Thursday, January 26, 2012

What happens when 6.65% is missing?

If we're talking about 6.65% of the body weight gained by a supermodel during pregnancy then that's a good thing (and a good start)! But if it's a pension fund missing its return assumptions by 6.65%, then that's not so good!

This is a follow-up to the article "The Public Pension Time Bomb!" that discussed the ballooning pension liabilities of towns, cities and states who also faced with shrinking tax bases, shrinking tax receipts, shrinking state and federal reimbursements and rising costs.

In addition to being reliant on new funds from now less plentiful sources, these pension funds operate under annual percentage return assumptions that need to average a certain rate far into the future so that those returns together with paid-in money will be sufficient to meet that funds obligations.

Well what happens if those annual percentage returns miss by a country mile or even worse the fund suffers losses significant losses and when there are gains they are miniscule? Where will the money come from to pay the retirees?

Consider the example of CalPERS aka the California Public Employees' Retirement System!

"The nation's largest public pension fund, the California Public Employees' Retirement System, posted a 1.1% return on its investment portfolio in 2011, Chief Investment Officer Joseph Dear told his board.

The 2011 performance was well below the estimated average annual return of 7.75% that the fund's actuaries say is needed to meet current and future obligations to its members.

The $229.5-billion CalPERS provides retirement and other benefits for 1.6 million state and local government employees and their families

CalPERS' annual investment results, whose volatility has echoed that of the overall markets, have become the focal point in an ongoing debate about looming pension fund liabilities and the ability of future generations of taxpayers to continue financing them. Gov. Jerry Brown has said he wants to overhaul state and local government pension programs, but whether he and the Legislature have the political wherewithal to do so in an election year remains unclear...

... This fiscal year, the state is contributing $3.51 billion. Next fiscal year's contribution is to be determined in the late spring."

So what will happen if at some point the state is no longer able to make a sufficient contribution? (Source)

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