April 7, 2010
External Affairs Branch
Pat Macht, Director
Contact: Brad Pacheco, Chief
CalPERS Responds to Stanford Policy Brief on Public Pension Funds
SACRAMENTO, CA – The California Public Employees' Retirement System (CalPERS) today responded to a Stanford study saying it uses outdated data and suggests the pension fund should violate its actuarial standards of practice and governmental accounting rules to create a zero risk investment portfolio.
The study "Going For Broke: Reforming California's Public Employee Pension Systems" issued by Stanford's Institute for Economic Policy Research fails to take the following into account:
- Over the past 20 years, CalPERS has earned an average annual investment return of 7.91 percent – which includes the past two years of investment declines. This performance exceeds the Pension Fund's actuarial rate of return assumption of 7.75 percent needed to pay long-term benefits.
- The study appears to use the yield of the 10-year Treasury bond as the risk free discount rate to estimate the present value of liabilities. The duration of the 10-year bond is approximately 8 years and well below the estimated duration of the CalPERS liability in the study. It would be more appropriate to use the yield of the 30-year Treasury bond as the risk-free discount rate for purposes of such a comparison.
- CalPERS does not believe that using a risk-free rate as suggested in the study is appropriate since the fund can earn a premium over the risk-free rate with high certainty by investing in a diversified portfolio with an acceptable level of risk.
- The study relies on data when the system had $50 billion less in assets than it has today. CalPERS assets are valued at nearly $210 billion – a gain of more than $50 billion since the market downturn.
- The study's findings are based on a mathematical model that uses current interest rates, which are very low and make liabilities appear to be much higher. That method is inconsistent with the Governmental Accounting Standards Board and current actuarial standards.
- The study recommendations are based on bond returns over the past 25 years of 7.25 percent for investment grade corporate bonds, which are only 0.66 percent lower than CalPERS total return of 7.9 percent but with much lower volatility. CalPERS experts believe that this reasoning is flawed. Prospective returns on bonds are much lower today since yields are at an historic low and the return to bonds will equal the current yield to maturity which is around 4 percent for most broad band indices. Also bonds could be more volatile than the past if economic conditions are more uncertain as in the recent period.
- The study ignores our diversified investment portfolio that has been time-tested during our 78 year history. If CalPERS had followed the recommended approach in the study, it would have given up billions of investment earnings that have helped finance pensions rather than relying on tax dollars.
Actuarial/Benefit Formula Related
- The study misstated some of the benefit formulas in Table 3 and seems to suggest that CalPERS violate the California Constitution by using surpluses to "reduce state debt." Pension raids were determined to be unlawful during the Wilson Administration.
- To adhere to some of the changes suggested in the report, CalPERS would be violating actuarial standards of practice and undo 50 years of governmental accounting rules in favor of an approach that would be "zero" risk.
- Funded status should not be viewed as a long-term irreversible trend. A pension fund's funded status – whether a liability or surplus – is constantly changing, depending on current economic circumstances. It is a snapshot in time that can change dramatically over a fairly short period of time due to the health of the overall economy. Funded status snapshots are useful in showing how far or how near one is to full funding. Experts agree that a funded status of 80 percent is the mark of a very healthy plan. CalPERS notes that the Stanford Report acknowledges that using the data selected, CalPERS was more than 80 percent funded.
- Benefit formulas are not set by CalPERS. They are determined through the collective bargaining process, between the employer and the employee representatives. CalPERS recently held the California Retirement Dialogue, and information on the various viewpoints on benefit formulas is available on the Pension Fund's website CalPERSResponds.com.
- CalPERS regularly evaluates its assumed rate of return every three years. In May the CalPERS Board's Investment Committee will hold a workshop on capital market assumptions, finalize those assumptions in September, hold an asset-liability workshop in November, and take final action on an asset mix in December.
- In February 2011, the CalPERS Board will take the final step in the process by setting the actuarial assumed rate of return/discount rate. These meetings are open to the public and CalPERS is committed to obtaining all viewpoints on these issues. We invite the authors of the study to participate in the discussions.
CalPERS has more than $209 billion in assets and is the largest public pension fund in the U.S. It administers retirement benefits for more than 1.6 million active and retired State, public school, and local public agency employees. For more information on CalPERS, visit www.calpers.ca.gov.