Turning the Corner?
By: Greg Mallison
Doylestown Wealth Mgt.
In its recent presentation to the Pennsylvania House Appropriations committee, the Pennsylvania School Employees’ Retirement System (PSERS) has tried to put a brave face on its pension funding problem. Glancing through the slides, one can read comforting talk about what a wonderful job the PSERS pension fund is doing and how the underfunding problem is being addressed and will eventually be fixed. “Reaching a turning point” is how the report describes the situation as it assures the reader that the continued slide in its funding ratio will end next fiscal year, as a combination of ramped up state and school district funding combined with reduced benefits for newer employees and a top-notch investment allocation slowly makes up for years of underfunding and an ill-timed benefit bump in the early 2000’s. The picture is so comforting that one is tempted to ignore the fact that the combined state/school district contribution will rise to 32.57% of payroll next fiscal year—almost $4.4 billion. (That’s right, about $335 for every man, woman, and child in Pennsylvania will be allocated to PSERS next year for the pension fund.)
The real issue, however, is not the cost but the utter inadequacy of the proposed strategy. After all of the reassuring back-patting and rosy projections, the simple fact remains after that eight years of ramped-up funding and a roaring bull market, the PSERS’ fund net asset value (NAV) has remained stagnant while the projected benefit obligation continues to rise.
At the end of the fiscal year in June 2016, the fund had only half of the assets necessary to meet its obligations. If the PSERS fund loses ground on its obligations during a bull market, what’s going to happen in a bear or even a flat market?
Nor will the scheduled funding increases correct the heart of the problem—the PSERS pension fund’s negative cash flow. Even after increasing the annual employer funding from $518 million in FY 2008-09 to over $3.2 billion last year, the PSERS fund still had negative cash flow of over $1.5 billion in FY 2015-16 (including the cash flow from the fund’s investments net of fees.) This deficit will persist despite the 32.57% employer rate in FY 2017-18 and beyond, which means that the PSERS’ fund will have no new money to invest but rather will need to continue to sell assets to meet its benefit payments. The pension fund’s track record since 2000 amply demonstrates the weakness of that approach: bad years like 2007-09 drive down the NAV while good years like 2009-16 merely tread water. Meanwhile, the present value of its future benefit obligations rises steadily each year, leaving the fund further and further behind.
There is simply no getting around the fact that the PSERS’ pension fund is unsustainable in the long run without either a dramatic influx of capital (tens of billions of dollars) and/or a reduction in current and future benefits. Telling ourselves that we can turn the corner by spending an extra billion dollars a year is simple self-deception.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results.
Securities offered through LPL Financial, member FINRA/SIPC. Investment advice offered through Great Valley Advisor Group, a Registered Investment Advisor. Great Valley Advisor Group and Doylestown Wealth Management, Inc. are separate entities from LPL Financial.