February 3, 2014
Much has been written about the sad state of many municipal pension plans and the enormous unfunded liabilities of these plans. Each time I read one of the stories presented by the mainstream media, I revisit our database to assess if they have it right. While in many cases they do, I often find the audience gets part of the story and, at times, the data is not the most current. I went through the exercise, yet again, recently and decided it was time to update my readers on some of the pension data we track.
Before delving into the ugly truth, it is worth noting that many municipalities have taken steps in an attempt to get their pension “situation” under control. These steps include, amongst other things, raising their own and/or employee contributions, cutting benefits for new workers, cutting benefits for current employees and retirees (of course, not without legal challenges), reducing cost of living increases, capping pensionable salaries and raising the retirement age. With these changes, we hear of the amount of money that can be saved and that, under the plan’s assumptions (I will get to these in a moment) how soon they will be fully funded. Illinois, for example, suggests it can reduce its more than $100 billion unfunded pension obligation by $24 billion with its changes.
Despite these efforts, I have real concerns when I look at the underlying data. I’m not alone. The recent Rockefeller Institute report suggested that the approach taken to funding public pension plans is “deeply flawed” and that the current rules mask the true cost of pension benefits and encourage underfunding.
So what does the data tell us? The DIVER Pension Database looks at all State-reported plans: over 230 plans for 2011 and 2012; more than 120 for 2013 year to date (for purposes of this commentary “State” plans will include Puerto Rico and Washington DC). Our Database also includes all City-supported plans for cities with populations >100,000 (>260 cities and >700 plans for 2012, 260 cities and plans for 2011 and 85 cities and 267 plans for 2013 YTD).
| Funded Ratio (Average) |
2013 |
2012 |
2011 |
| State |
70.07% |
69.56% |
72.63% |
| City |
69.03% |
72.92% |
74.19% |
Source: State, City CAFRS; DIVER by Lumesis
| Funded Ratio 2012 |
Lowest |
Funded Ratio 2012 |
Highest |
| Puerto Rico |
8.4% |
South Dakota |
95.2% |
| Illinois |
40.4% |
Washington DC |
106.4% |
| Indiana |
42.5% |
North Carolina |
107.9% |
Source: State, City CAFRS; DIVER by Lumesis
What is a bit disheartening, especially with the broader market’s strong performance in 2013, is that the Funded Ratio data has not made much progress. In fairness, we have about one-third of the plans reporting and plan changes take time to have a true impact.
Two other data points that I find to be highly relevant as we take a look at if the Funded Ratio numbers are as good or bad as they appear to be and are municipalities doing what they can to fund these plans. First, I look at the Discount Rate being used.
| Discount Rate (Average) |
2013 |
2012 |
2011 |
| State |
7.51% |
7.58% |
7.68% |
| City |
7.26% |
7.46% |
7.58% |
Source: State, City CAFRS; DIVER by Lumesis
Sliced another way:
- 12 States Report Greater Than or Equal to 8% (Minn at 8.5%) (Tampa is the highest city at 9%; Dallas at 8.5%)
- 34 States Report Between 7% and 7.99% (7.5% most popular)
- 3 States Report Between 6% and 6.99% (Idaho, Indiana and Puerto Rico)
- 1 State Reports Below 6% (Florida) (11 cities)
Looking at 2012 data, Florida (5.88%), Puerto Rico (6.4%) and Indiana and Idaho (6.75%) are the most conservative and, one might ask, if the discount rate were to be equalized amongst all States would Puerto Rico and Indiana still be amongst the lowest funded? Not to pick on Illinois but their fate doesn’t really change under this scenario as their Discount Rate is 7.75% (good thing they are saving $24 billion – might that be enough to simply offset an aggressive Discount Rate?).
While actuaries and rating agencies can debate where the discount rate should be (I do support the notion of, at least for analysis, a consistent rate so that we are comparing apples to apples), I simply suggest you contemplate where funded ratios would be and where the $1 trillion plus pension gap (some say $1 trillion, some say $2-3 trillion) would be if the discount rate was 5% or at Florida’s 5.88%. To gain perspective, you need to know the discount rate for the plans the States and cities are responsible for. DVER Data Services maintains this data.
The last part of the pension puzzle I will address is around the Annual Required Contribution (“ARC”) and what percent, on average, are municipalities paying. Think of this as the amount you are required to pay for your mortgage.
| % ARC Paid (Average) |
2013 |
2012 |
2011 |
| State |
82.45% |
86.62% |
86.67% |
| City |
94.39% |
95.05% |
85.58% |
Source: State, City CAFRS; DIVER by Lumesis
Importantly, 23 States paid 100% of their ARC for fiscal years 2012 and 2011. For 2013, nine of 26 reported doing so as well.
One other pet peeve worth noting and exploring (again, data we track). When was the last actuarial valuation completed (you would be surprised that some 2013 data being reported are based on reports from 2011)?
The Rockefeller Institute suggests a primary fix (and we agree) is to address the use of unrealistic discount rate. We think this is a great start. Underestimating liabilities and costs of funding make funds appear “artificially healthy.” One suggestion is to base the discount rate on a high quality muni (not defined) – let’s call that 5%. This, in turn, drives the ARC and we now need a mechanism to force payment of ARC. If it was only that easy. We do look forward to the implementation of the new GASB reporting requirements as one way to begin to get some semblance of order.
A few other real-world factors to consider. Pending legal challenges – we all are watching them closely. The other is labor negotiations. Unions have to be willing partners. The pending litigation should be a primary driver in this regard. On the one hand, decisions favoring municipalities give them the upper-hand. Alternatively, if the unions and pensioners prevail, might municipalities be required to cut back elsewhere (jobs and services) thereby forcing other tough decisions by labor and the municipalities. No one said this was easy. Last point here is the reality that the world has changed. Market pay and market benefits of public sector workers should be revisited to ensure people are properly compensated. Unions have done a very good job addressing the wage side and have managed to keep municipalities at bay with regard to retirement savings and medical.
DIVER Geo Score
With the turning of the calendar to February, the January Geo Scores have been released and are available for the 50 States, all counties and over 350 cities. You can access the current scores by clicking here. For a copy of the Press Release, send us a note and we will send it to you.
On the Road
The DIVER team continues its “US Tour” and we hope to see you – this week we are in Green Bay, Louisville, Indianapolis, Menomonee Falls and Austin for the Bond Buyer Conference. Happy to vist while we are in town and/or swing by to say hello if you are at the conference. Next week, we are off to NYC, Memphis and St. Louis.
Have a great week,
Michael Craft, CFA, Managing Director, Credit
Lumesis, Inc.
CLICK HERE to Subscribe to the Weekly Commentary
Pensions – Funded (or Unfunded) and “Minor” Details – and January’s Geo Scores
February 3, 2014
Much has been written about the sad state of many municipal pension plans and the enormous unfunded liabilities of these plans. Each time I read one of the stories presented by the mainstream media, I revisit our database to assess if they have it right. While in many cases they do, I often find the audience gets part of the story and, at times, the data is not the most current. I went through the exercise, yet again, recently and decided it was time to update my readers on some of the pension data we track.
Before delving into the ugly truth, it is worth noting that many municipalities have taken steps in an attempt to get their pension “situation” under control. These steps include, amongst other things, raising their own and/or employee contributions, cutting benefits for new workers, cutting benefits for current employees and retirees (of course, not without legal challenges), reducing cost of living increases, capping pensionable salaries and raising the retirement age. With these changes, we hear of the amount of money that can be saved and that, under the plan’s assumptions (I will get to these in a moment) how soon they will be fully funded. Illinois, for example, suggests it can reduce its more than $100 billion unfunded pension obligation by $24 billion with its changes.
Despite these efforts, I have real concerns when I look at the underlying data. I’m not alone. The recent Rockefeller Institute report suggested that the approach taken to funding public pension plans is “deeply flawed” and that the current rules mask the true cost of pension benefits and encourage underfunding.
So what does the data tell us? The DIVER Pension Database looks at all State-reported plans: over 230 plans for 2011 and 2012; more than 120 for 2013 year to date (for purposes of this commentary “State” plans will include Puerto Rico and Washington DC). Our Database also includes all City-supported plans for cities with populations >100,000 (>260 cities and >700 plans for 2012, 260 cities and plans for 2011 and 85 cities and 267 plans for 2013 YTD).
Source: State, City CAFRS; DIVER by Lumesis
Source: State, City CAFRS; DIVER by Lumesis
What is a bit disheartening, especially with the broader market’s strong performance in 2013, is that the Funded Ratio data has not made much progress. In fairness, we have about one-third of the plans reporting and plan changes take time to have a true impact.
Two other data points that I find to be highly relevant as we take a look at if the Funded Ratio numbers are as good or bad as they appear to be and are municipalities doing what they can to fund these plans. First, I look at the Discount Rate being used.
Source: State, City CAFRS; DIVER by Lumesis
Sliced another way:
Looking at 2012 data, Florida (5.88%), Puerto Rico (6.4%) and Indiana and Idaho (6.75%) are the most conservative and, one might ask, if the discount rate were to be equalized amongst all States would Puerto Rico and Indiana still be amongst the lowest funded? Not to pick on Illinois but their fate doesn’t really change under this scenario as their Discount Rate is 7.75% (good thing they are saving $24 billion – might that be enough to simply offset an aggressive Discount Rate?).
While actuaries and rating agencies can debate where the discount rate should be (I do support the notion of, at least for analysis, a consistent rate so that we are comparing apples to apples), I simply suggest you contemplate where funded ratios would be and where the $1 trillion plus pension gap (some say $1 trillion, some say $2-3 trillion) would be if the discount rate was 5% or at Florida’s 5.88%. To gain perspective, you need to know the discount rate for the plans the States and cities are responsible for. DVER Data Services maintains this data.
The last part of the pension puzzle I will address is around the Annual Required Contribution (“ARC”) and what percent, on average, are municipalities paying. Think of this as the amount you are required to pay for your mortgage.
Source: State, City CAFRS; DIVER by Lumesis
Importantly, 23 States paid 100% of their ARC for fiscal years 2012 and 2011. For 2013, nine of 26 reported doing so as well.
One other pet peeve worth noting and exploring (again, data we track). When was the last actuarial valuation completed (you would be surprised that some 2013 data being reported are based on reports from 2011)?
The Rockefeller Institute suggests a primary fix (and we agree) is to address the use of unrealistic discount rate. We think this is a great start. Underestimating liabilities and costs of funding make funds appear “artificially healthy.” One suggestion is to base the discount rate on a high quality muni (not defined) – let’s call that 5%. This, in turn, drives the ARC and we now need a mechanism to force payment of ARC. If it was only that easy. We do look forward to the implementation of the new GASB reporting requirements as one way to begin to get some semblance of order.
A few other real-world factors to consider. Pending legal challenges – we all are watching them closely. The other is labor negotiations. Unions have to be willing partners. The pending litigation should be a primary driver in this regard. On the one hand, decisions favoring municipalities give them the upper-hand. Alternatively, if the unions and pensioners prevail, might municipalities be required to cut back elsewhere (jobs and services) thereby forcing other tough decisions by labor and the municipalities. No one said this was easy. Last point here is the reality that the world has changed. Market pay and market benefits of public sector workers should be revisited to ensure people are properly compensated. Unions have done a very good job addressing the wage side and have managed to keep municipalities at bay with regard to retirement savings and medical.
DIVER Geo Score
With the turning of the calendar to February, the January Geo Scores have been released and are available for the 50 States, all counties and over 350 cities. You can access the current scores by clicking here. For a copy of the Press Release, send us a note and we will send it to you.
On the Road
The DIVER team continues its “US Tour” and we hope to see you – this week we are in Green Bay, Louisville, Indianapolis, Menomonee Falls and Austin for the Bond Buyer Conference. Happy to vist while we are in town and/or swing by to say hello if you are at the conference. Next week, we are off to NYC, Memphis and St. Louis.
Have a great week,
Michael Craft, CFA, Managing Director, Credit
Lumesis, Inc.
CLICK HERE to Subscribe to the Weekly Commentary