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April 7, 2009 7:56 pm
The collapse in value of US state and local government pension plans is a disastrous double blow for them: they are being forced to sell off assets at huge discounts to pay out pensions, and are at the same time seeing their funding levels plummet to dangerous new lows.
In the past year the funds, whose collective $2,000bn-plus in assets make them key investors in every asset class, have lost about 40 per cent of their value through investment losses.
The 2,600 pension plans provide retirement savings for 22m public employees in towns and cities across the US, and range in size from the giant Calpers, with $120bn (€91bn, £81bn) in assets, to tiny small town funds which pay pensions for local garbage collectors and police.
Phillip Silitschanu, a senior analyst at Aite Group, a consultancy, says the pensions “could face a cash flow collapse, they are liquidating assets to meet their monthly cash flow needs . . . instead of selling positions that are down 10 per cent, they are being forced to liquidate positions down 40 per cent. It is a firesale liquidation of assets to have the cash on hand to meet obligations”.
Bill Atwood, the executive director of the Illinois State Board of Investments, says: “Right now it’s very bad. For the full year 2009 (ending in June) we will have $270m negative cash flow on $8.5bn in assets.”
State pension benefits are protected by law, and must be paid even if the fund is making a loss. Calpers, the largest fund, has lost $70bn in value in the past eight months, but still has to pay $11bn in benefits this year. Unless the fund starts recouping its losses soon, the California state government, which is already mired in a huge deficit, will have to lift contributions to Calpers starting from next year.
Bad as the cashflow crisis is, the accompanying collapse in funding levels – an issue largely outside the control of the pension managers – is considered by most in the industry to be of greater significance.
US pension plans are in generally worse shape than those in Europe. They were more underfunded, meaning they did not have the money to meet future pension commitments, even before the financial crisis hit, and their losses over the past year have been greater because they had larger allocations to equities. Funding has now fallen to about 50 per cent, according to industry estimates.
Mr Silitschanu said: “As terrible a predicament that everyone thought these pension funds were in three or four years ago, they are much worse now.”
Like several others, he believes some form of federal intervention is likely, possibly in the form of the state governments being forced to cut benefits in order to qualify for the money they receive as part of the economic stimulus package.
Hank Kim, the executive director of the National Conference on Public Employee Retirement Systems, the pension industry body, says: “I don’t think federal government involvement is a realistic possibility.
“Public plan assets are down, but they are still in a very good financial situation. The issue is whether they have adequate cash flow to meet their obligations,” he argues.
However, few others be-lieve the plans are in a good financial situation. Cutting benefits for new employees and raising the age of retirement are some previously unthinkable strategies being considered by state governments in an effort to contain the problem.
Merging weaker funds with others is another plan. Illinois’ five state retirement systems, which are collectively only about half funded, could be merged into one fund, as could those in Arkansas.
Those less than 50 per cent funded include schemes in Philadelphia; West Virginia; Pittsburgh; Providence, Rhode Island; Little Rock, Arkansas; Jersey City, Wilmington, Delaware and Atlanta.
Most experts believe that the situation is even worse than these official funding figures suggest, because of the way the funds calculate returns and liabilities. Almost all funds base their funding levels on an assumption of an annual return of 8 per cent, but in the decade to 2004 the average return was only 6.5 per cent.
Successive state governments have expanded pension benefits, but often failed to lift contributions. No government has wanted to cut pensions.
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