Ed Mendel
February 27, 2017

Despite a low funding level little changed since massive investment losses nearly a decade go, CalPERS is focusing on avoiding another big loss, not risky attempts to maximize investment earnings.

A shift from stocks and growth investments in September to lower the risk of losses had reduced CalPERS gains by $900 million, the CalPERS board was told on Feb. 13. The post-election market surge has continued since then, increasing the Dow blue-chip average Friday for the 11th day in a row.

CalPERS also sped up its “risk mitigation” policy this month, lowering the trigger for tiny cuts of .05 to .25 percent in the earnings forecast used to discount future pension obligations. Now cuts will occur when annual earnings are 2 percent above the forecast, not 4 percent.

Reflecting a major change of outlook, CalPERS lowered its discount rate from 7.5 percent to 7 percent in December, causing a large increase in employer rates to help fill the projected gap created by a lower investment earnings forecast.

The lower discount rate will be phased in over three years, easing the strain on local government budgets from the fourth CalPERS employer rate increase since 2012. The risk mitigation policy was delayed until fiscal 2020, when the discount rate phase-in is complete.

The policy could gradually lower the discount rate by 1 percentage point over several decades. Whether even the smallest incremental rate decrease, .05 percent, would be enough to cause an employer rate increase is “unique to each individual employer,” Scott Terando, CalPERS chief actuary, told the board.

The lower discount rate adopted in December was mainly a response to Wilshire consultants’ view that CalPERS investments were likely to earn 6.2 percent during the next decade, before rebounding to 7.8 percent in the following two decades.

Critics contend that CalPERS and other public pensions have overly optimistic earnings forecasts that conceal massive debt, avoid needed contribution increases, and encourage risky higher-yielding investments that increase the chances of big losses.

The shift to investments with less risk of loss adopted by the California Public Employees Retirement System in September dropped the earnings forecast to 5.8 percent. It looks like a rare attempt at market timing by an extremely long-term investor.

The new short-term investment allocation is intended to remain in place only until CalPERS completes its usual lengthy review, done every four years, and adopts a new allocation next February, taking effect in July 2018.

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