Pension returns short of targets

U.S. public pensions posted their weakest performance in three years, falling a percentage point short of their investment targets, and the prospect of rock-bottom interest rates and a trade-war induced recession could put a greater strain on state and city retirement plans.

The median U.S. public pension returned 6.2% in the fiscal year ending in June 30 after paying fees to investment managers, according to Norwalk, Connecticut-based InvestmentMetrics, which provides analytics to institutional investors. Pensions assume a median annual investment return of 7.3% to cover promised benefits.

“The market is challenged,” said Farouki Majeed, chief investment officer of the $14.7 billion School Employees Retirement System of Ohio, which returned 6.6%, short of its assumed 7.5% return. Over a 10-year period, the fund has returned an annualized 9.4%. “We certainly don’t expect that over the next 10 years.”

The Ohio pension, like other government retirement systems, have increased their allocations to riskier investments in stocks and private equity as a decades-long decline in interest rates and slow global economic growth made it harder for them to meet long term targets.

This has exposed them to greater volatility even as they try to climb out of a hole that’s left them with between $1.6 trillion and $4 trillion less than they need to cover all the benefits that have been promised, depending on the interest rate used to value liabilities.

That gap could get even bigger if U.S. Treasury yields, already close to all-time lows, fall further because of an escalating U.S.-China trade war or the spread of economic stagnation from Japan to Europe.

“Global economic growth estimates have been steadily coming down for the next few years. That’s a concern,” Majeed said. “I would put trade and currency wars as more of a near term risk.”

State and local pensions’ average allocations to stocks and alternative investments, like private equity and real estate, increased to 77% of their assets in 2017 from 67% in 2001 while fixed income and cash declined to 23% from 33%, according to Boston College’s Center for Retirement Research.