Public Pension Plans Funding Grows in 2018, Assumed Return Rates Dip

Contributions remain stable, as funds face possible economic slowdown ahead.

The average public pension plan did two things in 2018: produce strong investment returns, and lower its assumed rate of return.

Retirement funding levels rose to 72.6% in 2018 from 71.4% the year before, according to the National Conference on Public Employee Retirement Systems’ latest study. One-year returns averaged 13.4%, almost double the 2017 report’s 7.8%. Five- and 10-year returns were also stronger at 9% and 6%, from 8.4% and 5.5%. The 20-year averaged 7.2%, slightly down from 2017’s 7.4%.

Plans also cut their assumption rates, declining to 7.34%, from 7.49%. Of the 167 state and local government defined benefit plans that participated in the study, 65% had lowered their assumptions, and 18% were considering doing so.

Aside from  lower economic growth expectations in 2019 and 2020, the rates are being lowered as funds adapt to the political and demographic landscape—such the Federal Reserve’s rate increases, Brexit, and the US-China trade dispute.

“In terms of why plans are ratcheting down and becoming more conservative in their assumptions, it’s really understanding and recognizing what the environment is,” Hank Kim, NCPERS’ executive director and chief counsel, told CIO.  “People are looking at the overall economic conditions, looking at the universe of investment options, and making assumptions on what the near-term returns might look like.”

Plan sponsor contributions were stable, which also helped  funding levels. While there were no increases in contributions for the participating plans, employer contributions were 22% of their revenue. However, employer contribution rates dropped a bit to 20% of payroll, from 21% in 2017.

The other 78% of the money came from member contributions (9%) and investment earnings (69%).

“The fact that plan sponsors are making their required contributions certainly helps with the long-term sustainability,” said Kim. “As for the immediate increase…that is largely driven by the great market that we experienced in 2018.”

Speaking of earnings, the largest came from equities and alternatives. Equities were led by international and domestic stocks (18.9% and 18.2%) as global equity tagged along (14%). As for alts, which included private equity and hedge funds, the space reaped 12.9% for the surveyed pension funds.

Real estate and other assets pulled their weight at 6.8% and 6.2% and various fixed income investments (3.8% international, 3.3% global, and 2.6% domestic) trailed after high-yield bonds’ 5.3% showing. Commodities and cash were also among the lowest-performing assets, returning a mere 3.5% and 1.4%.

As for the allocations, the participating pensions’ 2018 asset mix was largely equities (31.6% domestic, 26.2% global, 19.7% international), and fixed income (17.4% domestic, 14.6% global, 6.2% international).

Alternatives were 12.5% of portfolios. Real estate holdings were 9.4%. The rest was shared between other assets (8.7%) high-yield bonds (7.4%), commodities, (4.5%) and cash (2.4%).,

Market assets of the 167 surveyed plans exceeded $2.6 trillion.

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