Not-so-simple math

July 15, 2013 admin

7-15 WC FieldsWhen asked what he did with his money, W.C. Fields, a popular comedian and actor during the first half of the 20th century, deadpanned, “I spent half my money on gambling, alcohol and wild women. The other half I wasted.”

Fields obviously could have used some advice from a qualified investment consultant. But at least he didn’t have to worry about alpha, beta, interest rates, asset allocation, portfolio diversification, risk/reward tradeoffs and inflation. And I’m sure he slept a lot better than public pension fund CIOs and state treasurers, who are faced with funding current and future liabilities in a low-interest rate environment while weighing various market and political risks.

Public pension funds, most of which are moderately to significantly underfunded, need to stretch to meet their assumed actuarial rates of return — often in the neighborhood of 7 percent plus — which typically means taking on more investment risk.

North Carolina state treasurer Janet Cowell has seen the writing on the wall. Cowell has urged state lawmakers to give the state pension fund more flexibility to increase its investments in higher yielding (also more risky) alternative assets such as real estate, hedge funds, commodities and asset-backed securities. As Cowell puts it, the new flexibility won’t guarantee the state can meet its return objectives, but “we’d have a fighting chance.”

The measure would allow the pension system to move away from publicly traded stocks and bonds and invest up to 40 percent of the state’s pension monies into alternative investments. Currently the limit is 36 percent. The North Carolina Senate approved the measure in May, but it is now stalled in the House, as some legislators question the wisdom of taking on additional risk.

Of course, Cowell is not alone. The million dollar question for all public pension fund executives is: How do we get there (fully funded) from here (underfunded)? Researchers project low yields for many asset classes in the coming years, including negative or minimal real returns for bonds. The anticipated slow economic growth and low yields present a quandary for investors.

Cowell noted in an interview that the effort to stabilize the pension is a “math problem, not a political problem.”

If only it were that simple.

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LarryFinalwebv2Larry Gray is editorial director of Institutional Real Estate, Inc.

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