It’s Not A Coincidence

Northern Trust has published the aggregate performance results through March 31st for its universe of roughly 300 large institutional pension plans and endowments and foundations. Not surprisingly, performance results (-11.6%) are very weak for the entire universe. What also isn’t surprising to me is that public pension plan performance once again trails that of private sector corporate plans. Corporate DB pension plans had a median performance for the quarter of -8.1%, while public pension systems produced a decline of -12.6%. This comparative result shouldn’t be a surprise to anyone.

Unfortunately, public pension systems operate with the belief that no matter what happens these systems are perpetual. That is absolutely the wrong approach, since perpetual doesn’t mean sustainable. Whereas corporate America pays much more attention to the liability side of the asset/liability equation, public pension systems operate as if they have no plan liabilities, and that is reflected in their asset allocations that have gotten more risky since the GFC.

Maybe it is the accounting rules that keep corporate pension systems more focused on plan liabilities. But, whatever the case, they are less prone to wild swings in plan performance, which means that contribution expenses tend to be less volatile, too. Given the impact that Covid-19 will likely have on sources of revenue for state and municipal budgets, wild contribution hikes are going to create significant financial burdens.

It is stupid that we have multiple accounting rules and regulations on how pension systems value plan liabilities. The use of the ROA to value liabilities under GASB accounting leads to public pension plans being habitually underfunded, as contributions are predicated on a deflated estimate of those liabilities, and it also forces them to inject more risk into their asset allocations, which leads to greater disparity in returns versus their more conservative corporate peers. Assuming more risk hasn’t lead to greater returns either, as corporate plans have done significantly better than public plans for the 3- and 5-year periods ending March 31st producing returns of 5.6% and 4.8% versus 3.0% and 4.1%, respectively.

What did surprise me in the analysis by Northern Trust is just how badly E&Fs performed during the quarter. As a reminder, these funds should have an absolute orientation given that they operate with a positive spending policy each and every year. The fact that they were down -11.6% for the quarter, while also underperforming both corporate and public plans for the 5-year period (3.9%) ending March 31st, is shocking. I guess the move into hedge funds once again proved to be a failed move. When will they learn?

It is time that we get back to basics within our industry. Public pension funds need to be managed more like corporate plans, and all funds need to pay greater heed to their liabilities, whether relative (DB plans) or absolute (E&Fs and HNW). What are we waiting for?

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