Ted Ballantine | Pension360

Lagerkvist: Here Are the Seven Deadly Sins of the New Jersey Pension System

New Jersey’s pension system is shouldering $51 billion of unfunded liabilities. How did it get that way?

In an editorial in the Philadelphia Inquirer, investigative reporter Mark Lagerkvist goes through what he calls the “seven deadly sins” of the state’s pension system. Excerpted from the article:

#1 – Retirement shams

A New Jersey Watchdog investigation revealed state attorneys general rehired 23 of their own retirees as investigators and supervisors. More than half of those law enforcement officials “retired” for only one day before they went back to work for the state.

The rehired retirees collected $3.77 million a year — $1.56 million a year in pension pay plus $2.21 million in salaries. Such costly personnel maneuvers have happened so often that state officials even have a name for it — “resignation pickup.”

#2 – Full pensions for part timers

The loophole, exclusive to the Public Employees Retirement System, is open to a wide range of part-time elected and appointed officials from New Jersey’s 565 municipalities, 590 public school districts, 21 counties and other governmental entities.

The list includes state legislators, county freeholders, mayors, councilmen, school board members, prosecutors, judges, town attorneys, tax assessors and many others who work for public entities covered under PERS, the largest New Jersey retirement fund.
#3 – Double-dippers and triple-dippers

Eighty percent of New Jersey sheriffs — elected in 17 of the state’s 21 counties — collect pensions as law enforcement retirees in addition to their six-figure salaries. Their payrolls include 29 undersheriffs who also double-dip. Overall, those 46 top county cops rake in $8.3 million a year – $3.4 million in retirement pay plus $4.9 million in salaries.

#4 – Disability pension abuses

5,500 retired police officers in New Jersey receive more than $200 million a year in disability pensions. They have been judged “totally and permanently disabled” by the state Police and Firemen’s Retirement System or State Police Retirement System.

“I’d say 95 percent of the disability applications are questionable,” said John Sierchio, former chair of the PFRS Board of Trustees. “It’s people who don’t want to work anymore.”

#5 – Ill-advised health benefit costs

If you think a $51 billion pension deficit is bad, here’s something worse.

The New Jersey state retirement system also faces a staggering $53-billion shortfall in funding retiree medical benefits, according to a report released by state actuaries last month.

#6 – The deadbeat state

From fiscal 2006 through 2011, New Jersey shortchanged its pension funds by more than $10 billion. Instead of contributing the expected $13.1 billion to the retirement accounts during that period, the state only pitched in $2.3 billion, according to a report by Common Sense Institute of New Jersey.

#7 – The $100,000 Club

New Jersey’s $100,000 Club of retired public officials has ballooned by 75 percent in the past three years. It is growing at a faster rate than the state’s pension deficit.

A total of 1,731 retirees collected $100,000 a year or more from state pensions last year, an increase of 739 pensioners since 2010, according to a New Jersey Watchdog analysis of Treasury data.

Mark Lagerkvist is an investigative reporter at the watchdog group New Jersey Watchdog.

There’s much more in the way of explanation over at the article, here.

Pennsylvania Candidate Wolf Doubles Down on Pension Stance

Pension reform has been a center-stage issue since May in the race for Pennsylvania governor.

During an interview this week with the Philadelphia Public School Notebook, Democratic candidate Tom Wolf forcefully doubled down on his position that pension reform isn’t the state’s fiscal priority. The exchange:

Q: How is the escalating cost of pensions impacting school financing in Pennsylvania, and what do you think should be done about it?

A: Our current pension situation is the direct result of almost 10 years of leaders in Harrisburg kicking the can down the road and the state paying less than its fair share. What we’re seeing from Gov. Corbett is more political games – he is pushing a plan that creates no immediate savings for taxpayers.

As governor, I will let Act 120 [a 2010 law reducing pension benefits to new employees] work and create innovative solutions that are fiscally responsible and fair and beneficial to taxpayers and future employees.

A further explanation of how the two candidates differ on the issue of pensions, from the Times-Herald:

Corbett says the burgeoning cost of Pennsylvania’s public pensions is a crisis that requires prompt, decisive action. Wolf argues that it’s a problem that can be resolved in the years ahead.

Corbett wants to scale back pensions for future school and state employees as a meaningful step toward savings. He says the taxpayers’ share of the pension costs for current employees — $2.1 billion this year — is crowding out funding for other programs and helping drive up local property taxes.

Wolf contends that the pension problems are partly the result of the state contributing less than its fair share of the costs for nearly a decade and that a 2010 law reducing pension promises to future employees and refinancing existing obligations needs more time to work.

Act 120 was a 2010 law that reduced pension benefits for some employees but kept intact the current defined benefit system. Wolf has been adamant that the law needs time to work.

Corbett wants to shift new workers into a 401(k)-type plan.

Photo Credit: “TomWolfYuengling” by Tom Wolf. Licensed under Creative Commons Attribution 2.0 via Wikimedia Commons

Exploring Defined Benefit Distribution Decisions By Public Employees

When public workers with defined benefit plans leave their jobs, they are usually given the option to either withdraw their accrued retirement savings as a lump sum or keep their retirement account open, to be redeemed upon retirement.

If the employee elects to go the lump-sum route, they can roll that money over into an IRA or simply accept it as taxable income and pay the associated penalty for early withdrawal.

Employees around the country make this decision every day. But it’s one with significant retirement implications, and there’s little understanding as to what drives people to decide one way or the other.

In a paper recently published in the Journal of Public Economics, Robert L. Clark, Melinda Sandler Morrill and David Vanderweide explore the decision-making process.

The basic findings of the paper:

Using administrative data from the North Carolina state and local government retirement systems, we find that over two-thirds of public sector workers under age 50 separating prior to retirement from public plans in North Carolina left their accounts open and did not request a cash distribution from the pension system within one year of separation.

Furthermore, the evidence suggests many separating workers, particularly those with short tenure, may be forgoing substantial monetary benefits due to lack of knowledge, understanding, or accessibility of benefits. We find no evidence of a bias toward cash distributions for public employees in North Carolina.

More detailed findings from the paper:

We find that fewer than one-third of all terminating public employees requested a LS [lump sum] within one year of separation, despite the finding that for over 70% of terminations, the LS was larger than the estimated PDVA. These results indicate a low probability of leakage from retirement funds, although many workers are seemingly forgoing the possibility of higher retirement income possible from rolling over funds to an IRA.

We offer several potential explanations for why the distributional choice from a public pension plan is more complex than a simple wealth comparison at a point in time. First, separating participants in TSERS qualify for retiree health insurance from the State Health Plan with no premium as long as they are receiving a monthly annuity from TSERS…Despite the difference in coverage of retiree health insurance in the two systems, we do not see a large difference in the distributional choices between separating workers that will qualify for retiree health insurance and those that will not.

Second, we consider the likelihood that terminated participants may plan to return to public employment. The expectation of returning to public employment might make maintaining the account the optimal choice for these individuals…

…workers are not responding to incentives of outside investment options. We do find that when the state unemployment rate rises, individuals are significantly less likely to withdraw funds. This could be due to selection into who is separating employment, or it may be that individuals more heavily rely on defaults in times of economic turmoil.

The final explanations we consider for why public sector workers in North Carolina do not withdraw funds at a higher rate are financial literacy, peer effects, and inertia. The default is to leave funds in the system. The behavior we observe is consistent with many individuals accepting the default option and forgoing potentially more valuable benefits.

The paper, titled “Defined benefit pension plan distribution decisions by public sector employees”, can be read in full here.

Photo by www.SeniorLiving.Org

Europe’s Largest Pension Is “Extremely Happy” With Hedge Funds

Eduard van Gelderen, the newly appointed CIO for ABP, Europe’s largest pension fund, yesterday gave his first interview since taking the job.

ABP is the pension fund for Netherlands’ public workers and controls over $360 billion in assets.

In the interview, van Gelderen addressed the trend of some pension funds scaling back their hedge fund allocations – and said his fund will have no part in it. From Chief Investment Officer:

“No,” says Eduard van Gelderen, the man overseeing investments for ABP, Europe’s largest pension fund. “No. Absolutely not. We are extremely happy with them [hedge funds].”

[…]

“[For us], hedge funds are taken care of by New Holland Capital”—an independent holding that span out of APG almost a decade ago—“and we are extremely pleased with the track record they have shown over the last years.”

At the end of 2013, ABP had assets of around €288 billion, of which it had a 5% strategic allocation to hedge funds, according to its annual report. This allocation outperformed its benchmark by 619 basis points last year and van Gelderen—who took over as CIO from Angelien Kemna on September 1— is resolute that hedge funds will remain a part of the portfolio APG manages for Europe’s largest pension.

ABP’s hedge fund portfolio is more than four and a half times larger than CalPERS’ portfolio was before it pulled out of the asset class.

Read the full interview here.

Photo credit: “EU-Netherlands” by NuclearVacuum. Licensed under Creative Commons Attribution

Quebec Stays Course on Pension Reforms In Face of Mounting Protests

Protestors are flooding Montréal streets in opposition of Quebec’s Bill 3, a measure that would freeze COLAs for retirees and increase employee contributions.

But the government isn’t willing to reverse course on their plan to lower the costs of the province’s pension system. Bill 3 is expected to pass within a month. From the Montreal Gazette:

The provincial government won’t budge on the proposed reform of municipal pension plans, Municipal Affairs Minister Pierre Moreau said Tuesday, three days after the largest protest yet against Bill 3 was held in Montreal.

“We are not in a bargaining situation,” he said. “The government and experts have said, in a report that was welcomed by everyone in the National Assembly, that there was an urgency to act to save those pensions. That’s what we’ve done.”

The minister said the government is done consulting interested parties, including union leaders, retiree representatives and the Union des municipalités du Québec, and has moved on to drafting the bill. Union leaders called the hearings a “farce.”

[…]

The government won’t necessarily wait for actuarial reports on the health of the pension plans to be published next month before passing the bill, Moreau added.

“Having the numbers doesn’t change anything,” he said. “It doesn’t change anything for the pensions that are totally under-financed.

“For example, even if I don’t know your weight, if you’re overweight I know you’re in precarious health.”

Bill 3 is part of a larger austerity plan to cut government costs and pay down a deficit of nearly $4 billion.

After Years-Long Battle, Pension Cuts Come To San Jose Firefighters

San Jose firefighters are facing higher retirement ages and lower pension benefits after they came out on the losing side of a long fight between labor unions and the city of San Jose.

Voters approved a ballot measure to cut pension benefits for newly hired public employees almost four years ago, but the firefighters had yet to adopt the changes.

Reported by San Jose Mercury News:

The changes mean newly-hired firefighters can retire at age 60 with a pension of up to 65 percent of their salary. Current firefighters can still retire at age 50 with up to 90 percent of their salary.

[…]

The final arbitration decision, announced this week, will save taxpayers millions of dollars compared to more generous retirement plans previously given to firefighters. It’s a victory for Mayor Chuck Reed, the city’s chief pension reformer, and his fiscal conservative allies that make up a majority of the City Council, who have seen the public costs for employee retirement skyrocket in the last decade.

Retired Judge Catherine Gallagher, the arbitration board chair, made the ruling nearly four years after voters approved a second “tier” of reduced retirement benefits for new employees, and more than two years after voters set limits on those pensions. Gallagher noted in siding with the city that the voter-approved measures prevented her from adopting anything that increased taxpayer costs.

The firefighters are the last of 11 city unions to implement the pension plan changes for new hires, while voter-approved cuts to current employees’ retirement plans remain tied up in court.

Firefighters unions opposed the changes. They argue that it will be harder to hire quality talent if they can’t offer better retirement benefits. As a result, they claim, emergency response times will increase and the quality of the fire department will suffer.

Campaign Ad Puts Pensions In Play In Alaska Senate Race

A new campaign ad has been released in the Alaska’s Senate race between Mark Begich (D) and Dan Sullivan (R).

In the ad (which can be viewed above), Begich claims that Sullivan put Alaska’s general budget at risk when he and the state’s pension fund struck a $500 million settlement with Mercer over allegedly botched actuarial calculations.

Begich says that Sullivan left billions on the table as a result of the settlement, and Alaskan citizens will likely have to pay for it. But is that claim true? FactCheck.org did the legwork and investigated the claim:

A new Begich ad, called “Reprise,” deals largely with the differences between Begich and President Obama. But at one point in the ad, the narrator says Sullivan “let Alaska’s pension fund get ripped off by a New York financial firm, putting the permanent fund at risk.”

Alaska Sen. Mark Begich exaggerates the impact of a $500 million settlement that his Republican opponent, Dan Sullivan, reached as state attorney general in 2010.

The Alaska Retirement Management Board sued its former actuarial firm, Mercer Inc., in December 2007 for erroneous calculations that the board claimed caused the state to underfund its pension system by $2.8 billion. The state sought $2.8 billion in damages and settled in June 2010 for $500 million.

The ad suggests that all residents — not just teachers and public employees — may have to pay for Sullivan’s settlement when it claims that his decision to settle is “putting the permanent fund at risk.” That’s an exaggeration.

Gov. Sean Parnell in June signed legislation that transferred $3 billion from the state’s rainy day fund, known as the Constitution Budget Reserve, into the state’s pension funds. In signing the legislation, Parnell said the infusion of cash will allow the state to reduce future annual pension payments and help preserve the state’s AAA bond rating. Fitch Rating indeed affirmed the state’s AAA rating for its general obligation bonds on Aug. 11.

Parnell notably did not tap the Alaska Permanent Fund. And there was no legislation proposing to take money from the permanent fund to cover pension costs, according to Laura Achee, the director of communications for the Alaska Permanent Fund Corporation.

The conclusion: Alaska’s “Permanent Fund” was not damaged as a result of the Mercer settlement. Begich’s campaign ad, according to FactCheck, is an “exaggeration”.

State Law May Stand In Way of Phoenix Pension Cuts

A Phoenix ballot initiative – titled Proposition 487 – would block off the city’s traditional pension system from all new hires, and instead shift those employees into a new, 401(k)-style plan.

The measure, if passed, would not apply to the city’s police and firefighters. But opponents of the reform are now saying that a legal quirk could end up blocking benefits for all of the city’s 4,000 police officers and firefighters. Reported by the Arizona Republic:

The initiative targets the retirement plan for general city workers hired in the future. Although the measure’s preamble states it’s not intended to affect first responders, attorneys for Phoenix have said the actual language, specifically the amendment to the City Charter, is poorly written and could wind up blocking pension contributions for existing and future police and fire.

However, several areas of state law, including the Arizona Constitution and provisions creating the Public Safety Personnel Retirement System, could prohibit Phoenix from ever withdrawing from the plan or diminishing retirement benefits for existing employees, attorneys said.

[…]

[Attorney Robert] Klausner said the likely result is that the Public Safety Personnel Retirement System would have to sue Phoenix or stop crediting its police and firefighters for additional years of service. Ultimately, he said, the city is in an “impossible conundrum” that it would probably lose.

“No matter what you do, you’re violating the law and welcoming a lawsuit,” Klausner said. “All that does is make lawyers really happy.”

Proponents of the reform measure have accused opponents of “scare-mongering”. From the Arizona Republic:

Scot Mussi, chairman of the group, said it’s clear that the city could not legally stop its payments to the state pension system. He said “scare mongering” Phoenix officials have suggested it could apply to public-safety workers to trick voters.

“That’s just crazy,” Mussi said of the argument regarding police and firefighters. “It would be unconstitutional. It would violate state law, and it goes against what’s expressed in the initiative itself.”

The fight over the measure has been going on for several weeks now. Opponents had earlier claimed that the measure would also unintentionally cut benefits for disabled workers.

CalPERS Is Ramping Up Its Real Estate Portfolio. Why?

Last week marked a big shift in investment strategy for CalPERS, and it goes beyond hedge funds. The pension fund’s hedge fund pullout got all the headlines, of course, but CalPERS also decided to invest an addition $1.3 billion in real estate.

The reasoning behind dropping hedge funds has been made clear. But what about the real estate investments? Over at GlobeSt.com, Erika Morphy explores some of the reasons that could be behind CalPERS’ deep dive into real estate.

From GlobeSt.com:

It’s business as usual

It was just real estate’ turn, says Stephen Culhane, who heads the investment management practice at the law firm Kaye Scholer.

“Institutional investors are always assessing and reassessing their allocations,” he tells GlobeSt.com. “Commercial real estate valuations are strong and it is perceived as a bit as a safe haven particularly for non US and long-term investors.”

It’s a shift in investment philosophy – and not just a change in asset allocation

CalPERS handles over $300 billion for over 1 million current and former state employees. Their investing philosophy is transitioning from a classic hedge fund, 60/40 model, to more of an endowment model, says Jeff Sica, founder and CIO of Circle Squared Alternative Investments.

“CalPERS is aiming to reduce volatility and obtain a more predictable annual return across their portfolio,” Sica tells GlobeSt.com. “Their move into real estate provides them with stability and a quantifiable income stream. With reduced volatility and a stabilized annual return, it will be more beneficial to them in the long run instead of fluctuating with the equity market,” he says.

Hedge funds have lost their appeal.

Despite CalPERS careful explanations, this is the theory of Bill Militello, co-founder and CEO of Militello Capital.

“The increasing trend of moving away from hedge funds is due in part to their lack of transparency and a lack of understanding of the investments—they are intangible,” he tells GlobeSt.com. “Hedge funds are simply public securities in a different wrapper, they are not an asset class, they are a compensation scheme.”

There is also evidence that hedge funds on an overall basis have actually underperformed versus passively managed funds, Chauncey M. Swalwell, partner with Stroock & Stroock & Lavan LLP, tells GlobeSt.com—”making the relatively high fees typically paid to hedge fund managers untenable at CalPERS.”

It is an inflation hedge

This is the flip side of fund’s decision, Militello adds. “Properly purchased real estate in supply constrained markets with built in demand drivers provides access to well-insulated investments that protect against rising interest rates.”

There isn’t space here to list all the potential reasons listed. You can read all seven reasons here.

LACERS also committed an additional $190 million to real estate investments last week.

Advisors Question Hedge Fund Fee Structure

In light of CalPERS’ recent pullback from hedge funds, scores of investment consultants are coming out of the woodwork advocating for changes to the “2 and 20” fee structure traditionally used by hedge funds.

Towers Watson research chief Damien Loveday told the Wall Street Journal yesterday:

“We believe a better way of tackling fees is by assessing the skill managers offer to clients, rather than paying for market-based returns. ‘Two and 20’ should not be the norm.”

Kerrin Rosenberg, an executive at the consulting firm Cardano, shared the sentiment:

“If ever there was a moment to get rid of ‘two and 20’ forever, this is it.” He backed Towers Watson’s initiative, noting that many hedge funds were out to survive, rather than prosper.

Just because consultants think one way doesn’t mean pension funds will think the same. But it’s important to note that these firms frequently advise pension funds on investment decisions—so it’s safe to say the funds are hearing the same anti-fee sentiment that we are.

Last week, a major Dutch pension fund shut out hedge funds and cited one reason: the fees. From the Wall Street Journal:

Last week, PMT, the Dutch pension fund with €56 billion ($71.7 billion) under management, said it would close its €1 billion hedge fund portfolio, adding that although hedge funds were only about 2% of assets, they collected 32% of the investment fees it paid.

A spokeswoman for the fund said: “The hedge fund investments were expensive if you relate the cost to what the funds delivered. We found that we did earn from hedge funds, but we did not earn enough versus the risks and the costs.”

To be fair, it seems hedge funds have budged just a bit from the “2 and 20” scheme. According to Preqin data, fees have fallen to around 1.5 percent of assets and 18.7 percent of performance.

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