Summer is here. It officially started at 11:30 pm (DST) on Sunday, June 20th (Happy Father’s Day). Maybe that is why I’m feeling restless today and perhaps a little rambunctious. That said, I need to get something off my chest! I recently had the opportunity to view a quarterly report for a major public pension system. The report by the asset consultant was massive (thank God I didn’t drop it on my foot!), as it contained 282 pages and every conceivable metric to evaluate an investment manager’s performance. Despite the 282 pages, there was not a single reference to the pension plan’s liabilities – not one! A comparison of the plan’s total assets to total liabilities should be on the first page. There is nothing more important! It doesn’t matter how assets do versus the plan’s return on assets (ROA) assumption or some hybrid index. It the total assets fail to beat liability growth the plan loses. As a reminder, these plans only exist because a promise was made to a plan participant. It is that promise (the liability) that must be funded.
At Ryan ALM we believe that the primary pension objective in managing a defined benefit plan is to SECURE the promised benefits in a cost-efficient manner with prudent risk. The ONLY way that this objective is met is to measure and monitor the plan’s liabilities on a regular basis. Since most actuaries only produce annual reports on the plan’s liabilities, it behooves plan trustees to find an alternative source for this information. The plan’s liabilities must be used to drive investment structure and asset allocation. I’ve written plenty on this subject in many different blog posts that can be found at Kampconsultingblog.com, so I won’t repeat myself now.
But where are trustees getting the knowledge necessary to focus on plan liabilities to make these critically important asset allocation decisions? I’ve been very pleased during the last several decades to see the effort put forward to educate public pension trustees through organizations such as FPPTA, IPPFA, MACRS, TexPERS, and many more. They have invested many $s and hours into making sure that plan trustees know everything about the asset-side of the pension equation, but how much time do they spend on liabilities? If you were to take a look at the tests that trustees need to take in order to get a certificate, what percentage of that test would be on plan liabilities? Unfortunately, I would guess very little to none. This needs to change.
As I shared the other day, tremendous asset growth has been achieved during the fiscal year 2021. As Moody’s has suggested, it is time to take some risk off the table so that plans don’t continue to risk these gains or worse. But a plan sponsor will need to know the liability side of the pension equation to make the necessary decisions. Waiting until the next actuarial report is produced is not an option.