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Pensions Have Shifted To Riskier Investments, Ratings Agency Finds

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Connecting state and local government leaders

But the new report says that this trend isn’t necessarily producing stronger returns.

State and local government pension funds have shifted their money into riskier assets during the past two decades, but it’s questionable how much this is helping the retirement systems improve their balance sheets, based on a new report from Fitch Ratings.

The research surveys 180 state and local pension systems in all 50 states.

It finds that between 2001 and 2017 the average share of investments allocated in equities, like stocks, and “alternative” investments, a category that includes things like private equity, hedge funds, real estate and commodities, increased to 77%, from 67%.

The rise is largely due to an increase in the allocation of pension dollars in alternatives—this percentage grew to 27% from 9%.

At the same time, the average portion of pension funds parked in less risky investments, such as cash and fixed income securities, like bonds, declined to 23% from 33%.

But the report notes that “the shift away from lower-risk allocations has not necessarily produced stronger returns.”

During the decade at the end of the 17-year period the analysts looked at, median average investment returns were 6.2%, compared to 6.4% for the entire span of time the report examines. In other words, returns weren’t up for a period when assets had become riskier.

Equities and alternatives tend to be more susceptible to ups and downs in markets and the economy than fixed income and cash investments, the report points out. But it also highlights that interest earnings on safer investments have been very low in recent years.

Looking at weighted averages to combine data across major public pension systems in each state, Fitch analysts found that actual investment returns failed to meet targets between 2001 and 2017 in every U.S. state but one.

The exception here was South Dakota, the state with the lowest allocation of equity and alternative investments within its pension portfolio in 2017, according to the report.

During the 17-year timeframe, unfunded liabilities, a measure of the gap between a pension system’s assets and what it will owe to retirees in future years, increased to $1.2 trillion in 2017, from $33 billion in 2001 for the pension funds that the Fitch analysts looked at.

But their report notes that the health of pension funds varies.

About 20 percent of the state and local plans, it says, were funded at a level of 80% or higher, while about 35% were below 70%.

The share of plans less than 70 percent funded was generally around 20 percent or lower between 2001 and the recession’s onset in 2008, but has remained higher in the years since.

A significant round of losses for pension funds, particularly during an economic downturn, the report warns, “could drive up actuarial contributions even further and erode the long-term affordability of providing pensions to state and local government employees.”

Bill Lucia is a Senior Reporter for Route Fifty and is based in Olympia, Washington.

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