Author: Ted Ballantine

Illinois is issuing over $1 billion in bonds this week, and the state disclosed to potential buyers that it may not make its 2017 pension payments on time.

Lawmakers have not passed a complete budget, so money for the payments comes from the general fund. But that fund might be running low on cash, and the payments may be put off, said the state.

It’s happened before, in 2015; it took the state about 7 months to pay back the missed payment.

More from Reuters:

“A failure by the state to meet its payment obligations may result in increased investment risk for bondholders,” the state said in a supplement to its bond sale prospectus released late on Tuesday.

Illinois already has the lowest credit ratings among the 50 states. A budget impasse, along with a $111 billion unfunded pension liability and a growing pile of unpaid bills, have pounded Illinois’ ratings into the low investment-grade level of triple-B.

The supplement said that without full and timely payments, the pension funds may have to sell assets to raise money to cover retirement benefits. That in turn reduces investment returns, driving up the unfunded liability. Illinois owes the pension funds $7.826 billion in fiscal 2017, which ends June 30.

“(State Comptroller Leslie Munger) is doing everything she can to make all the November pension payments,” said Rich Carter, her spokesman, adding that October payments will go out on time.

A cash crunch forced Munger, who pays the state’s bills, to skip a $560 million pension payment in November 2015. It was made up before the end of fiscal 2016.

 

The United States’ largest pension fund sees harder times ahead for private equity investments — an outlook that will lead CalPERS to further slash managers in hopes of working with a small group of only the best managers, on the best negotiated terms.

From Bloomberg:

“We anticipate it may be moving from a gusher to a garden hose and then maybe even a trickle,” Wylie Tollette, chief operating investment officer of the $305 billion California Public Employees’ Retirement System, said this week in a telephone interview.

The bleaker cash-flow outlook for private equity adds to uncertainty at Calpers and other pensions facing shrinking gains as they strive to meet future obligations. The private-equity industry, which makes long-term investments such as leveraged buyouts in operating companies, shows signs of coming off its best years after distributing a record $443 billion to global clients in 2015, according to Preqin.

Now investments are shifting to early-stage pools that throw off less cash. At the same time, buyouts, the majority of Calpers’s private-equity portfolio, are rising in cost as firms with an unprecedented $1.47 trillion in stockpiled cash, known as dry powder, compete for acquisitions — a trend that could further crimp returns.

[…]

The pension’s private-equity holdings earned 1.7 percent in the fiscal year ended June 30, the weakest performance since 2012. Over 20 years it’s been the strongest asset class, with annualized returns of 11.5 percent, compared with 7 percent for the full portfolio.

More comments on the ideal number of PE managers, from Bloomberg:

The pension slashed the number of managers it uses to about 100 from more than 300 in 2014, according to Tollette, the investment executive. Its goal is 30 managers by 2020, with a focus on advantageous terms from top firms.

“We want to negotiate fees very aggressively around larger allocations to fewer managers,” he said. “The key in private equity is really selecting the best managers, because if you select the average manager, you’re going to underperform.”

United Technologies Corp., in a transaction which will shave $1.77 billion in pension liabilities from the corporation’s books, is transferring its pension obligations to Prudential and offering buyouts to retirees.

A top executive called pension liabilities the “single biggest issue” the company is facing.

From Bloomberg:

United Technologies will shift $775 million of those commitments, covering about 36,000 retirees and beneficiaries, to Prudential in a transaction that’s expected to close Oct. 12, the Farmington, Connecticut-based industrial company said Thursday in a statement. Also, 10,000 participants are expected to take lump-sum offers, reducing the company’s obligation by approximately $1 billion by Dec. 31. United Technologies said it expects to take a pretax settlement charge of about $400 million to $530 million in the fourth quarter.

“This transaction is an important part of United Technologies’ long-term strategy to reduce future pension risk and expense,” Chief Investment Officer Robin Diamonte said in the statement. “It will not affect participants remaining in the plans and entrusts the assets leaving the plans to a highly rated insurance company whose core business is retirement security and administration of pension benefits.”

New York City Comptroller Scott Stringer, on behalf of the city’s pension fund, is asking Goldman Sachs, Facebook, and a handful of other giant corporations to disclose data on the diversity of their vendors and suppliers.

New York City’s pension system is a significant shareholder of all the companies.

More from Bloomberg:

The letter campaign, which also targets Starbucks Corp., Google parent Alphabet Inc. and Alcoa Inc., extends a 2014 initiative that asked for similar details from 20 more of the $163 billion city pension funds’ largest investments. Eight of those companies, including Apple Inc and Qualcomm Inc., have since agreed to release the value and percentage of total spending they do with minority vendors, the comptroller’s office said Thursday in a statement.

New York’s letter, which was the same for all recipients, asks companies to disclose the number of their diverse suppliers and their goals for increasing such contracts. Stringer also asks for senior management and board oversight of the process, and suggests compensation-related incentives for employees and managers.

[…]

“A more diverse supply base helps our portfolio companies to create sustainable competitive advantage and long-term shareowner value,” he wrote. The comptroller’s office increased funds managed by minority and women business enterprises to $14.4 billion this year from $5.5 billion in 2010.

Institutional investors also seek boardroom and employee diversity. This year, nine companies in the S&P 500 — the most ever — faced demands from shareholders that they adopt new diversity plans, according to ISS Corporate Solutions, a corporate-governance consultancy. Only 12.8 percent of companies currently giving specific details about directors named in their annual filings, according to a report released last month by researcher Equilar Inc.

A federal appeals court this week rejected a lawsuit, brought by a group of Detroit retirees, challenging cuts made to their pension benefits as part of the city’s bankruptcy proceedings last year.

Retirees at the time voted to cut their pensions by 4.5 percent, and have their COLAs eliminated; the alternative, city officials said, would be even deeper cuts.

But not everyone was happy with that deal, and so a group of 160 retirees sued the city over the cuts. But the appeals court ruled 2-1 in favor of Detroit.

To paraphrase one judge: the ruling wasn’t even close.

From the Detroit Free Press:

“This is not a close call,” said Judge Alice Batchelder at the 6th U.S. Circuit Court of Appeals.

The court noted that Detroit’s exit from bankruptcy in 2014 was the result of a series of major deals between the city and creditors, including people who receive a pension or qualify for one.

Altering the pension cuts, the judges said, would be a “drastic action” that “would unavoidably unravel the entire plan, likely force the city back into emergency oversight and require a wholesale recreation of the vast and complex web of negotiated settlements and agreements.”

In dissent, Judge Karen Nelson Moore said retirees at least deserve their day in court. She said Batchelder and Judge David McKeague were citing a “questionable” legal standard to dismiss the case, 2-1.

[…]

Jamie Fields, an attorney for about 160 retirees, said he wanted the court to consider the merits of his argument. He contends that the bankruptcy judge had no authority to override the Michigan Constitution, which protects public pensions.

“A lot of retirees are making choices between groceries and medicine,” he said.

 

S&P Global Ratings on Friday downgraded Illinois’ credit rating to BBB — two steps above junk — for its “weak financial management” in general, as well as its “lack of ability or willingness” to adopt a long-term plan to deal with pension liabilities.

From CNBC:

“The downgrade reflects our view of continued weak financial management and increased long-term and short-term pressures tied to declining pension funded levels,” said S&P analyst John Sugden in a statement.

S&P said another downgrade could follow “should the state continue to demonstrate a lack of ability or willingness to adopt a long-term structural budget solution that also incorporates a credible approach to its long-term liabilities.”

The credit rating agency added that continued political gridlock could affect Illinois’ ability to pay off its debt.

“Although we don’t foresee this in the immediate future, challenges to the state’s debt payment priority could emerge should liquidity dwindle to the point where it affects the state’s ability to provide essential services,” S&P said.

The downgrade to just two notches above the junk level came as the nation’s fifth-largest state prepares to sell as much as $1.7 billion of new and refunding general obligation (GO) bonds in October despite having to pay a hefty penalty in the U.S. municipal market.

Governor Bruce Rauner’s office said S&P’s report underscores the need for “tangible” pension reform.

“It’s time for the super majority in the legislature to recognize the current pension system is fatally flawed and requires immediate action,” his office said in a statement. “Governor Rauner continues to fight for pension reform and other fundamental, structural reforms that will free up resources to help balance the budget.”

Alaska lawmakers last week weighed Gov. Bill Walker’s plan for a $3.5 billion pension bond, proceeds from which would be used to pay down the state’s pension debt.

Lawmakers were lukewarm on the plan due to the risk involved.

But it may not matter what lawmakers think; in Alaska, an entity called the Pension Obligation Bond Corporation Board can issue a pension bond without a vote from the legislature.

More from the Juneau Empire:

One week ago, the three-member Pension Obligation Bond Corporation Board voted to borrow up to $3.5 billion from bond markets from Asia. Proceeds from that bond sale would be invested in global markets, and any difference between the interest earnings and the interest paid on the bonds would go toward the state’s unfunded pension debt.

The board is assuming 8 percent average earnings, deputy commissioner of revenue Jerry Burnett told the Senate Finance Committee on Thursday afternoon.

It expects to be able to borrow money from Asian pension funds at 4 percent interest.

“It’s a gamble,” Sen. Mike Dunleavy, R-Wasilla, declared.

“It’s a gamble to have an unfunded pension system and assume we’ll have enough” money when payments come due, Burnett responded.

[…]

Several analyses presented Thursday, including one by the independent reporting firm ProPublica, have found pension obligation bonds a risky option.

The nonpartisan Government Finance Officers Association also opposes pension obligation bonds, calling them “complex instruments that carry considerable risk.”

While lawmakers also appeared skeptical, their ability to stop the plan seems limited. The bond corporation board was empowered by a 2008 law and has the authority to issue up to $5 billion in bonds without approaching the Legislature again.

California Governor Jerry Brown will approve legislation creating the Secure Choice retirement program for private workers, according to a report from the Sacramento Bee.

The bill, passed by the state Senate last month, enrolls private workers without a retirement plan into a state-run 401(k)-style account.

More from the Bee:

Gov. Jerry Brown will sign Senate Bill 1234, which enacts the Secure Choice program, at 9:30 a.m. in his Capitol office. The measure is a priority of Senate President Pro Tem Kevin de León, who has said it will bring stability in old age to the increasing number of workers who are not offered a retirement plan through their employers.

Secure Choice is an opt-out system that will take a portion of participants’ incomes and invest it as a fund, similar to California’s public employee pensions, but without a guarantee from taxpayers. It requires $134 million in up-front expenses from the state, which will be paid back over time.

Backed by organized labor and opposed by business and financial groups, SB 1234 advanced through the Legislature along largely partisan lines. Critics argue that the program will create new risks for a state that already faces hundreds of billions in unfunded pension liabilities, particularly if the Secure Choice investments take a hit in the stock market and pressure mounts to cover the losses.

The Rhode Island Investment Commission — the entity that manages investments for Rhode Island’s pension system — on Wednesday voted to slash the system’s hedge fund allocation by more than 50 percent.

The vote changes the pension fund’s investment policy to allow for a 6.5 percent allocation to hedge funds; previously, the number was 15 percent.

The recommendation was made by state Treasurer Seth Magaziner.

More from NPR Rhode Island:

The change will begin to take effect immediately.

Magaziner said the pension plan’s hedge fund stake has had a 4.85 percent rate of return since Governor Gina Raimondo, then the state’s treasurer, spearheaded a move in 2011 to increase the state’s allocation in hedge funds.

“I mean, this is not something that we just woke up and decided to yesterday,” Magaziner said during a briefing with reporters. “This was the process of a very intense, very thorough review process that has lasted for several months, has involved some of the state’s leading investment experts and national investment experts. This was a very deliberate process, and we are making these changes because it is the right thing to do for the strength of pension system and the state’s finances. That’s it.”

[…]

The treasurer said Raimondo had a positive reaction when he shared the final version of his recommendation with her last week.

Magaziner also indicated he’s leaning toward recommending lowering the 7.5 percent rate of return for the pension fund, because it is unrealistically high.

“I think that over time it is going be harder to justify the 7.5 percent rate,” he said. “With inflation the way it is, with persistently low interest rates the way they are, the equity markets had a good rally from 2010 to 2014 as we came back from the financial crisis. That’s over now.”