By: Russ Kamp, Managing Director, Ryan ALM, Inc.

By now most everyone in the pension industry has read about the Illinois Supreme Court upholding a law signed by Gov. JB Pritzker in 2019 consolidating pensions for Illinois’s “down state” police and firefighter unions. The primary goal in signing the legislation was to give small police and fire pension systems the scale to participate in larger investment opportunities that just might provide for improved/enhanced returns on the plan’s assets. There were also expectations that some expenses might be mitigated/lessened given the new scale. Those goals may prove to be attainable, but they don’t help to address the liability side of managing a pension plan.

As I understand, most, if not all, of those down state funds have retained their own actuary and trustee boards. As a result, they continue to be responsible for the day-to-day operation of the fund. So, no economies of scale there. Yes, investment decisions have been removed from the individual boards and are now consolidated within the two combined entities. However, managing a pension plan is not just about investments. The true objective in managing a DB pension plan is to SECURE the promised benefits at a reasonable cost and with prudent risk. It isn’t an arms race focused on generating the highest return.

We believe that a plan’s asset allocation should be dictated by the funded status of that plan. A plan with a 60% funded ratio should have a very different asset allocation than one sitting at 100% funded. Yet, each down state fund is forced to have the same asset allocation no matter what the funded status. Does that make sense? As a member of a fire department for a small town somewhere in Illinois, I would want the opportunity to take risk off the table as my plan got better funded. I wouldn’t want the taxpayers of my community or the employees of my fund to take on too much risk when the battle has already been won.

In addition, as a member of a police department with a poor funded status, I would want the opportunity to perhaps reduce the future tax burden on my citizens or employees who need to contribute a greater % of their compensation by being able to inject more risk into the asset allocation. Unfortunately, neither scenario is available at this time, as every $ goes into one pool.

Here’s a thought, create commingled asset class sleeves in which these small pension systems can buy exposure based on their unique needs. A better funded plan can overweight fixed income, while a poorer funded plan will perhaps choose to overweight higher octane strategies. Again, managing a DB plan is not just about return. The liability side of the pension equation needs to be in focus every step of the way. You can’t secure the pension promise if you can’t manage to pension liabilities. The riding of the asset allocation rollercoaster in pursuit of higher and higher returns has led to unstable funded status and escalating contribution expenses. Bring some stability to the process by using the funded status to drive the investment decisions. All of the down state funds will appreciate having that opportunity.