Market forces pushing actual return this year below 3%, far under 7.75% target
TOPEKA — Trustees of the Kansas Public Employee Retirement System deferred Friday until at least next month a decision about lowering the assumed rate of return on pension investments below the current 7.75% target and dramatically inflating the system’s unfunded liability.
Action by the KPERS board in response to soured market conditions would have practical implications in terms of dealing with the system’s long-term liability as well as political ramifications from state legislators opposed to the adjustment.
Kansas Senate President Ty Masterson and Senate budget chairman Rick Billinger, both Republicans, advised trustees they weren’t “convinced about the wisdom” of plans to trim the baseline investment assumption. They argued a reduction of 0.25% would deepen the system’s unfunded liability by $600 million.
“We hope that you will be dissuaded from lowering the investment return assumption any further or to present a comprehensive and compelling plan as to why this is deemed as a necessity, let alone a best practice,” the letter said.
The Kansas House, but not the Kansas Senate, has approved a bill injecting $1.125 billion of the state’s surplus tax revenue into KPERS. That cash would cover $253 million in deferred state payments to the pension system and make four installment contributions to the system equaling $871 million. Fate of that bill will be decided after the Legislature returns Monday to the Capitol in Topeka.
“It has been implied the $1 billion-plus dollars that has been passed by the House and in the Senate might be under some danger,” said trustee Ernie Claudel, a retired educator from Olathe. “I would favor waiting to see how this all turns out for a year.”
In 2017, the rate of return on KPERS was lowered by trustees from 8% to 7.75%. The actual return on KPERS’ portfolio has averaged 7.8% over the past 25 years, but diminished market performance since December could push the system’s annual return below 3% by June.
The pension system’s consultants recommended KPERS trustees shrink the annual projection of return on investment to 6.75%.
There appears to be general consensus 0n the board of trustees that the 7.75% was too optimistic. Several trustees referred during the discussion to their fiduciary obligations to diligently protect interests of the pension and its beneficiaries, even if that meant irritating members of the Legislature.
“There’s a lot of people out there saying this is way too high,” said trustee Ryan Trader, a firefighter and paramedic on the Olathe Fire Department.
There is pressure to make a decision at the board’s May meeting, despite lingering disagreement among trustees about whether reduction ought to occur all at once or through a stair-step process that could be modified in future years. Trustees will have benefit next month of more information about ramifications of return-on-investment rate cuts to 7.5%, 7.25% and 7%.
Trustee Brad Stratton, an appointee of Gov. Laura Kelly and president of Overland Park Wealth Management, said he was convinced the 7.75% rate was a “false premise.” He tested that theory by asking executives of major investment firms their sense of whether KPERS’ anticipated level of return could be reached.
“I got the same look from all of them. They said, ‘I don’t see it.’ To me, that continues to reconfirm that 7.75 is a high benchmark,” Stratton said. “We also know that compared to our peers around the country, I think we are at the very top if not near the top. That also speaks to what the prognosticators are saying for what the capital markets can provide for long-term investment results moving forward.”
KPERS has approximately $20 billion in assets and an unfunded actuarial liability of about $5 billion. It delivers retirement, disability and survivor benefits to its members and their beneficiaries. Membership of the system includes city, county, school and state workers. There are more than 315,000 active, inactive and retired members of KPERS.
Trustee Emily Hill, a partner in Bowersock Capital Partners and another appointee of Kelly, said the board shouldn’t kick this decision down the road. She said a gradual reduction of the rate over time would be an acceptable compromise between doing nothing and a one-step drop.
“I have seen no set of capital market assumptions that would anticipate a return as high as what we have now,” Hill said. “We are fiduciaries and we need to look out for the best interests of the system.”
Attorney James Zakoura, chairman of the board, and retired banker Ron Johnson, vice chairman of the board, said they preferred a change in the return on investment be delayed until late 2022 or early 2023. Extraordinary investments in KPERS by the Legislature, including $500 million last year from the sale of bonds, and potential passage of a bill containing $1.125 billion for KPERS ought to be recognized, Zakoura said.
“I don’t believe that it’s appropriate to make a change for the current fiscal year,” Zakoura said. “I simply see a lot of volatility, a lot of volatility in the market, and unpredictability.”
Johnson said the KPERS board ought to conduct an educational process for legislators and the public to explain reasons the rate of return needed to be adjusted and to outline implications of that change.
Kansas Reflector is part of States Newsroom, a network of news bureaus supported by grants and a coalition of donors as a 501c(3) public charity. Kansas Reflector maintains editorial independence. Contact Editor Sherman Smith for questions: info@kansasreflector.com. Follow Kansas Reflector on Facebook and Twitter.
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