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Bang per Buck: Declining returns could cost Kentucky another $168 million in pension assets

By Rae Hodge
NKyTribune Frankfort reporter

When it comes to solving the state’s complex pension problems, debt isn’t the only factor worth considering. State lawmakers were told Monday that among ten states with similar pension investment portfolios, Kentucky ranks 7th in getting its money’s worth.

LRC staff members and former Kentucky Retirement Systems employees Brad Gross and Bo Cracraft revealed their study to the Pension Oversight Board which analyzed Kentucky’s position in several runnings–among 44 states with similar pension plans, 33 pension funds with similar investment expenses, and 10 peer states with similarly allocated investment funds.

Kentucky has 7th lowest return on investments among 10 pension-similar states

Cracraft said the first part of the study was identifying “states trying to take a similar approach in their pension plans, and the second part was: if they are, how are we performing when we compare ourselves to those other plans?” he said.

The 10 peer states–Indiana, Kentucky, Louisiana, Maryland, Massachusetts, New Jersey, Rhode Island, South Carolina, Virginia, and West Virginia–were chosen for the similarities in their investment mixes. But even through this seemingly narrow frame of reference, Kentucky still lingers at the bottom of the list: the state’s investments are returning at a 6.8 percent rate compared with list-topping Louisiana, whose investment spread is paying off at an 8.3 percent rate of return.

Though Kentucky legislators have set a target 10-year return rate of 7.75 percent for their investments, Cracraft cautioned the Board that none of Kentucky’s peer states have consistently met that target, nor have any of the 44 states with similar pension plans.

Citizen Board member Mac Jefferson sees it differently. “I think, given the policy’s asset allocation, that the return is reasonable based on that,” he said.

Measuring investment outlooks at one, three, five, and 10 year forecasts, KRS returns lagged behind other plans at nearly every turn.

Table data collected from LRC Staff study on 44-state employee pension plans)

Table data collected from LRC Staff study on 44-state employee pension plans)

KRS’ particular mix of investments has less investment in U.S. equities than the others, with 10.6 percent in hedge funds, 11.2 percent in private equity, 2.9 percent in real estate, and 9.8 percent real funds.

Cracraft said allocations to hedge funds is a trait shared by the six lowest performers.

“The takeaway here for me and the group of staff,” said Cracraft, “was that when compared to plans we feel are taking a similar approach, while KRS appears to be slightly below, it’s performing in line with the group.”

KRS Chief Executive Officer Bill Thielen noted that while overall December returns showed a continued drop of nearly 1 percent, the portion of Kentucky’s investments in U.S. equities has paid back more than double.

U.S. equities provided a robust 14 percent return in 2014 compared with 8 percent return rates in 2008. This reflects a nationwide trend among state pension investments as foreign stocks drag down returns across the board, said Thielen.

The full funding of the Actuarially Required Contribution is also helping offset asset losses, according to Thielen. Employee contributions are up from last year, and currently at $44 million.

Employer contribution for KERS (non-hazardous) is at $322 million year-to-date, the total exceeding last year. Thielen said this is roughly double the amount of money received in the entire past fiscal year.

But Thielen cautioned the Board: if investment performance continues to stay flat through the second half of the fiscal year, KERS stands to lose $168 million in assets.

Sen. Jimmy Higdon also sits on the pension board. He says the state needs a multi-dimensional approach to solving the pension crisis.

“One of my main concerns is that we have a leaky bucket. But why? Are the benefits too rich?,” Higdon asked. “What are all the factors that we need to change in the retirement system for new hires? We need to be looking at not only requesting money but new solutions to the problem.”

The Board coasted past House Speaker Greg Stumbo’s proposal, House Bill 3, during the meeting. HB3 would allow KRS to bond out $3.3 billion in pension debt. Under his plan, the debt would remain the same, but if bonded, would be locked into a historically low interest rate.

Sen. Joe Bowen, board co-chair, has promised to file Senate Bill 10 next week, which he says would require any saved state funds to be funneled into the ARC fund.

The next meeting of the Public Pension Oversight Board is on Feb. 23.

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