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CalPERS Contemplates Changes that May Impact Employer Rates

Webinar Planned for Early January to Help Cities Understand Potential Changes

December 4, 2013
Over the next 12 weeks the California Public Employees’ Retirement System (CalPERS) Board of Administration will be considering numerous policy changes which could significantly impact employer contribution rates.
 
The League is working hard to ensure the employer perspective is heard at CalPERS. It is equally important that cities communicate their needs.

City participation is encouraged at the following meetings:
  • Dec. 16 – CalPERS board meeting to adopt final recommendation on CalPERS asset allocation and review preliminary recommendations on the discount rate and mortality improvements; and
  • February 2014 – CalPERS board meeting to adopt final recommendations on the discount rate and mortality improvements. 
Webinar and Survey
 
Partnering with the California Society of Municipal Finance Officers (CSMFO), the League will host an educational webinar on possible changes to the discount rate and mortality assumptions. The webinar is planned for the first part of January, a specific date has not yet been chosen. Registration for the event and other details will be provided as soon as they are available.
 
Following the webinar, the League will distribute a brief survey to cities to evaluate how these changes impact city budgets. Responses will be provided to the CalPERS board and staff to help inform their decisions.
 
Asset Liability Management Workshop Highlights
 
The CalPERS board met Nov. 12–13 for its Asset Liability Management (ALM) workshop. ALM is the balancing of investment assets and contributions to best match the level of benefits that have been promised to employees by employers who contract with CalPERS for pension benefits. This workshop was designed for the board to indicate preference on investment risk that will be used by CalPERS staff to make recommendations on asset allocation. The level of risk will influence the recommendation from CalPERS actuaries on the discount rate (assumed rate of return).
 
The meeting was conducted in a way that provided substantial credibility to the process. The League hopes that CalPERS continues this approach as it makes final decisions on the asset allocation, discount rate, and mortality improvements. ALM workshop meeting participants were reassured that CalPERS staff is working hard to ensure a well-rounded and informed discussion. The board’s sophisticated questions evidenced their impressive preparation for the discussion.
 
The ALM workshop covered a range of issues including:
  • liquidity;
  • asset allocation; and
  • low volatility strategy, which the staff recommended implementing in a way that will allow for further evaluation of this particular strategy.
It was clear that while staff recommends lowering liquidity allocation from 4 to 2 percent, liquidity remains a priority of both the CalPERS board and staff. Participants received a briefing on a concept known as “flexible de-risking,” which is lowering of funding risk in a way that minimizes negative impacts on employer rates.
 
A substantive panel included representatives from both labor and management. There is no doubt that both labor and management are feeling the squeeze from the recession and continued increases in employer rates. Pico Rivera City Manager Ron Bates informed the board that employers need rate stability, less volatility, and transparency in the process. More transparency at PERS will give greater notification in advance to employees. Employers sent a clear message that if CalPERS continues to be more transparent and provide sufficient advance notification of rate changes local agencies will be better prepared to adjust. Transparency in the process was crucial in achieving this goal. Labor representatives stressed that any decision by the CalPERS board that would increase employer rates cannot be made in a vacuum. The CalPERS board faces multiple decisions that could increase employer rates. It is vitally important that the board consider these potential changes together.
   
The ALM workshop is a precursor to the board adopting the discount rate, which is currently set at 7.5 percent. Based on the board discussion, its asset allocation preferences were in a narrow range from remaining in a substantially similar portfolio and moving to a portfolio with slightly more risk. The discount rate will likely remain at 7.5 percent if the board adopts a similar portfolio to the current asset allocation. However, CalPERS Chief Actuary Alan Milligan recommends the board adopt a margin for adverse deviation if the board adopts the asset allocation with slightly more risk. A margin for adverse deviation means a “cushion” in the event that estimates by plan actuaries are not realized or there are unforeseen influences. The discount rate would likely remain 7.5 percent if the board adopts a portfolio with slightly more risk and also adopts a margin for adverse deviation. Based on the two scenarios discussed and the apparent CalPERS board preference, there may be no change in the discount rate.
 
More to Come
 
Discussions on investments and other important changes will continue at the Dec. 16 board meeting. The board is expected to adopt a final recommendation on the asset allocation and will hear preliminary staff recommendations on changes to both its economic assumptions (discount rate) and its demographic assumptions (mortality improvements).
 
In previous years, Milligan has recommended a 0.25 percent drop in the discount rate. Thus far the board appears to prefer retaining the current discount rate at 7.5 percent. However, if the discount rate were to be lowered by a 0.25 percent from 7.5 percent to 7.25 percent the impact on employer rates is estimated to be between 2 and 4 percent.
 
In examining mortality improvements, CalPERS staff has found that its members are living longer. In fact, the CalPERS population life expectancy is better than that of the Social Security population. CalPERS’ actuaries believe that the mortality assumptions should be adjusted to keep pace with individuals drawing on their pension benefits over their longer lifetimes. Based on preliminary information, changes in the mortality assumptions could increase employer rates between 2 and 5 percent. These potential increases come just months after CalPERS made adjustments to its actuarial policies on smoothing and amortization, which will increase most employer rates significantly over the next decade. 
 
The board will continue discussions on the discount rate and mortality improvements in December adopting final recommendations on both items at its February meeting. 
 
Member Participation Encouraged
 
The League is ensuring that CalPERS hears from employers through the reformed League Committee on CalPERS. Following the changes to the smoothing and amortization policies at CalPERS, League staff concluded that a working group of experts was needed in order to monitor, track, and provide feedback to CalPERS on the impacts of proposed changes to its policies and practices.
 
The League’s committee was reconstituted with expert human resource, finance, and city management professionals to represent city interests and provide a sounding board for CalPERS staff on various functional areas of the retirement system. The committee met with CalPERS board members and staff on various issues over the past several months and will continue to do so as necessary.
 
CalPERS Timeline on Changes and CalPERS Board Agendas
 
The CalPERS Path to a Sound and Sustainable Future has information on the full timeline on future changes. Cities are encouraged to attend CalPERS board meetings and participate in the discussions through the public comment period. Agendas are available online.


 
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