U.S. Markets

Stock market volatility raises risk for U.S. public pension funds

CHICAGO (Reuters) - Recent stock market volatility could sting some U.S. public retirement funds in the short term and lead to bigger state and local government contributions in the event of a prolonged market downturn, pension analysts said on Tuesday.

A trader works on the floor of the New York Stock Exchange in New York, U.S., February 6, 2018. REUTERS/Brendan Mcdermid

The portfolios of some funds have bulked up on riskier and more volatile investments over the past eight years, Eileen Norcross, senior research fellow at the Mercatus Center at George Mason University, said.

“Some of these plans are going to suffer, at least in this quarter, losses of some sort,” she said.

But Rebecca Sielman, a consulting actuary at consulting firm Milliman, said an important component in calculating funding for nearly all public retirement systems is smoothing out gains and losses over typically a four- to five-year period to dampen the impact of market volatility.

“What happened yesterday was just a very small blip,” Sielman said.

The Dow Jones Industrial Average fell a record 1,175 points, or 4.6 percent, on Monday, though Tuesday’s gains wiped out some of those losses.

State pension funds, for example, allocated on average 64.8 percent of their investment portfolios to equities, including real estate and private equity in fiscal 2016, according to a June 2017 Wilshire Consulting report. Of the 131 state retirement systems covered in the report, 16 had equity allocations of 75 percent or higher, while 11 were below 50 percent.

As a result, the funding status of public pensions is “very reliant” on the performance of the stock market, said Yimeng Yin, a research analyst at the Rockefeller Institute of Government. And if the funds’ assumed rate of investment return, which average around 7.25 percent to 7.5 percent, is not met, state and local government budgets will be hit, he said.

“If there’s a sustained low-return market, the government contribution will eventually rise and crowd out some other public services,” Yin said.

Public funds had median gains of 15.17 percent in calendar year 2017 and 9.08 percent over the past five years, Wilshire Trust Universe Comparison Service reported on Tuesday.

State and local pension assets totaled $4.16 trillion in the 2017 third quarter, an increase of 8.6 percent over the same quarter in 2016, according to Federal Reserve data.

State unfunded pension liabilities hit $1.3 trillion in fiscal 2016, according to Moody’s Investors Service, and totaled $456 billion for the 50 largest local governments Moody’s rates.

Reporting by Karen Pierog; Editing by Daniel Bases and Leslie Adler