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SPONSOR: |
Heaton |
DATE TYPED: |
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HJM |
2 |
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SHORT TITLE: |
Combine PERA & ERA Systems |
SB |
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ANALYST: |
Neel |
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REVENUE
Estimated Revenue |
Subsequent Years Impact |
Recurring or
Non-Rec |
Fund Affected |
|
FY03 |
FY04 |
|
|
|
|
|
See Narrative |
Recurring |
Educational
Retirement Fund |
|
|
See
Narrative |
Recurring |
Public
Employees Retirement Fund |
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|
|
|
|
(Parenthesis ( ) Indicate Revenue Decreases)
LFC files
Responses
Received From
Educational Retirement Board (ERB)
Public Employee Retirement Association (PERA)
SUMMARY
Synopsis
of Bill
House Joint Memorial 2 requests a study of the
effects of combining the Public Employees Retirement System with the Educational
Retirement System.
OTHER SUBSTANTIVE ISSUES
According to a
scenario provided by ERA, there is approximately a 30 percent disparity between
ERA and PERA retirees. Under the example
that follows, an ERA retiree with a final average salary of $38.0 will receive
a retirement benefit of $22.3, while a similar PERA employee will receive
approximately $29.3. Part of this
disparity can be explained by the calculation in final average salaries. However, the major contributor is the variance
in multipliers (ERA 2.35% per year vs. PERA 3.0% per year). ERB’s benefits
package to duplicate PERA’s $157,000.0 per year, recurring contributions from
ERB employers is needed to fund the increased ERA retirement benefits.
FY02 Investment Returns ERB vs. PERA:
ERB:
Asset Allocation. ERB established its current asset allocation
target of 53 percent domestic equities, 17 percent international equities and
30 percent fixed income instruments in October 1999. This allocation was
selected as a result of an asset/liability study conducted by its then pension
consulting firm. Detailed
below is ERB’s asset allocation for fiscal year 1997 through 2002. Domestic equities are US stocks that are
traded on American stock exchanges, while international equities are non-US
stocks traded outside of
Asset Allocation (%) |
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|
FY02 |
|
FY97 |
FY98 |
FY99 |
FY00 |
FY01 |
FY02 |
Target |
Domestic
Equity |
50.0 |
50.0 |
45.8 |
52.8 |
51.4 |
48.6 |
53.0 |
International
Equity |
N/A |
N/A |
10.8 |
14.2 |
16.2 |
16.6 |
17.0 |
Fixed
Income |
50.0 |
50.0 |
42.0 |
33.0 |
32.4 |
31.6 |
32.0 |
Cash |
0.0 |
0.0 |
1.3 |
0.0 |
0.0 |
3.3 |
0.0 |
Investment
Performance. ERB’s investment performance has lagged
behind its peer funds and internal benchmarks over the past two years. Investment returns for FY02 were –8.7 percent
missing the benchmark by 187 basis points.
The associated cost of missing the policy target in FY02 was
approximately $124 million. Similarly, in FY01 ERB missed its benchmark by 400
basis points returning -10.4 percent.
Detailed below are ERB’s investment returns from FY97 through FY02.
Investment Returns (%) |
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|
FY97 |
FY98 |
FY99 |
FY00 |
FY01 |
FY02 |
FY02 Target |
Total
Fund |
20.2 |
19.7 |
11.7 |
12.5 |
-10.4 |
-8.7 |
-6.9 |
Domestic
Equity |
35.0 |
25.1 |
18.9 |
14.0 |
-18.3 |
-19.1 |
-15.9 |
International
Equity |
N/A |
N/A |
14.8 |
32.3 |
-24.8 |
-7.4 |
-8.0 |
Fixed
Income |
9.1 |
13.9 |
2.3 |
3.9 |
11.6 |
8.3 |
8.9 |
In response to the poor investment performance, ERB has taken significant steps to adjust its investment management, including hiring an investment consultant, hiring four new managers and terminating two under-performing managers. Until last year, ERB relied on its investment managers for investment advice, where most large funds hire an investment consultant to advise the board on asset allocation, investment manager selection and performance. With these changes, ERB expects to realize the investment performance that it enjoyed throughout most of the 1990s.
PERA:
Investment
Results. The following data presents the allocation for
PERA showing the various proportions assigned to the major asset classes for
the last five fiscal years.
PERA
Asset Allocation (%)
|
FY98 |
FY99 |
FY00 |
FY01 |
FY02 |
Domestic Equity |
53.3 |
48.9 |
37.4 |
44.1 |
36.3 |
International Equity |
8.8 |
12.6 |
18.0 |
14.3 |
15.3 |
Fixed Income |
37.7 |
36.0 |
35.8 |
41.4 |
43.3 |
Cash |
0.2 |
2.5 |
8.8 |
0.2 |
5.1 |
Domestic
equities are
Given
recent stock market performance, it is noteworthy that the fund’s exposure to
equities fell from 58 percent as of June 2001 to 52 percent as of June
2002. By comparison, the Education
Retirement Association and the State Investment Council funds had FY02 equity
components equal to 65 percent and 62 percent of their respective totals. It is therefore unsurprising that PERA significantly
outperformed these other funds during FY02.
Further, PERA’s investment performance has consistently been superior as
measured against its peers’ returns. Out
of an investment universe of 59 funds, PERA has placed in the 98th
or 100th percentile for one, five and 10 year horizons.
Another
useful metric is how a fund performs relative to its overall benchmark. PERA employs external money managers to
actively manage different portfolios and pays them fees higher than would be
charged for investments in passive indexes such as the Standard & Poors
500. Therefore, to justify the higher
expenses, these managers should outperform the passive indexes for their
respective portfolios. Figure 1 shows
the one-year, five-year and 10-year performance of the total fund compared to
its passive targets. This graph shows
the value added by external managers; with the exception of the five-year
interval, the fund has substantially outperformed its benchmarks. For example, manager performance added an
additional 3.2 percent to FY02 return as a result of PERA’s skill in picking
investment managers.
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