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Was it constitutional for Proposition 124 to replace PSPRS' permanent benefit increases with a capped 2% COLA?

In this blog I and multiple commenters have broached the subject of the suspect constitutionality of PSPRS' replacement of the old perma...

Sunday, September 2, 2018

PSPRS investment returns through June 2018 with a few other matters covered as well

The following table shows PSPRS' investment returns, gross of fees*, versus the Russell 3000 through June 2018, the last month of fiscal year (FY) 2018, with the past four FY end returns included for comparison:

Report PSPRS PSPRS Russell 3000 Russell 3000
Date Month End Fiscal YTD Month End Fiscal YTD
6/30/2014 0.78% 13.82% 2.51% 25.22%
6/30/2015 -0.73% 4.21% -1.67% 7.29%
6/30/2016 -0.32% 1.06% 0.21% 2.14%
6/30/2017 0.22% 12.48% 0.90% 18.51%

7/31/2017 0.83% 0.83% 1.89% 1.89%
8/31/2017 1.06% 1.91% 0.19% 2.08%
9/30/2017 0.80% 2.72% 2.44% 4.57%
10/31/2017 0.64% 3.38% 2.18% 6.85%
11/30/2017 1.28% 4.70% 3.04% 10.10%
12/31/2017 0.66% 5.39% 1.00% 11.20%
1/31/2018 2.35% 7.86% 5.27% 17.06%
2/28/2018 -1.37% 6.38% -3.69% 12.74%
3/31/2018 0.65% 7.07% -2.01% 10.48%
4/30/2018 0.49% 7.59% 0.38% 10.90%
5/31/2018 0.82% 8.47% 2.82% 14.03%
6/30/2018 -0.66% 7.76% 0.66% 14.78%

There is usually about a two-month lag in PSPRS reporting its investment returns.

FY 2018 Earnings

So after a bit of a hiatus here, we can once again discuss PSPRS' investment returns and a few other matters.  PSPRS once again significantly lagged the Russell 3000.  For FY 2018 PSPRS earned only 52.50% of the Russell 3000.  PSPRS has been amazingly consistent in this regard.  During the past five fiscal years, PSPRS has earned 54.80%, 57.75%, 49.53%, 67.42, and 52.50% of the Russell 3000.  With the exception of FY 2017, the other four years all fell within about a pretty close eight percentage point range.  If we can expect PSPRS to capture only 50-60% of the Russell 3000 each year, the Russell 3000 will have to range between 12.17% and 14.60% in order for PSPRS to just earn its recently reduced expected rate of return (ERR) of 7.30%.  The following table shows even more of the consistent 50-60% capture rate:

Time Period Captured
FY 2014 54.80%
FY 2015 57.75%
FY 2016 49.53%
FY 2017 67.42%
FY 2018 52.50%
3-Year Annualized 60.45%
5-Year Annualized 58.39%
10-Year Annualized 58.46%

The 7.76% FY 2018 is gross of fees.  Net of fees, PSPRS likely earned only about 7.25%, in FY 2018, as PSPRS earnings are reduced about a half-percent after investment fees are subtracted.  This return falls short of PSPRS' FY 2018 ERR of 7.40%.  The final FY earnings rate, net of fees, is reported in September.

So how did PSPRS do versus the Arizona State Retirement System (ASRS) and PSPRS' own Cancer Insurance Plan (CIP) in FY 2018?  ASRS earned 9.50% and the CIP earned 6.72% in FY 2018.  ASRS earned 2.25% more on its assets than PSPRS.  The CIP, a simple fund consisting of 50% equity, 45% bonds, and 5% gold, made about a half-percent less than PSPRS.  PSPRS' assets at the end of FY 2017 were $9.3 billion.  An additional 2.25% on $9.3 billion would have earned PSPRS an additional $209 million in FY 2018.

Chief Investment Officer (CIO) Ryan Parham retires

The lackluster investment numbers for FY 2018 are a fitting coda to Mr. Parham's unimpressive career at PSPRS.  According to this database published by ABC 15 in November 2017, Mr. Parham was the second-highest, non-university system employee in the state of Arizona.  Among non-university system employees, his $268,000 annual salary is exceeded only by that of ASRS Director Paul Matson, who earned $285,000.   What is even more bizarre is that Mr. Parham earned over $66,000 a year more than ASRS' CIO Karl Polen, despite ASRS much better earnings history.

PSPRS Board of Trustees Chairman Brian Tobin had this to say about Mr. Parham:
Ryan Parham’s accolades and results in a fiercely difficult marketplace tell a clear story: He has been one of the best in the business for more than a decade,” said Tobin. “Even with Ryan gone, the new path he’s helped set and the changes in law that needed to occur have the system well-positioned moving forward. PSPRS has positive momentum. And we’ve never been more committed to serving our members and our fellow taxpayers. Ryan and his team worked exceedingly hard for years to help make that the truth.
Heckuva job, Hammy!  I suppose for Mr. Tobin, who will soon receive an $817,000 Deferred  Retirement Option Plan (DROP) and a $134,000 annual retirement benefit, life looks great, and maybe that is why he would consider Mr. Parham "one of the best in the business."  Personally, Mr. Tobin is going to make out extremely well.  However, if he looked at the investment performance of PSPRS over the past 14 years, especially in comparison to ASRS, and how it has affected the financial security of thousands of PSPRS members, he might call Mr. Parham's career at PSPRS a bit of a disappointment.

As for his commitment to serving PSPRS members, let's go back to Mr. Parham's own words about investment returns in a 2014 editorial in the Arizona Capitol Times:
PSPRS wants its retirees to enjoy increases, but we are incentivized to seek lower returns in the range of 9 percent to maximize earnings that can be applied to cover – and hopefully reduce – unfunded liabilities.
I guess I don't have the enlightened understanding and appreciation that Mr. Tobin has for all of Mr. Parham's hard work, commitment, and dedication to underperformance.  I just thought PSPRS' Chief Investment Officer best served PSPRS members by maximizing investment returns.

Inflation and COLA's

Retirees should be getting their first cost of living allowance (COLA) under the new system implemented with the passage of Proposition 124 in May 2016.  The COLA is based on the Phoenix-Mesa regional consumer price index for all urban consumers (CPI-U) at the end of 2017.  The COLA is limited to the lower of the actual Phoenix-Mesa CPI-U or 2%.  The actual CPI-U at the end of 2017 was 2.5% so retirees are getting a 2% COLA based on their individual monthly benefit.  The Phoenix-Mesa CPI-U for the last half of 2017 was 2.2% but was 3.9% for the first half of 2018.  This means the inflation rate for FY 2018 was about 3.0%.  1-2% a year may not seem like a lot but over 20-25 years it will mean a significant loss in purchasing power, and of course, any inflation higher than that would do even more damage to a retiree's income.

Ballot measure affecting retirees in the EORP and CORP

This ballot measure would change the permanent benefit increase (PBI) system in the Elected Officals' Retirement Plan (EORP) and the Corrections Officers' Retirement Plan (CORP) to the COLA system currently in place at PSPRS.  The measure does not have proposition number yet but more information can be found at Ballotpedia.  This measure is likely to pass, which is when it should become interesting.  I suspect a CORP or EORP retiree (especially one in particular) will file a lawsuit claiming that this measure is unconstitutional under the Contract Clauses of the Arizona and US Constitution.  If you are curious about those constitutional issues, they are discussed here and here.  If someone can successfully convince the courts that this measure is unconstitutional, it would mean that Proposition 124 was also unconstitutional.  If they were to lose the case, especially at the US Supreme Court, it could empower legislatures and/or special interest groups throughout the country to unilaterally alter pension benefits that have been consider inviolable.  This will be fascinating to watch play out.

That is a short recap of some of the recent news about PSPRS.  Have and safe and happy Labor Day.

* Returns, gross of fees, are used because PSPRS usually does not report returns, net of fees paid to outside agencies, except on the final report of the fiscal year.  Returns, gross of fees, are used in the table for consistency.  The past four years fees have reduced the final annual reported return by about a half percent.  Returns, net of fees, were 13.28% in FY 2014, 3.68% in FY 2015, 0.63% in FY 2016, and 11.85% in FY 2017.