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Wednesday, December 9, 2015

The 11 most terrifying words: We're from PSPRS and we're here to help with pension reform

The PSPRS Board of Trustees meeting was cancelled for December 2015.  This is disappointing since I was interested to see how PSPRS' investments did during October when the the Russell 3000 returned a whopping 7.90%.  We will now have to wait until January 2016 to find out.  However, there was another meeting today at PSPRS, but this body was something new called the Pension Reform Work Group Committee ("the Committee").  I unfortunately missed the beginning of the meeting so I am not sure who is on this committee, but it appears that at least some of the Trustees, including Chairman Brian Tobin are part of it.  The webinar lasted approximately 90 minutes.

I missed about the first ten minutes of the webinar, but it appears that the prepared portion, which had several Powerpoint slides, was just an introduction with a condensed lesson about PSPRS' recent history.  It was, as most public statements that emanate from the PSPRS bunker, a self-serving display with finger-pointing at past Trustees and administrations for PSPRS' current problems and self-congratulations about their own perceived progress/success.

While most of the prepared portion of the meeting covered areas most of us are already well aware, there were two interesting things said in that portion.  The first was a statement by the Committee that, up until 2011, PSPRS had been neutral when it came to the laws governing PSPRS.  They just followed whatever was mandated by the Arizona Legislature and did not make value judgments on any law.  According to the Committee, this changed in 2011 when PSPRS became more proactive and presented several proposals that influenced the writing of SB 1609.  Obviously, there are problems with this since PSPRS has a fiduciary duty to it members.  This is why the neutral position is the normal default for an organization like PSPRS.  Otherwise, it will be forced to pick sides among the different groups it serves.  This is the heart of this March 20, 2014 claim against PSPRS by retired judge Kenneth Fields.  It includes this passage:
     In its brief to the Arizona Supreme Court, the EORP stated: "EORP and the members of the PSPRS Board of Trustees, which administers the plan . . . are essentially neutral stakeholders standing between the legislature and the EORP member."  EORP Appellants' opening brief at page 2.
      Contrary to it fiduciary duties of loyalty and to avoid conflict of interests with its plan members and plan beneficiaries, and contrary to the statements made by the EORP Trustees that they were actually neutral in the Fields litigation, in truth and in fact the EORP Board of Trustees and individual Trustees consistently and aggressively took positions in the Fields case contrary to the interests of its retiree beneficiaries.  Upon information and belief, based upon the litigation pleadings in the case, the Board of Trustees and Trustees worked closely with the State of Arizona to provide a unified litigation strategy against the EORP beneficiaries.
     In truth and in fact, in every instance in the Fields case, in every pleading and filing, the EORP Board of Trustees and Trustees took positions opposing beneficiaries, argued against the beneficiaries, and acted as lead adversary counsel in the case both in briefing in the trial and the appellate courts, and in oral argument and trial before the Supreme Court.
      The EORP Board of Trustees and individual Trustees never advocated a single position that favored its own beneficiaries.  The EORP Trustees admitted as much in their opening brief to the Supreme Court: "But while the EORP Defendants do not opine on the ultimate result . . . . the EORP defendants seek to provide the Court with the facts, legal precedent and analytical tools that it will need to decide the issure presented."  EORP Appellants' opening brief at page 3.  The Trustees then argued in their brief for the Supreme Court to reverse the decision of the trial court and opposed every position taken by the beneficiaries.
 As Trustees, a "neutral" position would have been just that, to take no position with respect to the lawsuit.  The Board of Trustees and the Trustees never took a neutral position on any issue of fact or law in the Fields case.
 In another pending case before the Superior Court, involving active members of the EORP, the Board of Trustees and Trustees are undertaking similar tactics.  The fiduciary breaches in the Fields case are continuing in other parallel litigation.
At the time of this claim, I was under the impression that PSPRS was just defending the legal requirements foisted upon it by the Arizona Legislature.  Now it seems that SB 1609 was legislation PSPRS had a hand in initiating and crafting, knowing full well that it would negatively impact it own beneficiaries.
Of course, the proactive PSPRS is the image the Committee wants to portray now that more pension reform legislation is coming.  Reform is in the air, and PSPRS must want to look like they were there from the beginning.  However, contrast the supposedly proactive PSPRS to the one presented in the September 2015 Performance Audit and Sunset Review by the Arizona Auditor General.  This passage from the audit is very revealing:
. . . the System’s actuary had not been factoring in the cost of future benefit increases until recently. Specifically, according to the System, a 2007 audit of the System’s actuary found that it had not incorporated benefit increases when determining contribution rates,
which resulted in underestimated and thus unfunded liabilities.  Despite this 2007
audit finding, the System’s actuary did not begin including the costs of expected future benefit increases when determining contribution rates until fiscal year 2014. The System indicated that it believed Laws 2011, Ch. 357, would address these issues and make benefit increases unlikely in the future. However, given the Fields decision, starting in fiscal year 2014, the plans’ actuarial valuations reflect expected future benefit increases and has two different assumptions, one for members retired on or before July 1, 2011, and one for those retiring after that date. (boldface mine)
The first problem here is that no one in PSPRS' administration noticed that their actuary was not accounting for permanent benefit increases (PBI's), now identified as the single biggest driver of PSPRS' unfunded liability, but even if we put that aside, why did PSPRS wait four years until 2011 to address this problem?  Where was the proactive PSPRS when it could deal with a problem that was within its own purview?  We can all make our own guesses why, but being able to blame a financial crisis rather than their own poor oversight and management might have something to do with it.  So years of failing to even notice they had problem was followed by four more years of inaction, which was then followed by a lobbying effort to legislate a solution to a problem they caused.

The other interesting statement during the prepared portion of the Committee meeting was a comment from another Committee member about the reduction of PSPRS' rate of return.  This Committee member essentially stated that the reduction of the expected rate of return (ERR) was a natural process based on the actuarial data gleaned from past experience.  This is a rather misleading proposition when we understand that PSPRS controls its own investment portfolio.  PSPRS will certainly have to reduce their ERR if they invest in a manner that limits their returns to no more than 9%, as Chief Investment Officer Ryan Parham has publicly said PSPRS is "incentivized" to do.  As they continually underperform the 9% threshold, whether deliberately to avoid paying PBI's as Mr. Parham implies or just because their strategy is bad and could never reach 9% anyway as it appears more likely, they will have to reduce their ERR to match the reality they have created.  This is not some condition like mortality rates over which PSPRS has no control, but a situation they are producing with their investment policies.

Now if PSPRS feels like it needs a lower ERR in order to achieve a safe and steady return, that is fine.  They should just be honest and say so, tell us what they want the ERR to be, and detail their plan to reach that goal.  They should also be honest and say that they have worked externally and internally to create an environment where PSPRS will not have to pay PBI's.  I would consider this another breach of fiduciary duty, as well as a veiled form of extortion in which retirees can choose whatever new, lowered PBI formulation that is developed in the next year or subject themselves to the tender mercies of the PSPRS administration and Board of Trustees, who seem intent on doing whatever is in their power to avoid paying PBI's.

After the prepared portion was over their were questions and comments from the audience.  These were from some labor representatives of law enforcement and another man who represented judges.  A lawyer, who I believe is representing PSPRS in the Hall case, also spoke.  During the discussion with the labor representative, it was brought up that there should be some preliminary pension reform ideas coming from the Arizona Legislature around December 17 or 18, 2015.  This appears to be when the study group headed by State Senator Debbie Lesko will release something to build on in the upcoming legislative session.  A present for all of us just in time for the holidays.

The lawyer was asked if he had a timeline for when a final decision in the Hall case will be announced.  He stated that he could not give an exact time, but he expected it to be in late spring or early summer 2016 and that the decision should be faster than a normal Supreme Court case since this is the only case the five judges will have and they understand its urgency.  He stated that this was only the second time that the Arizona Supreme Court has recused itself from a case.  The panel will be made up of two appellate judges and three superior court judges; the two appellate judges were the only two appellate judges in the entire state that were not serving when SB 1609 went into effect and both have criminal law backgrounds.  Arguments before the panel will be made February 18, 2016.

Happy holidays and stay tuned.

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