, hedge funds, commodity funds, and other expensive actively managed investments.        


Wednesday, September 7, 2016

42 Years of NC Pension Investment Returns

There has been a lot of hand wringing over the North Carolina Retirement System Pension Fund investment returns - as well there should be.  As I've documented previously on this blog, the returns could have been substantially higher had Richard Moore and Janet Cowell not squandered billions on a failed foray into alternative investments.

In Treasurer Cowell's most recent investment performance report, the pension earned an annualized return of just 5.8% per year over the last 15 years ending 6/30/2016.  This return is far below the actuarial assumed rate of return of 7.25%.  These figures have led some to question if the 7.25% return is attainable long term and should it be lowered?  I honestly do not know the answer to that question, but for what it is worth, I made a trip to the State Library and collected 42 years of NC pension investment returns from old, dusty annual reports from the Department of State Treasurer.

I calculated a geometrically-linked annualized return for the 40 years that came to 7.9% for the NC pension fund.  As a point of reference the S&P 500 Index return was 11.0% while the Barclays/Lehman Aggregate Bond Index return was 7.7% for the same 40 year period ending 6/30/2016.

While interesting, I'm not sure how helpful these return data are.  In the 70's and into the 80's more than 85% of the pension was invested in investment grade bonds with less than 15% allocated to stocks.  By 2000, the fund was invested 60% in stocks and 40% in bonds.  Today, 28% of the fund is invested in neither stocks or bonds, but in other "alternative" investments.  Thus, history is not particularly helpful for predicting future returns.

Something else I discovered in the old annual reports, as recently as the early 80's the actuarial assumed rate of return was just 6%.  At some point it was raised and we now assume 7.25%.  Of course the problem with any assumption is that inflation was double digits in the 70's and near zero more recently.  Thus, picking an "absolute" assumed rate of return for a pension fund with an infinite time horizon is a fools game from the start.  Almost every economic study begins by adjusting figures for inflation.  It might be helpful for actuaries to try to incorporate some sort of assumed return over and above inflation, instead of changing the absolute return assumption every 20 years?

For what it is worth, here are the 42 years of return data I found:

NCRS Pension Returns
as of 6/30/2016
Time Annualized
Period Return
1-Year 0.8%
5-Year 6.0%
10-Year 5.5%
15-Year 5.8%
20-Year 6.6%
25-Year 7.0%
30-Year 7.5%
35-Year 7.9%
40-Year 7.9%
42-Year 7.8%

NC Pension Returns
years ending 6/30
Year              Return
2016 0.80%
2015 2.25%
2014 15.88%
2013 9.52%
2012 2.21%
2011 18.48%
2010 11.97%
2009 -14.22%
2008 -2.07%
2007 14.82%
2006 7.23%
2005 9.85%
2004 12.01%
2003 7.56%
2002               -4.04%
2001 -2.0%
2000 9.0%
1999 10.7%
1998 19.4%
1997 8.9%
1996 9.5%
1995 8.3%
1994 8.5%
1993 9.0%
1992 8.8%
1991 8.8%
1990 9.1%
1989 9.3%
1988 11.5%
1987 10.6%
1986 11.2%
1985 10.4%
1984 9.9%
1983 10.6%
1982 9.7%
1981 8.8%
1980 8.1%
1979 7.6%
1978 7.1%
1977 6.9%
1976 6.8%
1975 6.6%

Wednesday, August 24, 2016

North Carolina Pension Fund Sure Misses Harlan Boyles

Last week North Carolina State Treasurer Janet Cowell posted the Government Investment Operations Report for the North Carolina Retirement System Pension Fund for the fiscal year ending June 30, 2016.  The report says the treasurer spent $595 Million managing the $87 Billion pension fund investment portfolio.  That's up from just $57 Million when the pension was $59 Billion when Harlan Boyles retired in 2000.

NC Retirement System Pension Fund
Expense Ratio
Funding Ratio
S&P 500 Return*
7-year Annualized Return

While the pension fund assets have increased 47% since Harlan Boyles retired, the expenses incurred managing the investments have increased an astonishing 1,044% while the funding ratio has fallen 17 points.  This irresponsible explosion of investment expenses is a boon for Wall Street, but a silent fiscal catastrophe for North Carolina, the burden of which will be borne by the pensioners and taxpayers for years to come. 

Tuesday, August 9, 2016

Index Fund Returns Crush North Carolina Pension Returns (Again)

North Carolina Treasurer Janet Cowell recently released investment returns for the state pension fund.  The press release touted the returns as being slightly better than average over the past 5 years (45th percentile).  However, it is important to keep in mind that the NC pension fund fails to beat a simple mix of low-cost Vanguard index funds.

The table below shows the annualized returns of the NC pension fund compared to a simple portfolio of 5 Vanguard index mutual funds.

Annualized Investment Returns
as of 6/30/2016

*The Vanguard portfolio uses the same asset allocation the pension fund had when Harlan Boyles left office in 2000, before alternative investments were introduced to the portfolio. The analysis rebalanced the allocation of the Vanguard portfolio once per year.

Treasurer Cowell pointed out that the pension earned 8.5% annualized over the last 7 years - which approximates her tenure as North Carolina's Treasurer.  The simple Vanguard portfolio would have earned 11.2% over the same time period.  This difference of 2.7% per year for 7 years translates into $20 billion of lost returns during Treasurer Cowell's tenure.

For a state whose annual budget is $22 billion, the expansion of alternative investments in the pension fund from nearly zero to over 25% has been a silent fiscal catastrophe.