The OC Register (hat tip David W) gives an advance warning that CalPERS is likely to show a loss in the billions on its roughly $300 billion portfolio when it reports its investment results next week. From the story:
The California Public Employees Retirement System – the nation’s largest – lost about 2 percent of its market value in the fiscal year that just ended, according to unofficial numbers published last week on the CalPERS website. This came despite doubled-down efforts to beef up its bottom line.
The value of CalPERS investments was $293.7 billion on June 30, down from $301.9 billion one year earlier, according to CalPERS’ daily valuation report. That number accounts for daily movement of some assets but not others, which are updated quarterly.
Yves here. Mind you, CalPERS holds out private equity as its salvation from flagging returns in the rest of its portfolio. But private equity is now at roughly 10% of total assets (it also has 10% allocated to real estate). Even if it showed a 15% year to year gain, that would still only partially offset the losses it reported on its liquid assets. In other words, CalPERS is almost certain to show a net loss, but we don’t yet know exactly how large.
Let us contrast this result with some public market market benchmarks over the same time period. Mind you, these are merely changes in index levels, so they don’t include dividend or interest income (in a world awash with information it’s frustrating not to have ready access to the right databases so I could get either the total return data on the indexes shown or comparable indices. Reader additions in the comments section very much appreciated).
S&P 500 1.7%
Russell 3000 0.0%
Bloomberg Investment Grade Corporate Bond Index 7.4%
S&P High Yield Corporate Bond Index 6.7%
Update courteously provided by Jim Haygood:
Total returns from June 30, 2015 to June 30, 2016:
S&P 500 stock index ….. 3.99%
Barclays Aggregate …… 6.00%
60/40 stock/bond mix …. 5.03%
Haygood also adds: “Undershooting the standard 60/40 domestic benchmark by 7 percentage points is a serious miss.”
Back to the original post:
One element that may explain CalPERS’ poor results is that it has a very high allocation to foreign stocks, 50% (and public equities account for 51% of CalPERS’ holdings). The strong dollar and weak fundamental outlook in many countries would drag down returns.
This poor showing confirms board member Jj Jelincic’s charge, that Chief Investment Officer Ted Eliopoulos, an attorney and protege of state treasure Phil Angelides, is not qualified to hold the post. Ironically, he’d make a much better CEO, since that role is highly political and plays much better to his strengths. But CalPERS’ dud results also highlights a much bigger set of problems.
Bear in mind that the fact that CalPERS is now underfunded is to a large degree the result of the financial crisis. It took hits and had to continue to meet retiree obligations out of diminished asset levels.
Independent of CalPERS’ poor performance relative to the markets, long-term investors of all sorts, such as people saving for retirement, life insurers, and pension funds are being slaughtered by central bank policies. They face the ugly prospect of either earning way too little in the way of return or being forced to take on far too much risk for the returns they do get. And since bank profits, and hence long-term viability, are also being crushed by the QE, ZIRP, and in more and more countries, negative interest rates, something will have to give at some point. Maybe one of those dreaded populists will defy orthodox thinking and engage in massive deficit spending, hopefully on infrastructure. But if not, US banks are pushing the Fed hard to increase interest rates. The taper tantrum of 2014 and the market upset of early 2016 shows how financial assets fare at the prospect of central banks trying to back themselves out of their corner, even when they promise to do so very very slowly. Players like public pension funds don’t have the latitude to go into cash and short-duration, low risk instruments to minimize the impact of this sort of change. They don’t do market timing, since the academic research shows that investors who do typically do far worse than those who stick to an orthodox allocation (witness the lackluster performance of hedge funds in recent years). But these are hardly normal times.
CalPERS, like virtually all of its peers, is in deep denial about its fix. It still maintains a return target of 7.5% even though Governor Jerry Brown pressed for the pension system to lower it to a less unrealistic 6.5%. CalPERS’ response was to invent a Rube Goldberg process by which it would lower its targets in those years it beats its 7.5% return target over the next 20 years till it gets to 6.5%. That is an oversimplification but directionally correct. As the Los Angeles Times pointed out in an editorial last November:
CalPERS resisted Brown’s proposal because it would raise pension costs sharply for governments; for example, the state’s annual contribution alone would increase from about $4.7 billion to $6.7 billion before declining. But pensions are a pay-me-now-or-pay-me-later obligation, and covering more of the cost early on can save money in the long run. Just as important, clinging to overly optimistic earnings assumptions hides the real cost of the benefits offered. And if a city can’t pay that bill when it ultimately comes due, its only options are grim ones, including slashing its workforce, eliminating services and, in the worst case, cutting pensions through bankruptcy.
No one wins under those scenarios. The Legislature should take advantage of the state’s current flush coffers to pay down its unfunded pension liability on a faster timetable than CalPERS has proposed, and cities that can afford to do so should do the same.
Needless to say, the lousy fiscal year 2015-16 returns highlight that CalPERS is putting its head in the sand. If CalPERS does indeed show a zero return for the past year, which is what Eliopoulos warned was the likely result in last month’s board meeting, that means its average return for the last ten years would be a mere 6.0%. How realistic is it to expect CalPERS to meet, much the less beat, 7.5% with deflationary trends only strengthening around the world?
And CalPERS’ political expediency only plays into the hands of the enemies of public pension funds.The OC Register, itself a regular critic of CalPERS, quoted several academics and legislators who regularly chastise the giant pension fund. Some are simply demanding that the state allocate more from its general budget to reduce CalPERS’ shortfall on a one-time basis (something Brown wanted to do in return for lowering the return target), or as the Los Angeles Times suggested, increasing the charges made to the various government bodies that rely on CalPERS to manage their employees’ retirement funds.
The failure to act puts CaLPERS and other state pension funds at risk of intervention. While CalPERS’ is effectively accountable to no one, by virtue of having a protected status in the state constitution and an exceptionally weak and cronyistic board, if it continues with its delusional posture that it can earn its way out of its underfunded position, pushback is inevitable. For instance, Stanford lecturer David Crane, who depicts public employees as special interests taking advantage of their position, has called for the state legislature to “change pension fund board governance in favor of citizens.” Given the constitutional issues, I’m not certain as to the mechanism for putting this into effect, but a year or two more of lackluster performance combined with no change in the return target will lead to vastly more bad press and calls for official action.
And now it is obvious why CalPERS’ CEO, Anne Stausboll, retired on June 30. She refused to address CalPERS’ existential issue and dumped the problem on her successor. This is not leadership. It’s opportunism and cowardice. And CalPERS’ staff and beneficiaries will bear the cost of her neglect.
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How does CalPERS justify a 50% weighting to foreign stocks? Unhedged it makes no sense at all when its liabilities are in dollars. Also, at least a portion of the dividends are subject to foreign government taxation. Gross incompetence.
A popular theory holds that foreign stocks offer added diversification. Not everyone agrees. The prominent dunce Alan Greenspan used to lecture about avoiding “home country bias” (good reason to do the opposite, since Greenspan is infallibly wrong), while Jack Bogle (inventor of the S&P 500 index fund) says “don’t bother.”
In his book Dual Momentum Investing, Gary Antonacci published a fully disclosed system called Gem for switching between domestic and foreign stocks, depending on which has outperformed over the past year. My replication of Gem confirmed that it has returned 16.66% annually compounded since Dec. 1970. More details are posted on Antonacci’s blog:
Anyhow, Gem has stuck with US stocks for all but 13 of the past 94 months. Currently, the S&P 500 is rising at a 3.99% rate over the past 12 months, while the ACWI ex-USA index is sinking at a dismal minus 9.80% rate. So Gem is a very long way from repurchasing foreign stocks (even though Calpers might be selling some after its debacle).
However, as of the end of June, MSCI’s emerging markets index is outperforming its EAFE developed markets index. So if you want to own foreign stocks, emerging markets look better than old sick men like Europe and Japan.
Just to be clear, it’s 50% of a 51% public equity allocation, so roughy 25%.
In this document (page 46/58), Calpers indicates a Growth [equity] benchmark of 84% public equity benchmark + 16% private equity benchmark.
In turn, the public equity benchmark is the FTSE CalPERS Global (All-World, All Capitalization) customized to exclude Board directed divestments [e.g., tobacco].
For the 12 months ended 30 Jun 2016, the uncustomized FTSE Global All Cap index returned minus 3.3%.
In the Vanguard ETF which tracks this index, North America is 56.4%; Europe 21.3%; Pacific 13.8%; emerging markets 8.3%.
Calpers’ customized FTSE global index likely performed a couple of tenths worse than the public version, since tobacco had a GREAT year, returning an eye-popping 34.1% (index consisting of Altria, Philip Morris, RJ Reynolds, British American Tobacco and Imperial Tobacco).
We are talking apples and oranges. CalPERS publicly discloses its allocations to public and private equity as percentages of its total portfolio. Public equity is 51% and PE is 10%. You find that if you Google CalPERS + “asset allocation”:
https://www.calpers.ca.gov/page/investments/asset-classes/asset-allocation-performance
Okay, here’s an estimate of Calpers’ equity benchmarks for the 12 months ended 30 June 2016:
If the OC Register report is correct that Calpers lost 2 percent overall (including other categories besides equities), Calpers may have met its benchmark.
Yet because this has been a bad 12 months for international equities compared to domestic equities, questions will be raised about the wisdom of Calpers’ policy allocation.
Thanks for that. I didn’t bother looking up the benchmark because with private equity, CalPERS has pretty much quit talking about it and as you may recall, tried going down the “absolute return” boondoggle path until we managed to get on their case successfully (with the critically important help of Eileen Appelbaum and Rosemary Batt).
But silly me! Of course CalPERS will invoke their benchmarks if they are helpful in justifying their results!
Some of Calpers’ other benchmarks are either difficult to find (Barclays Long Liabilities index, whatever that is) or not posted yet (NCREIF ODCE real estate fund index for 2Q 2016).
But we can proxy these missing data to estimate Calpers’ overall benchmark, probably within a percentage point or two:
Looks like Calpers undershot their overall benchmark by about 4 percent, if the proxies are appropriately chosen.
That would be a seriously ugly year.
“Equities” is 51% public equities, 10% private equity. So the underperformance will even worse, since the private equity benchmarks will be higher.
Oops … in the original post above, I neglected to add the 3% premium to the private equity index mix. Thanks for spotting the error.
The private equity benchmark should be +0.8%, including the 3 percent premium added to the indexes. Overall equity benchmark changes to -2.6%. Estimated total benchmark return ticks up to +3.6%.
If Calpers’ actual performance comes in at -1.5% (after PE and real estate results are reported — currently posted figures are for 1Q 2016), then Calpers is going to miss their benchmark by 5 percent.
After further research, it appears likely that what Calpers calls “Barclays Long Liabilities Index” — a term that doesn’t appear on Barclays’ site — probably is the “Barclays-Russell LDI [Liability Driven Investment] Index,” which is geared to use by pension funds:
Barclays-Russell LDI Index comes in six durations, the longest being 16 years. If this is in fact Calpers’ benchmark, it’s incredibly sloppy for Calpers to misstate the index name and fail to stipulate its duration, which is quite material.
The 16-year Barclays-Russell LDI index was up nearly 22% in the year to June 30th. If that’s the one Calpers uses, my estimate of their total benchmark (post above) changes to 3.5%, implying a shortfall of around 5 percent.
As another example of Calpers’ casual sloppiness, their asset allocation page contains links in the right hand column to the 2013-14 annual investment report and 2013-14 CAFR — even though these documents were superseded six months ago with updates for 2014-15.
Never do I see such negligence on mutual fund and ETF sites. They are rigorous about maintaining up-to-date documents and identifying benchmarks correctly, because they can be sanctioned if they don’t.
Calpers seems to have a problem. If I were a FOIA warrior, I would be all over their careless ass.
If you think this is bad, you should see their private equity data. They don’t have funds named consistently in their Comprehensive Annual Financial Report. The names in their “Fees and Cost” section will clearly have errors, and will be inconsistent from one CAFR to the next, and will not tie to the funds they list in their quarterly private equity performance report. Compliance experts tell me that’s a very bad sign, in that they don’t have database procedures to assure the names are accurate and consistent (like forcing selection from dropdown lists).
Agreed. It is utterly unacceptable for a $300 billion fund to misstate the names of its investments and its benchmarks.
In searches, “Barclays Long Liability Index” turns up only at Calpers and some California municipalities that invest with Calpers — nowhere else.
Income is 20% of Calpers’ portfolio. If the 16-year Barclays Russell LDI index is their actual benchmark, it was Calpers’ best performer last year, and has $54 billion allocated to it. And they can’t even get the name right? UFB.
Sent a FOIA request to Calpers today, asking for the correct Income benchmark name.
The playbook in these situations always seems to be cut the benefits of retirees. It seems that CALPERS leadership has set up a situation where they cream off the fund for comfortable lives while mismanagement means ultimate pain for the people they are theoretically supposed to serve. And unfortunately, it is a political solution to cut retiree benefits given how crapified non-unionized peoples lives and retirements have become. There is little populist outrage at benefit cuts to pensions.
“ long-term investors of all sorts, such as people saving for retirement, life insurers, and pension funds are being slaughtered by central bank policies.
Yes. CalPERS board may have thought PE was a way out of the jam. Maybe it was at one time, long ago. PE isn’t a way out now. The Board’s belief that PE is still a way out shows a … what?… Cargo Cult mentality?
“The failure to act puts CaLPERS and other state pension funds at risk of intervention.”
Yes. And intervention (nice euphemism) won’t likely be beneficial for the pension funds or for retirees. The pension board should do everything possible and reasonable to avoid that fate. But CalPERS Board, as you say, seems to have its head in the sand.
Thanks for your continued reporting on PE and pensions.
What is the long term but a discrete series of short term intervals
This “long term” investor was selling equities at the trough in 2008 to meet PE commitments, pffft
Way to go Teddy
Yes, I forgot to mention that tidbit, that CalPERS dumped stocks to meet capital calls! Thanks for adding that.
But you can’t pin that on Eliopoulos. He became CIO in 2014.
Ok fair enough
Landsource (-130%) and Stuyvesant- the first iteration, are Ted’s accomplishments
Total returns from June 30, 2015 to June 30, 2016:
Undershooting the standard 60/40 domestic benchmark by 7 percentage points is a serious miss. It’s called “career risk” in the money mgmt biz — meaning heads are likely to roll, to show that a concerned board is “doing something.”
Ten years of S&P 500 total returns can be downloaded here:
Select the “10 year” button above the chart, then click “EXPORT” under the lower right corner of the chart.
BarAgg is a little more complicated. Its daily value is published by Barclays (select “Aggregate/Bond Indices” in left column), but not archived on the public site:
An alternate way to obtain the change in the BarAgg over a given period is from the AGG ETF website:
Select “Returns” button … third line shows 6.00% total return on the Barclays Aggregate benchmark for 1 year ending 30-Jun-2016. This figure will only be available till the end of July. After that, it may appear in the semi-annual report.
Pertinent to Calpers’ private equity holdings is the Russell 2000 small cap index. In the year ending 30 Jun 2016, the R2K returned minus 6.73%.
On FTSE Russell’s index calculator site, you can download monthly total returns since 1994. The Russell indexes were introduced in 1984, and backfilled to start on Dec 31, 1978.
I think that you’re all being too kind to Eliopoulos. He has been an influential staffer at CalPERS for a long time before he was appointed CIO by the potted-plant board. His skills are political rather than financial, but I have had a whiff that he may have friends outside CalPERS who he cares about more than CalPERS members and beneficiaries. Nobody operating at his level is as dumb as Eliopoulos pretends to be. His friends outside CalPERS are no doubt set up to benefit when the inevitable populist attack comes — just like it did in Wisconsin when former UAW workers in Milwaukee and Kenosha became Walker-ites, “because if I’m going to get pennies on the dollar on my pension, state workers can too!”
The Shock Doctrine in action. Watch those capital calls…
One more tidbit to consider. Three tobacco stocks — MO, PM and RAI — comprise about 2 percent of the S&P 500 index by market cap. They returned a weighted 41.2% last year.
Thus, the S&P 500 ex-tobacco index (a State Street product that actually exists), according to my estimate, fell short of the full S&P 500 index by about 0.75% from June 30, 2015 to June 30, 2016.
Political correctness in investment is as costly a habit as smoking. Probably that’s why State Street discreetly omits publicly posted performance for its smoke-free S&P 500.
I’d be embarrassed too! :-)