Pennsylvania Public Schools Fund Commits $200 Million To Real Estate

businessman holding small model house in his hands

The Pennsylvania Public School Employees’ Retirement System (PSERS) has announced its decision to allocate an additional $200 million to its real estate portfolio; $100 million will go to the AG Core Plus Realty Fund IV, which targets a return of 14-15 percent before fees.

From IP Real Estate:

The plan made two new $100m commitments to the AG Core Plus Realty Fund IV and the pension fund’s in-house co-investment and secondary real estate programme.

Pennsylvania is the second US public pension fund to approve a new commitment to Realty Fund IV, following the Illinois State Board of Investment, which made a $30m allocation.

Courtland Partners, the real estate consultant for Pennsylvania, said Angelo Gordon & Co would continue its core-plus strategy of acquiring equity interests in high-quality assets likely to appreciate over time.

The fund will target underperforming office, retail, apartment and industrial assets, with an emphasis on the Top 15 US markets, shunning development projects.

Most assets will be in the US, although the fund can invest as much as 25% outside North America.


Targeted gross returns for the fund are 14-15%, with the current income component of the return projected to be 7-8%.

The fund will have a leverage component of 55-65%.

Pennsylvania has now committed a total of $200m to in-house co-investments and its secondary investment strategy.

The capital can be invested via co-investments on specific transactions with other funds, as well as by buying out other limited partners from existing positions in funds.

PSERS is also exiting the Prologis North American Industrial Fund, a fund of logistics and distribution facilities in the U.S.

PSERS committed $200 million to that fund in 2006, but the investment is now thought to be worth $167 million.

Think Tank Director: Corbett’s Pension Proposal Would Increase Pension Debt and Reduce Benefits

Tom Corbett

Stephen Herzenberg, the executive director of the Keystone Research Center, took to the newspaper on Monday to counter Pennsylvania Gov. Tom Corbett’s argument that the best bet for saving the state’s pensions would be to switch new hires into a 401(k)-type plan.

Herzenberg claims in an op-ed that such a plan would provide no savings for the state, reduce benefits for retirees and actually increase the state’s pension debt.

Herzenberg starts by talking about the fees and other costs associated with 401(k) plans. From the op-ed, published in the Patriot-News:

For two years, Governor Corbett has advocated a shift from pooled, professionally managed, defined-benefit pensions to a system where each employee manages an individual account, similar to a private sector 401(k) plan.


How does the efficiency of today’s defined benefit pensions system translate, in bottom-line terms, measured by the level of contributions required to fund retirement? According to the National Institute on Retirement Security, individual 401(k)-style accounts cost 45% to 85% more than traditional pooled pensions to achieve the same retirement benefit. That’s a big efficiency gap.

A lot of this efficiency gap results from the fees that financial firms charge holders of individual accounts – for administration, for financial management and trading stocks, and for converting savings at retirement into a monthly pension check guaranteed until the end of life – an “annuity.” In essence, these fees are transfer from Main Street retirees to Wall Street. In an economy with stagnant middle-class incomes and all the gains for recent growth already going to the top, such a transfer seems like the last thing we need.

Given the high fees and low returns of 401(k)-style accounts, it is hardly a surprise that actuaries who have studied the Governor’s proposal for an immediate switch to them – or a more gradual switch under a new “hybrid” proposal that the Governor now supports – don’t find any savings.

Far from providing savings, in fact, this switch could result in a large upfront transition costs – because the investment returns on the existing pension plans would fall as the plans wind down. The Governor’s plan was projected to have a $42 billion transition cost.

He goes on to write that Corbett’s plan would be “highly inefficient” and would actually reduce retirement benefits. From the op-ed:

The switch would also reduce retirement benefits. This is not only bad for teachers, nurses, public safety personnel, and other public servants. It could also require a future wage increase to enable the state and school districts to attract and retain high-quality staff – another cost to taxpayers.

In his recent book on inequality, economist Thomas Piketty worries that high returns and low financial management costs are only accessible to massive pools of wealth. This means that the assets of the wealthiest individuals and families grow faster than the wealth of the rest of us. It reinforces the drfit back towards Gilded Age levels of wealth inequality.

But in the context of public sector retirement plans, defined-benefit pensions give taxpayers and the middle class the ability to grow their pooled retirement savings in the same manner as Warren Buffet and Bill Gates.

If define benefit pensions are poorly managed, as they have been in Pennsylvania, they do create some challenges. As with paying a credit card bill, if you don’t put in the required contributions you can run up a large expensive debt. But the way to fix that problem is to pay the required contributions, not to switch to a highly inefficient retirement savings vehicle.

Read the entire column here.

Patriot News: Are Hedge Funds Right For Pennsylvania?

Pennsylvania quarter

Last week Pennsylvania’s auditor general publicly wondered whether hedge funds were a sound investment for the state’s “already stressed” pension systems.

The crux of the auditor’s concern was the millions in fees paid by the system. In an editorial Monday, the Patriot News also questioned the fees incurred by hedge fund investments – including the fees that the public doesn’t know about. From the Patriot News:

The Pennsylvania State Employees’ Retirement System (PSERS) paid about $149 million in fees to hedge funds in fiscal year 2013, according to WITF, the public broadcasting station.

The Philadelphia Inquirer has noted that “It’s hard to know how much Pennsylvania SERS paid, since some SERS hedge fund fees aren’t included in the agency’s annual report.”

WITF also noted that it’s not clear what the pension fund got after paying all that money, which is the point raised by Auditor General DePasquale.


Pennsylvania has been one of the most aggressive states investing in “alternative” vehicles like hedge funds. In 2012, The New York Times reported that Pennsylvania’s state employees pension fund had “more than 46 percent of its assets in riskier alternatives, including nearly 400 private equity, venture capital and real estate funds.”

Those investments cost Pennsylvania $1.35 billion in management fees in the previous five years, according to the Times report.

The editorial wondered whether the state was really getting what it paid for performance-wise. From the Patriot News:

During that time, it appears Pennsylvania paid more and got less than other states did.

Over the five-year period, Pennsylvania’s annual returns were 3.6 percent. During that time, the New York Times report said the typical public pension fund earned 4.9 percent a year. And Georgia, which was barred by law from investing in high-fee alternative funds, earned 5.3 percent a year.

Georgia’s fees were a lot lower, too. For a pension fund about half the size of Pennsylvania’s, it paid just $54 million in fees over the five years. Pennsylvania paid 25 times as much for results that were significantly worse.

Pennsylvania’s two big pension funds are tens of billions of dollars short of being able to pay all the money they’ll owe to retirees.

One has to wonder whether one reason is that the funds are spending too much money on supposedly sophisticated investments that aren’t worth the cost.

It’s a question the Legislature needs to answer.

SERS allocates 7 percent of its assets, or $1.9 billion, towards hedge funds. PSERS, meanwhile, allocates 12.5 percent of its assets, or $5.7 billion, towards hedge funds.

Pennsylvania Not Cutting Hedge Funds Despite State Auditor’s Skepticism

Scissors slicing one dollar bill

CalPERS’ decision to pull out of hedge funds is having a ripple effect across the country.

On Wednesday, Pennsylvania Auditor General Eugene DePasquale released this skeptical statement on the state pension system’s hedge fund investments:

“Hedge fund investments may be an appropriate strategy for certain investors and I trust that SERS and PSERS weigh investment options carefully,” DePasquale said in a statement. “But, SERS and PSERS are dealing with public pension funds that are already stressed and high fees cost state taxpayers more each year. I support full disclosure of hedge fund fees paid by our public pension funds and we owe it to taxpayers to ensure that those fees do not outweigh the returns.”

Spokespeople for both the State Employees Retirement System (SERS) and the Public School Employee Retirement System (PSERS) have now responded. The consensus: the pension funds will not be cutting their hedge fund allocations.


SERS has no plans to cut hedge funds further. “Hedge funds play a role in our current board-approved strategic investment plan, which was designed to structure a well-diversified portfolio,” SERS spokeswoman Pamela Hile told me. With many more workers set to retire, hedge funds (or “diversifying assets,” as SERS prefers to call them) combine relatively steady returns with low volatility “over varying capital market environments.” By SERS’s count “difersifying assets” are now down to $1.7 billion, or 6% of the $28 billion fund and returning 10.7% after fees for the year ending June 30, up from a 10-year average of 7.4%.

Says PSERS spokeswoman Evelyn Williams: “We agree with the Auditor General that hedge funds are appropriate for certain investors. Not all investors can or should invest in hedge funds. Clearly CALPERS reviewed their hedge fund allocation and acted in their own fund’s best interests.

“PSERS also sets our asset allocation based on our own unique goals and issues. We do not have any immediate plans to change our hedge fund asset allocation at this time… PSERS’ hedge fund allocation provides diversification for our asset allocation and is specifically structured so it does not correlate with traditional equity markets…PSERS hedge fund allocation has performed as expected and provided positive investment returns over the past fiscal year, one, three, and five years.”

SERS allocates 7 percent of its assets, or $1.9 billion, towards hedge funds. PSERS, meanwhile, allocates 12.5 percent of its assets, or $5.7 billion, towards hedge funds.


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Fitch Downgrades Pennsylvania; “Weakened” Pension System Drives Demotion

Tom Corbett

Credit rating agency Fitch has downgraded Pennsylvania’s general obligation bonds one notch, from AA to AA-.

What’s more, Fitch changed the state’s outlook from “stable” to “negative” – meaning another downgrade could be coming if Pennsylvania doesn’t address the structural problems that led to this recent demotion.

The structural problems in question are largely linked with the state’s pension system. From the Fitch report:

CONTINUED FISCAL IMBALANCE DRIVES DOWNGRADE: The downgrade to ‘AA-‘ reflects the commonwealth’s continued inability to address its fiscal challenges with structural and recurring measures. After an unexpected revenue shortfall in fiscal 2014, the current year budget includes a substantial amount of one-time revenue and expense items to achieve balance and continues the deferral of statutory requirements to replenish reserves which were utilized during the recession. The commonwealth’s rapid growth in fixed costs, particularly the escalating pension burden, poses a key ongoing challenge, although Fitch expects budgetary planning and management to mitigate these pressures in a manner consistent with the ‘AA-‘ rating.

PENSION FUNDING DEMANDS: The funding levels of the commonwealth’s pension systems have materially weakened as a result of annual contribution levels that have been well below actuarially determined annual required contribution (ARC) levels. Under current law, contributions are projected to reach the ARC for the two primary pension systems by as soon as fiscal 2017, but the budgetary burden will increase, crowding out other funding priorities.

INCREASING BUT STILL MODERATE LONG-TERM LIABILITIES: The commonwealth’s debt ratios are in line with the median for U.S. states. However, the commonwealth’s combined debt plus Fitch-adjusted pension liabilities is above-average, and will likely continue growing given the current statutory schedule of pension underfunding for at least the next few years. Fitch views Pennsylvania’s long-term liability burden as manageable at the ‘AA-‘ rating so long as the commonwealth adheres to its funding schedule, or enacts reforms that do not materially increase liability or annual funding pressure.


Without structural expense reform, or broad revenue increases, pension costs will consume a larger share of state resources and limit the commonwealth’s overall fiscal flexibility. In fiscal 2015, commonwealth contributions will increase over $600 million from the prior year to $2.7 billion on a $30 billion general fund budget (9.1%). Based on the statutory framework and the pension systems’ historical data and actuarial projections for contributions, Fitch anticipates increases for fiscal 2016 and 2017 will be similar though somewhat lower. While substantial, Fitch views the anticipated increases in annual contributions and unfunded liabilities laid out in the current statutory framework as within the commonwealth’s capacity to absorb at the ‘AA-‘ rating level.

Moody’s downgraded Pennsylvania in July.

Legal Quirks Complicate New GASB Rules in Pennsylvania

Balancing The Account

The Governmental Accounting Standards Board (GASB) has rolled out new financial reporting rules for pension funds, and the expectation is that the new rules will expose some “red ink”, so to speak, at pension funds who previously kept some liabilities off the books.

But implementation and enforcement of the rules is hardly straightforward. Pennsylvania serves as a great microcosm of the rules’ complexity. Mark Guydish writes about the impact of the rules on small municipalities:

GASB standards do not have the weight of law and GASB has no enforcement powers. The standards are widely adopted because independent auditors look for compliance with GASB, and state and federal money may depend on that compliance.

Theoretically, a small township that has an elected auditor rather than a contracted auditor could disregard GASB standards…though the risk to state and federal funds would still exist.

There’s another quirk in Pennsylvania, and Luzerne County, that complicates how these standards play out: The high number of municipalities managing their own pension funds, creating a wide disparity in the size of those funds.

On the one hand, the sheer number of municipalities and authorities may prevent big swings in the numbers once the new standards are used, simply because so many pension plans cover only a handful of people in many townships and boroughs.

On the other hand, Dave Davare, retired director of research at the Pennsylvania School Boards Association, noted that the dollar figures are so small it wouldn’t take much of a change to move a fund from surplus to deficit.

Dreyfuss pointed out that the standards do not require a municipality to meet pension obligations, simply to report them differently. From the municipality’s point of view, the most important number in Pennsylvania is the state-mandated “Minimum Municipal Obligation,” or MMO. Fail to pay the MMO, and state money can be at risk.

Hanover Township Manager Sam Gusto said that’s the focus at his office, and that there is no way of knowing the impact of the new GASB standard until the actual book work changes are implemented.

You can read the rest of Guydish’s massive piece here. It goes on to explain how the rules might impact school districts and state-level pension funds.


Photo by www.SeniorLiving.Org

Scranton Levies Commuter Tax, Considers Selling Sewer System to Cover Pension Debt

Flag of Pennsylvania

The Pennsylvania city of Scranton is scrambling to avoid bankruptcy brought on by its mounting pension costs, and in the process is turning to some less-than-conventional sources of revenue.

The city has already levied a commuter tax on non-residents who drive into Scranton for work. Now, the city is considering selling its sewer authority. From Bloomberg:

The former manufacturing community will tax commuters starting next month and may sell its sewer system to buttress its retirement funds. The city has 23 cents for every dollar in retiree obligations, down from 47 cents in 2009, according to state data. Without a fix, Scranton may go bankrupt in less than five years, said Pennsylvania Auditor General Eugene DePasquale.


Scranton’s pension costs are rising. The city’s contribution next year will reach $15.8 million, from $3.4 million in 2008, data from the city and the auditor general show. Pension expenses will take up 16 percent of the budget in 2018, from 9 percent in 2006, according to a July presentation by Hackensack, New Jersey-based financial consultant HJA Strategies LLC.

The seat of Lackawanna County, Scranton passed a 0.75 percent income tax on nonresident commuters effective Oct. 1. The measure would generate at least $5 million annually, based on county data on tax collections, and the funds would go toward pensions, [city business administrator David] Bulzoni said.


Another option is to sell the sewer authority, which has started a review of the proposal, Bulzoni said. In addition, municipal officials this month met with union representatives to discuss contract features that are depleting pension assets, Bulzoni said. He declined to elaborate because he said some solutions will involve bargaining.

The city’s pension funds were collectively 23 percent funded in 2013.

Video: Pennsylvania’s Pension Predicament

The 2014 CSG National Conference was held last month, but videos of the presentations are just beginning to surface.

This presentation, on public pensions in Pensylvania, was given by state Senator Pat Browne (R).

Sen. Browne has previously proposed and supported legislation to shift workers into a 401(k)-style plan. In 2012, he said:

“Significant policy decisions regarding Pennsylvania’s pension system must be made soon,” Senator Browne said. “Without significant changes in the design of Pennsylvania’s pension system, including a switch to a defined contribution system, the long-term costs will be unaffordable to Pennsylvania taxpayers.”

“Over the past few decades, virtually all of the private sector has shifted to defined contribution retirement plans,” Senator Pileggi said. “It’s time for Pennsylvania government to do the same.”

“A switch to a defined contribution plan will benefit Pennsylvania taxpayers by forcing fiscal discipline,” Senator Corman said. “Retiree benefits will become predictable and sustainable, costs will be easily defined, and future liabilities will be fully funded; it’s an excellent choice prospectively.”

Browne is a board member on the Public Employee Retirement Commission and the Public School Employees’ Retirement System board

Pennsylvania Schools Feeling Pension Pinch

Pension payments for school districts have increased significantly in the last decade.  CREDIT: Lancaster Online
Pension payments required of school districts have increased significantly in the last decade.
CREDIT: Lancaster Online

Pension costs have skyrocketed over the last decade for Pennsylvania public school districts, as the state’s pension liabilities and the contributions required from schools have both increased dramatically. From Lancaster Online:

The key concern is the underfunded Pennsylvania School Employees Retirement System. Due mainly to past actions by the Legislature — under both Democratic and Republican control — the statewide pension program currently carries a nearly $50 billion liability.

To make that up, districts have seen the amount they’re forced to pay skyrocket over the past several years.

– Elanco has seen its contributions rise from $350,000 in 2004 to $3.1 million in 2014.

– Lampeter-Strasburg had its payments grow from $325,000 in 2004 to $2.2 million in 2014.

– Hempfield has stretched those costs from nearly $1.5 million in 2004 to $5.4 million in 2014.

– Penn Manor was forced to increase that portion of the budget from just over $1 million in 2004 to $6.3 million in 2014.

Pennsylvania’s Public School Employees’ Retirement System (PSERS) was 66.3 percent funded as of 2012.

Pennsylvania Lawmaker Proposes Trash Tax to Ease Pension Pains

garbage truck

Pennsylvania Governor Tom Corbett has made pension reform a major part of his re-election platform, but has had little luck finding lawmakers to help him push through proposals.

One lawmaker put a new idea in the ring Thursday, although it’s probably not what Corbett had in mind.

Reported by the Morning Call:

State Rep. David Milliard thinks there may be pension gold buried in the state’s landfills.

On Thursday, the Republican from Columbia County floated a bill that would impose an additional $3 tipping fee on waste haulers to reduce school districts’ rising pension costs.

The additional fee would generate an additional $51 million and be put into a new pension-only fund controlled by the state Treasury, according to a memorandum Milliard published seeking co-sponsors to his bill. The Additional Commonwealth Contributions to School Districts Account.” to be used to help districts lower pension costs. The money would be distributed to districts, but not charter schools, on a prorated basis.

The proposal is meant to ease pension costs for school districts, which are subject to rising contribution rates designed to help cover the state’s pension funding shortfall. From the Morning Call:

Mandatory pension payments for school districts rose about 4.5 percent to 21.4 percent of payroll this fiscal year. The rising rates are based on Act 120, which went into effect in 2011. The law sets a increasing, fixed rates the state and school districts must pay each year to cover back pension debt, which is now approaching $50 billion. The state and school districts are having trouble keeping up with those payments even though they are lower than they would be if the law were not in effect.

So far, no other lawmakers have sponsored the bill.

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