inflation | Pension360

Illinois Gov. Rauner Would Fine Schools For “Spiking” Pensions

Illinois public schools that hand out late-career pay raises could be subject to heightened penalties under the Rauner administration.

Gov. Bruce Rauner this week laid out a series of pension-related measures as part of his budget proposal; among them was the idea of levying a penalty on schools that give late-career raises to teachers.

Illinois already penalizes schools for handing out such raises if they exceed 6 percent. Under Rauner’s proposal, schools would be penalized for any such raise that exceeds the cost of inflation, which is a much lower threshold.

More European Pensions To Move Into Real Assets, Says Study

The coming years will find European institutional investors increasingly turning to real assets, according to new research from alternative asset manager Aquila Capital.

The new paper, titled Real Assets – The New Mainstream, predicts that investors will turn to real assets and equities and bonds will become less attractive.

Details from a press release:

The research predicts that the Dow Jones Index will deliver average total returns of 4% per annum over the next 10 years, while real returns on German 10-year government bonds are set to be negative, even if interest rates were to reach 4% by 2024.

Alongside these estimates, 60% of institutional investors in Europe expect institutional allocations to real assets to increase over the next three years.

Oldrik Verloop, co-head of hydropower at Aquila Capital, says: “This unique investment landscape, for which there is no precedent in history, is giving rise to considerable challenges for pension fund managers struggling to fund deficits.

“Among these challenges is the need to assess the impact of today’s loose monetary policies on global interest rates and inflation tomorrow.”

He says that institutional investors seeking to future-proof their portfolios will be searching for new investment solutions, leading them to shift allocations towards real assets.

“Real assets are uniquely positioned to provide value and enhance overall risk-adjusted returns in a broad range of market environments. The powerful combination of market-independent stability and growth make them an attractive core holding for institutional investors,” he adds.

As part of the research, 50 institutional investors across Europe were surveyed.

Photo by Santiago Medem via Flickr CC

New York City Pension Wants In On Lawsuit Against Real Estate Firm Accused of Inflating Prices

The New York City retirement system is attempting to join a lawsuit already being brought by two pension funds against a real estate firm that allegedly inflated its performance figures.

The two pension funds already heading the case, State Teachers Retirement System of Ohio (STRS) and the Ohio Public Employees Retirement System (OPERS), are claiming millions in losses.

From ai-cio.com:

American Realty Capital Properties (ACRP), a real estate investment trust provider, is facing a growing group of investors claiming it fraudulently inflated performance figures.

The $159 billion New York City retirement system and TIAA-CREF have filed complaints against the firm, requesting to join in an ongoing lawsuit led by two Ohio public pension funds.

In October 2014, nine days after the Ohio pensions first filed suit, the real estate firm admitted it had made intentional accounting errors, and purposely failed to correct other mistaken figures. Its stock plummeted by 30% within hours of the revelation, and closed trading for the day having lost roughly $2 billion in market capitalization.

[…]

“In light of general investor concerns about the quality of the company’s accounting functions, internal controls, and corporate governance (as highlighted by several embarrassing reporting mishaps), ACRP desperately sought to reassure investors that it had righted the ship and that its internal control systems were above reproach,” TIAA-CREF’s complaint stated.

Photo by Joe Gratz via Flickr CC License

Institutional Investors Keeping Close Eye on Oil As Prices Continue To Slide

The price of oil dropped below $45 per barrel on Tuesday, and many Americans are undoubtedly enjoying the price drop – at least when they are filling up at the pump.

But the drop is causing “a lot of concern” for institutional investors, according to a Pensions & Investment report.

From Pensions & Investments:

The impact of low oil prices is mixed, but already are being acknowledged and felt by institutional investors.

“There is a lot of concern from clients,” said Tapan Datta, London-based head of asset allocation at Aon Hewitt. He said discussions are taking place among investors, looking at how to “protect themselves if things go seriously wrong. There is no doubt that it should be considered.”

One of the main concerns for pension funds would be the link between falling oil prices and lower inflation.

Pension fund liabilities are where the oil price drop could “bite,” said Mr. Datta, with falling inflation leading to even lower bond yields, and a subsequent rise in liabilities.

“Everybody is worried that the price (of oil) doesn’t seem to have a floor at the moment,” added Alastair Gunn, U.K. equities portfolio manager at Jupiter Fund Management PLC in London. “It is making equity holders quite jittery about dividends, and is making bondholders jittery about the risk of defaults.”

Pension fund executives are certainly paying attention. Ricardo Duran, spokesman for the $189.7 billion California State Teachers’ Retirement System, West Sacramento, said the bulk of the fund’s oil holdings are in the global equity and fixed-income allocations. As of Dec. 31, the $107.8 billion global equity portfolio invested about 5.9% in the oil and gas sector, covering areas such as exploration and production, refining and marketing, and storage and transportation, he said. That equates to about $7 billion.

Just less than 8%, or about $1 billion, of the $13.4 billion fixed-income credit portfolio is in oil, invested mostly in the independent and integrated energy sectors, in midstream holdings, oil field services and refining, he said.

“(The falling oil price) has exerted a downward pressure on the portfolio,” the spokesman added in an e-mailed comment.

CalSTRS executives are “closely monitoring the situation before determining what, if any, moves to make,” said the pension fund spokesman. “CalSTRS is a long-term investor and, while the drop in oil prices has been a cause for some concern, we have to balance that against growth opportunities the situation may create in other sectors of the economy in which we’re also invested.”

Several pension executives told P&I that, although they are watching oil carefully, they still retain the mindset of long-term investors.

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Probe of Petrobras Turns to Pension Fund

An investigation into corruption at Petrobras, Brazil’s state-run oil company, has taken a new turn: investigators are now looking into the company’s pension fund, although details are unknown.

From Reuters:

Brazil’s state-run oil company Petrobras on Monday said a growing corruption scandal may implicate its employee pension fund and has led to a freeze on payments to 23 contractors allegedly involved in the scheme.

Petros, the 66 billion real ($24 billion) employee-pension fund of Petroleo Brasileiro SA, as Petrobras is formally known, was singled out by an internal investigation, Petrobras said in a statement.

The law firms that are conducting the internal investigation “have found possible links to the facts that have been investigated” regarding the pension fund, according to the statement.

It did not give details of any possible links.

The investigation was launched after Brazilian prosecutors alleged that Petrobras executives conspired with construction companies to inflate the cost of contracts and then kick back proceeds to executives, politicians and political parties as bribes and campaign contributions.

Last month, Petrobras was fined by Brazil’s security regulator for violating rules regarding the election of board members of Brazilian companies in which the pension fund is invested.

The Dutch Pension System’s “Hidden Risk”

The Dutch pension system has been getting lots of press in recent days – a recent New York Times report and a PBS documentary from last year have espoused the virtues of the system, which covers 90 percent of workers while remaining well-funded.

But the system carries a “hidden risk” for participants. Allison Schrager explains in BusinessWeek:

Compared with defined-benefit plans in the U.S.—rare, underfunded, and governed by accounting standards derided by almost every economist—the Dutch pension system looks even better. It does have a weakness, though, one that’s often overlooked, even though it may be the only aspect of the Dutch system that’s likely to be adopted here: In the Netherlands, annual cost-of-living increases depend on the health of the pension’s balance sheet. If returns fall, benefits don’t increase. If the fund performs badly enough, pensioners may even suffer benefit cuts.

[…]

But to call it risk-sharing makes it sound more benign than it really is, particularly because retirees can’t tolerate as much risk as working people can. Post-retirement, most people live on a fixed income. In general, it’s too late to save more or get another job. Many state employees don’t have other sources of inflation-linked income like Social Security. If “fairness” means everyone has to bear risk equally, then the Dutch system makes sense. But if it’s more “fair” to treat people differently according to their means, then it would be better to share the risk with current workers instead.

Inflation risk may not seem like a big deal now. But the future is uncertain, which is why the guarantees are so valuable. Until the financial crisis, Dutch pensioners took it for granted they’d get their cost-of-living adjustment each year. Gambling on future inflation may be preferable to an underfunded pension—or no pension at all—but it’s no free lunch.

As Schrager points out, variations of the “risk-sharing” model have made their way to the United States:

This kind of risk-sharing has been catching on in America. Public pension benefits are often secured by state constitutions, but it’s not clear whether those guarantees extend to inflation-linked adjustments. Eager to contain costs, some states have eliminated cost-of-living increases entirely. The state of Wisconsin adopted a variant of the Dutch model in which retirees in the Wisconsin Retirement System get a cost-of-living adjustment only when pension assets return at least 5 percent. Previous inflation adjustments can be clawed back; monthly checks were 10 percent smaller in 2013 as a result of the financial crisis. Although, unlike in the Dutch plans, retirement income can never fall below its nominal level at retirement.

Stanford’s Josh Rauh and University of Rochester’s Robert Novy-Marx have projected that unfunded liabilities in the U.S. would fall by 25 percent if every state adopted Wisconsin’s pension model.