Thursday, September 15, 2016

Great News For Ontario's Teachers?

The Ontario Teachers' Federation put out a press release, Surplus funds will further restore inflation protection for retired teachers:
The Ontario Teachers’ Federation (OTF) and the Ontario Government, joint sponsors of the $171.4 billion Ontario Teachers’ Pension Plan (Teachers’), will use a portion of the $13.2 billion surplus in the Plan (as of January 1, 2016) to partially restore inflation protection for teachers who retired after 2009.

“Conditional inflation protection has proven to be an effective tool for managing Plan deficits and now, for the third year in a row, the sponsors will use some of the surplus to partially restore indexing that pensioners lost in recent years,” said OTF President Mike Foulds. “The remainder of the surplus will be kept in reserve to provide benefit and contribution rate stability against future funding challenges such as low interest rates and increasing longevity, both of which increase the Plan’s liabilities.”

Pensioners who retired after 2009 will receive a one-time increase in January 2017 to restore their pensions to the levels they would have been at, had full inflation protection been provided each year since they retired. They will also receive a slightly higher inflation increase next year for the portion of their pensions earned after 2009. Cost-of-living increases for this portion of pension credit will equal 90% of the annual increase in the Consumer Price Index (CPI), up from the current level of 70%. Pension credits earned before 2010 remain fully inflation-protected.

Pensioners who retired before 2010 are unaffected by these latest changes because pension credits earned before 2010 receive full inflation protection. Working members are also unaffected because annual inflation adjustments are determined after retirement.

Last March, Teachers’ reported its third surplus in a decade. A preliminary funding valuation showed that the Plan was 107% funded at the beginning of 2016, based on current benefits and contribution rates.

About Teachers’

With $171.4 billion in net assets as of December 31, 2015, the Ontario Teachers’ Pension Plan is the largest single-profession pension plan in Canada. An independent organization, it invests the pension fund’s assets and administers the defined benefit pensions of 316,000 active and retired teachers in Ontario.

About OTF

The Ontario Teachers’ Federation is the advocate for the teaching profession in Ontario and for its 160,000 teachers. OTF members are full-time, part-time and occasional teachers in all publicly funded schools in the province – elementary, secondary, public, Catholic and francophone.
On Monday, I went over a recent conversation with HOOPP's Jim Keohane where we discussed markets and I brought up an article he had written with Hugh O'Reilly, President and CEO of OPTrust, which discusses funded status as a better measure of a pension fund’s success.

In that comment,  I stated the following:
No doubt, you need to pay your investment officers properly, especially in private markets like private equity, real estate, and infrastructure which require unique skills sets, but the message that Jim Keohane and Hugh O'Reilly are conveying is equally important, pensions need to focus first and foremost on their funded status, not taking huge risks to beat their policy portfolio benchmark.

The nuance here is that you can't blindly compare the performance of one pension plan to another without first understanding how their liabilities are determined and what their funded status is.

For example, Ontario Teachers and HOOPP are widely regarded as two of the best pension plans in Canada, if not the world. They both use extremely low discount rates (HOOPP's is 5.3% and Teachers' is just below 5% because it's a more mature plan and its members are older) to determine their liabilities, especially relative to US pensions which use expected returns of 7% or 8% to determine their liabilities (if US pensions used the discount rate HOOPP and Ontario Teachers use, they'd be insolvent).

In 2015, Ontario Teachers returned 13% as growth in its private market assets really kicked in while HOOPP which is more heavily weighted in fixed income than all of its larger Canadian peers only gained 5.1% last year.

A novice might look at the huge outperformance of Ontario Teachers as proof that it's a better managed plan than HOOPP but this is committing a fatal error, looking first at performance, ignoring the funded status.

Well, it turns out that HOOPP’s funded position improved last year as it stood at 122%, compared to 115% in 2014, placing it in the top position of DB plans when you use funded status as the only real measure of success (less contribution risk relative to other DB plans). And unlike others, HOOPP manages almost all its assets internally and has the lowest operating costs in the pension industry (it's 30 basis points).

Now, to be fair, Ontario Teachers' is a much larger pension plan and it too is now fully funded and does a lot of the things HOOPP does in terms of internal absolute return arbitrage strategies and using leverage wisely to juice its returns, but the point I'm making is if you're looking at the health of a plan, you should focus on funded status, not just performance.

Yes, the two go hand in hand as a pension that consistently underperforms its benchmark will also experience big deficits but it's not true that a pension plan that consistently outperforms its benchmark will enjoy fully or super-funded status.

Why? Because as I keep hammering on my blog, pensions are all about managing assets AND liabilities. If you're only looking at the asset side of the balance sheet without understanding what's driving liabilities, your plan runs the risk of being underfunded no matter how well it performs.

Now, to be fair, I should also point out that unlike Ontario Teachers and HOOPP, most of Canada's large pension funds (like bcIMC, the Caisse, CPPIB and PSP) are NOT pension plans managing assets and liabilities. They are pension funds managing assets to beat their actuarial target rate of return which is set by their stakeholders who know their liabilities.

Also, unlike many other pension plans, HOOPP, Ontario Teachers and a few other Ontario pensions (like OPTrust and CAAT) have adopted a risk-sharing model which basically states the members and the plan sponsor share the risk of the plan if a deficit occurs. This effectively means that when a deficit persists, members can face a hike in contributions or a reduction in benefits.
In a follow-up comment going over the executive shakeup at CPPIB, I clarified something:
I also want to stress something else, when I compare Ontario Teachers' to HOOPP, it's not to claim one is way better than the other. Both of these pension plans are regarded as the best plans in the world so comparing them is like comparing Wayne Gretzky to Mario Lemieux. They also have some key differences in size and maturity of their plans which makes a direct comparison difficult, if not impossible.

The point I'm trying to make, however, is anyone looking to be part of a great defined-benefit plan would love to be a member of HOOPP or Ontario Teachers and I don't blame them.

As far as CPPIB, I trust Mark Wiseman's judgment which is why I trust that Mark Machin and his new senior executives are all more than qualified to take over and deliver on the fund's long term objectives during the next phase which will be far more challenging in a ZIRP and NIRP world.

So the next time you hear some reporter lament about a big shakeup at CPPIB, please refer them to this comment and tell them to relax and stop spreading misleading information.
Ever notice how reporters love reporting BAD news? I guess it sells more newspapers but it's equally important to report GOOD news.

And this latest decision to use a portion of the surplus funds to restore inflation protection for Ontario teachers who retired after 2009 is great news.

When I went over Ontario Teachers' 2015 results, I actually spoke to Ron Mock, Teachers' CEO, about what they are going to do with surplus funds.

I told him it's best to save the surplus for a rainy day. He agreed but he also told me that this decision is up the Ontario Teachers’ Federation and Ontario's government and that OTPP can only make recommendations.

I guess everyone got a little something in this decision and they wisely only used a portion of the surplus (what percentage is confidential) to restore inflation protection to teachers who retired after 2009.

Of course, to even contemplate restoring inflation protection, pension plans need a surplus to begin with, and most pension plans are struggling with deficits and can only dream of achieving the funded status of an Ontario Teachers or a HOOPP.

This decision also highlights something else I've been discussing, the importance of implementing a shared-risk model so beneficiaries and plans sponsors equally share the contribution risk of the plan if a deficit occurs and enjoy benefits (like lower contribution rate or full inflation protection) when the plan has a surplus.

It's not rocket science folks. You need good governance, a shared-risk model, an independent and qualified board overseeing qualified investment officers who can deliver outstanding results over the long term and get compensated properly for delivering these stellar returns.

This is why I firmly believe the solution to any retirement crisis centers around large, well-governed defined-benefit plans. If you aren't convinced, just look at the success of HOOPP and Ontario Teachers' Pension Plan. The proof is in the pudding, it's right there staring all of us in the face.

Ontario's teachers and healthcare workers are very lucky to have their retirement managed by world class pension plans. Unfortunately, too many Canadians don't have this luxury and fall through the cracks after they retire with little or no savings.

This is why I kept pounding the table to enhance the CPP so more Canadians can retire in dignity and security but a lot more needs to be done.

I'll give you some examples. Some people don't contribute directly to the Canada Pension Plan and if they manage to save for retirement, they can only opt for mutual funds that can only invest in public markets and charge huge fees. Why shouldn't they be able to invest their hard earned savings in the CPP so their retirement can be managed by the CPPIB which invests directly in public and private markets all over the world?

What else? The Registered Disability Savings Plan (RDSP) is a Canada-wide registered matched savings plan specific for people with disabilities. It's a fantastic plan for people with disabilities and parents who care for children with disabilities. Again, why not offer these people the chance to invest in the CPP so their disability savings can be managed by the CPPIB?

[Note: Of course, the financial services industry wouldn't be to happy competing with CPPIB or any of Canada's large, well governed pensions.]

In my last comment going over the 2016 Delivering Alpha conference,  I stated the following:
What are long-term investors like pensions suppose to do? Well, they can read the wise insights of Jim Keohane, Leo de Bever and others on my blog but I have to tell you, there's no magic bullet in a low growth environment where ultra low and negative rates are here to stay.

I've long warned all investors to prepare for lower returns and think it's going to get harder and harder for large hedge funds and private equity funds to deliver alpha in a ZIRP and NIRP world.

In this environment, I believe large, well-governed defined-benefit pensions with a long-term focus have a structural advantage over traditional and alternative active managers who are pressured to deliver returns on a short-term basis.
So, if you're retirement savings are being managed by a HOOPP, OTPP, CPPIB, Caisse, PSP, OMERS, bcIMC, AIMCo, OPTrust, and other large, well-governed pensions, you're very lucky. For the rest of you, try to save a nickel for retirement and prepare for pension poverty.

Below, an older CNBC interview with Ron Mock, right after Teachers' reported its 2015 results in April. If you want to understand Teachers' or HOOPP's success, look at their leaders and employees, they're on another level and the members of these plans are very lucky to have them there.

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