Market Decline Could Affect Public Pensions for Several Years

October 22, 2009 ( - The Public Fund Survey sponsored by the National Association of State Retirement Administrators and the National Council on Teacher Retirement indicates that the market decline in 2008 resulted in a median investment return for public pension funds of -25.3% for the year.

According to the report, the fall in asset values has caused aggregate funding levels to move downward from 86.7% in FY07 to 85.3% in FY 08.

However, the report notes that because public pension actuarial methods are designed to temper the effect of market volatility, public pensions will recognize the investment losses incurred in 2008 over several years. During this recognition period, funding levels are expected to decline, although losses may be partially offset with investment gains.

Future funding levels will also be influenced to the extent sponsoring state and local governments consider adjustments to benefit levels and financing arrangements, such as reduced benefits for future hires, reduced future accruals, and/or higher contributions for both employers and employees.

According to the report, the extent of cost increases will vary by plan and will depend on several factors, especially the plan’s funding condition prior to the market decline; the adequacy of contributions to the plan by employers and employees; and the plan’s demographic composition. The cost to amortize unfunded liabilities also will be affected by the plan’s actuarial methods, assumptions, and past and future investment returns.

The timing of required cost increases also will vary by plan and will be affected mostly by the date of the plan’s actuarial valuation, the report said. Roughly three-fourths of the systems in the Public Fund Survey have a fiscal year-end date of June 30; most of the remaining systems have a fiscal year- end of 12/31.

Because the steepest portion of the market decline occurred in October and November 2008, public pension plans with an actuarial valuation date prior to that period have not yet begun to incorporate those investment losses.

In addition, the report said, for many plans, the actuarial valuation date lags the system’s fiscal year-end date. In these cases, the process of recognizing investment losses will be delayed further, typically by one year. The performance of investment markets in the meantime could either offset or exacerbate the effect of the market decline of the last year.

The Public Fund Survey found that even with no changes to funding policies or plan design, based on current contribution levels and projected benefit obligations, most public pension plans are positioned to continue paying promised benefits for decades.

However, the survey report said the higher costs associated with increased unfunded liabilities caused by the sharp declines in 2008 are likely to spur an increase in the number of plan sponsors considering adjustments to their level of benefits, financing structures, and/or asset allocations. Already in 2009, a handful of states have approved modifications to the pension plan design for existing participants or future hires, or both; to financing arrangements, including higher contribution rates for employers, employees, or both; and to actuarial methods and processes.

The average asset allocation for funds in the survey in 2008 was 53.3% in equities, 28.9% in fixed income investments, 6.5% in real estate, 8.6% in alternative investments, and 2.8% in cash or other investments. The median cost to administer plans in the survey is under 10 basis points, or 0.10% of assets.

Median employer contribution rates for workers who participate in Social Security rose to 8.7% of pay in FY08. The median and modal employee contribution rate for this group remained 5% of pay. Median employer contribution rates for non-Social Security-eligible workers rose in FY 08 to 11.8% of pay, up from 11.2% in FY 07. The median employee contribution rate for non-Social Security-eligible workers was 8% in FY08.

At 88%, the report said, the overall average annual required contribution (ARC) paid by public plan sponsors in FY 08 was marginally higher than in previous years. At 60%, the percentage of plan sponsors paying at least 90% of their ARC was slightly higher in FY 08 than in the last few years.

The Public Fund Survey found that many plans have reduced their inflation assumptions for actuarial calculations in recent years, resulting in a median and modal assumption of 3.5%. Most plans in the survey use an inflation assumption between 3% and 3.5%. All investment return assumptions in the Public Fund Survey above 8.5% have been reduced, but the median and modal assumption remains 8%.

Due largely to the aging of the nation's workforce, the rate of growth in annuitants has been outpacing the rate of growth in active (working) members. The report indicates the ratio of actives to annuitants has declined from 2.45 in FY01 to 2.02 in FY 08. The number of annuitants among plans in the Public Fund Survey has increased since FY 01 by some 30%.

The membership and assets of systems included in the survey comprise approximately 85% of the entire state and local government retirement system community. The survey is accessible online at .