More Georgetown Pension Analysis

The previous posts on Georgetown's pension obligations, as measured by unfunded liability and funded ratio, focused on how the health of the system depends explicitly on the assumed growth rate of the pension fund managed by the Texas Municipal Retirement Fund(TMRS). The Comprehensive Annual Financial Report(CAFR) for 2014 provides the actual performance achieved in 2014. For the year ended December 31, 2014, the annual money-weighted rate of return on pension plan investments, net of pension plan investment expenses, was 5.85%. The money-weighted rate of return expresses investment performance, net of investment expense, adjusted for the changing amounts actually invested.

Using the TMRS reported pension liabilities and assets, the 7% interest rate, and the 30 year amortization period one can calculate the performance using the actual 2014 investment performance. Sparing the reader the mathematical details, the results are:

unfunded liability  $57,000,000

funded ratio  60.2%

Thus it is clear that the health of Georgetown's pension fund is substantially less than reported by TMRS. A funded ratio of 60.5% is far less than the reported 83.3%.

The 10 year return for TMRS is 6.5%, below the 7% target return. The surging stock market since 2009 has allowed TMRS to earn 8.6% over the previous 3 years and 7.4% over the previous 5 years. It is apparent the annualized return is quite volatile and is very depended on the time frame selected over which to average the returns. The 10 year return includes the market crash in 2008 and 2009. Moodys for instance recommends an average amortization period of 13 years.

There are other more disturbing revelations in the 2014 CAFR. The TMRS Executive Director states "The Systems portfolio is under a process of diversification and has shifted from an income-oriented strategy to a total return approach similar to most pension funds. The portfolio is diversified across all segments of the U.S. and international equity markets (both developed and emerging). The fixed income portfolio consists of core and non-core investments. The System also invests in real return assets (currently global inflation-linked bonds), absolute return strategies and real estate".

This is "financial speak" for hey, we can't get 7% returns on conservative U.S. equities and bonds, so we are increasing the risk to try and get higher returns! For example, Real Return can include such investments as: commodities, inflation linked-bonds, oil & gas, timber, agriculture and precious metals.

Private Equity can include investments in distressed and bankrupt companies, providing venture capital and leveraged buy-outs.

Absolute Return primarily involves investments in hedge funds and includes various types of arbitrage as well as short selling.

Even though these asset classes, including real estate will only comprise about 25% of the portfolio, they will significantly increase the risk. Just two years ago, the portfolio held 1.9% in Real Estate and 4.9% in Real Return and nothing in Absolute Return or Private Equity.

The following table indicates TMRS target asset allocations. The portfolio is still currently over-weighted in U.S. Equities and Core Fixed Income and there are no investments shown in Private Equity.

Asset Allocation Table • Strategic Targets

Asset Class                     Minimum %    Target %        Maximum %

U.S. Equities                   12.5%        17.5%           22.5%

International Equities          12.5%        17.5%           22.5%

Core Fixed Income               25.0%        30.0%           40.0%

Non-Core Fixed Income            5.0%        10.0%           15.0%

Real Estate                      5.0%        10.0%           15.0%

Real Return                      2.0%        5.0%            10.0%

Absolute Return                  0.0%        5.0%            10.0%

Private Equity                   0.0%        5.0%            10.0%

Cash Equivalents                 0.0%        0.0%            10.0%

The TMRS is aggressively moving its portfolio to higher risk investments in search of higher returns.

Even though the pension fund may not be in serious trouble right now, the pension fund is not in as rosy a position as reported. The City of Georgetown needs to be watching their pensions and make sure their liabilities are assessed using realistic investment return rates. Also, watch the risk being assumed by TMRS to meet unrealistic goals.