North Carolina's Pension Woes?

Chris Butera of Chief Investment Officer reports, More Trials Ahead for North Carolina Pension Fund:

Despite State Treasurer Dale Folwell’s agency slashing millions in outside management fees, North Carolina’s $96 billion pension fund is going to need to do more to remain solvent and satisfy retirements of its nearly 1 million state employees.

While Folwell delivered on his campaign promise to make heavy cuts on the fees to the tune of $600 million, drawing some praise from his peers, he faced some criticism for his decision to transfer funds to low-earning, short-term accounts. WRAL.com reports that critics argue that while safe, keeping the transfer funds in savings accounts cost the pensions “tens of millions” in earnings during this year’s market growth.

However, despite these cuts and the fund being commonly referred to as one of the best-funded in the country, as per WRAL, it must still pay out $6 billion per year.

In addition, state government and employees only pay in roughly half of what the fund pays out, and there is no minimum retirement age. Of the state citizens receiving pension checks, the latest statistics show that nearly 100,000 are under age 65, while roughly 7,000 are age 90 and above.

“Fees have gone up, payouts have gone up, life expectancy has gone up, and interest rates have gone down,” Folwell told WRAL. “That’s what I inherited.”

As life expectancy increases, a possible solution debated to prevent the potential insolvency is raising the retirement age. While some see it as a logical step, others argue that it does nothing for public workers, as investment managers are the only ones benefitting.

“As age goes up, the working life should go up as well, I would think,” CPA and financial advisor Ron Elmer, a former Democratic candidate for treasurer, told WRAL.

“It might sound good. It might even be well-intentioned, but it’s not going to solve any problems,” Ardis Watkins, director of government relations for the State Employees Association of North Carolina, told WRAL. “The only thing that solves problems is to stop giving huge amounts of money away in multiple levels of fees to investment managers.”

Folwell was unable to provide comment.

It's been over three years since Edward Siedle uncovered North Carolina pension's secretive alternatives gamble, and now the chickens have come home to roost.

There definitely should be a minimum retirement age, but that's not enough. They need to improve the governance to hire qualified staff to bring more assets internally and do a lot more co-investments in private equity to lower overall fees.

Folwell is right: “Fees have gone up, payouts have gone up, life expectancy has gone up, and interest rates have gone down. That’s what I inherited.”

And yet, if you ask NCPERS, everything is fine at US public pensions, no need to dismantle them. Maybe not but Malcolm Hamilton, a retired actuary and astute reader of my blog, shared this with me after reading my last comment (added emphasis is mine):

The NCPERS analysis is somewhere between embarrassing and incompetent. The findings are true but largely irrelevant.

A pension plan that is 50% funded may have enough money to pay pensions for 10 years while simultaneously declaring a contribution holiday. This doesn't prove that the plan is in good shape. It is basically living on borrowed time. After 10 years there will be no money in the pension fund. At that point the plan can still be sustained by raising contribution rates to the "pay as you go" level, which would typically be around 40% of pay for a mature public sector DB plan. The plan can be sustained, but will anyone want to sustain it at that price?

The CPP (Canada Pension Plan) is a good example of the consequences of low funding levels. The CPP is currently about 20% funded - but the 20% is slowly trending up, not down as is the case for many badly funded U.S. public sector pension plans. The CPP can be sustained for a very long time as long as we are willing to pay the 9.9% contribution rate. Canadians don't notice that the CPP is expensive because they are accustomed to paying 9.9% for a benefit that would cost 5% to 6% if the CPP was fully funded. According to the CPP actuarial report, the pension fund needs to earn a 4% real return in order to give future members a 2% real return on their contributions. If the CPP was fully funded, members would earn the same rate of return as the pension fund.

Badly funded pension plans are not a good thing. They may be sustainable - but only at a price. People may be prepared to pay the price but the plan will not do a good job for whoever ends up footing the bill (members or taxpayers).

I think it's important to point out that North Carolina's pension woes aren't something new. Like so many other US public pensions, they have been festering for a long time, a by-product of lousy governance and a failed pension model.

Below, North Carolina State Treasurer Dale Folwell takes aim at fees paid for management of state pension fund. Fees are only part of the problem here, a lot more needs to be done to shore up this plan.