Not For The Faint Of Heart

The name of the game for most plan sponsors, especially those representing public and multiemployer pension systems, is to beat the return on asset assumption (ROA).  As regular readers of this blog know, we espouse a different view that would suggest that the primary objective when managing a DB plan should be to improve the funded status while meeting the promise (liability) at the lowest cost and least risk.

For plan sponsors with more than a little experience, the decade of the ’90s was a magnificent period for return seekers. The decade of the ’00s – not so much!  However, the last 10+ years bull market in U.S. equities has made up for many sins from earlier this century, but unfortunately, plan funded status hasn’t dramatically improved and contribution expense certainly hasn’t been reigned in.

Well, if your focus continues to be on return and not cost, the next 10 years may be as ugly, if not worse, than the early 2000s provided to investors. The following is a note that I saw on the subject:

Jack Bogle, the founder of Vanguard, is a legendary name is investing. Not only did he found and grow one of the largest asset managers in the world, but he has a habit of being right when he predicts returns. Well, he has just made another prediction, and unfortunately it is not one that investors will like. He thinks returns over the next decade are going to lag their historical levels badly. His forecast is that investors can expect a 1.75% net return with a 50%/50% stock-bond portfolio over the next decade.

As I explained to a plan sponsor acquaintance this morning, the possibility of only getting a 1.75% annualized return would send most people running for the hills or worse, trying to inject more risk into their asset allocation process with the hope of driving greater returns.  But, the 1.75% decade-long return may actually look okay relative to liability growth if U.S. interest rates rise meaningfully during this period. Pension plan liability “growth” could actually be quite negative. However, in order to monitor that situation one can’t continue to only use GASB accounting (use of ROA to discount liabilities) to value their liabilities. A true mark-to-market valuation must be done.


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