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Diminishing returns 

SLO County's Pension Trust performs poorly; some trustees ignore training requirements

Howard Mankins doesn’t give investment experts much credence:
 “They bamboozle us with their bullshit, as the guy says, and we’re supposed to sort it out.”

Mankins should know. For nearly four decades, as a trustee of the SLO County Pension Trust, he’s been
helping SLO County sort out how to invest the money needed to pay pensions for the now 4,800 current and former employees.

 He said he’s satisfied with the job he and his peers have done even if the returns haven’t been impressive. In fact, over the last five years, the SLO County Pension Trust’s investment performance ranks in the 98th percentile—
two points from the bottom—in terms of its annual return on investments, among some 140 similar trusts studied by one of the county’s own financial advisers. What’s more, few of the trustees appear to be keeping up with the board’s own education requirements.

 “That’s sort of bottom of the barrel for that period,” acknowledged the county’s own consulting investment manager, Scott Whalen.

Though the ranking is included within the quarterly report provided to trustees, some of the trustees weren’t aware their fund’s performance was so poor.

“I’m surprised,” said Gere Sibbach, a recently appointed member of the Pension Trust’s board of trustees but a longtime close observer as SLO County’s Auditor Controller. “Ninety eight percent does sound pretty bad.”

SLO County has long known it had pension funding troubles, but officials have usually said the problem lies primarily with the county promising too much in the way of pay and benefits. The investment returns suggest another side of the problem.

The rankings fluctuate year by year in line with the ups and downs of market averages, but none of the county’s recent figures are good relative to the market overall. At the end of 2008, for example, in addition to ranking 98th over the five-year period, the county ranked 97th over a three-year period; in the then-most-recent three-month period, it ranked in the 91st percentile.

The poor performance, coupled with the increases in benefits, come with real consequences that will have county workers and taxpayers paying money they otherwise wouldn’t have had to, for decades to follow.

The county has had to increase contributions—budgeting for $15 million more over the next several years. Employees have endured a series of hikes that see more of their pay heading toward their pensions.

And there are longer term problems. A financial analysis performed at the end of 2007—even before the recent financial meltdown—found the Pension Trust was only
79 percent funded.

That means that while the fund is expected to owe slightly more than $1 billion, it only had a little more
than $800 million on hand. In other words, it was $227 million short.

The next evaluation, expected in August, is certain to be far worse—trustees expect the new ratio to be in the low 70s—leaving the fund several hundred million dollars short.

And even those figures are better than they would be if the county instead looked at the straight market value of the fund at a given point in time. The funded ratio is based on an “actuarial” assessment that considers a three-year “smoothed” average so as not to over- or under-estimate the fluctuations of the market.

The quarterly report for the period that ended in March found that the fund had a market value of $559 million, having lost more than $200 million in its investments during the market downfall. At that rate, the funded liability would have been about 53 percent, with the fund having only about half of what it would owe. But already the more recent quarterly report found the fund back up by some $80 million—thus the reason for the three-year average.

Pension Trust Executive Secretary Tony Petruzzi said the figures, while problematic, are not the emergency they might seem. He noted that the fund won’t have to pay out that $1 billion all at once—payments will be extended over decades as employees retire and begin to draw their benefits. In other words, he says, there is time to catch up.

As for the performance ranking, he said the numbers fluctuate regularly—noting that in some quarters the county has done quite well. He expects the next batch to show improvement.

“I think they’re kind of meaningless,” Petruzzi said.

One of the people who would be considered a likely watchdog said she isn’t concerned either. Kimm Daniels is the general manager of the San Luis Obispo County Employees Association—SLOCEA—which represents about 1,700 of the county’s roughly 2,500 employees. Daniels attends nearly all of the Pension Trust’s meetings. The board’s minutes show she’s often one of only a handful of spectators in the room during the meetings.

Told about the trust’s poor performance relative to its peers, she said she wasn’t alarmed. “I have the utmost respect for [the trustees] and confidence in their judgment,” she said.

But others have noticed. Mankins said he’s been at meetings with other pension fund managers who are aghast at how conservative SLO’s fund remains.

“I’m talking with other guys and they’ll say ‘You guys are still in bonds? What’s wrong with you?’’’ But Mankins sees things differently. “We’re a relatively conservative board and we’re a little slow to get into things, but you don’t get into trouble that way.”

In fact, Whalen said it was precisely SLO County’s reliance on bonds that got them into the recent trouble. While government bonds did well in the recent market collapse, corporate bonds, which Pension Trust held in profusion, were pummeled.

 Sibbach was more concerned at the performance figures. “I’d say we’re at the orange alert level,” he said.

click to enlarge LAGGING :  Here’s a look at SLO County Pension Trust’s investment returns by percentage over the past five years compared with those of CalPERS.
  • LAGGING : Here’s a look at SLO County Pension Trust’s investment returns by percentage over the past five years compared with those of CalPERS.
Erasing the red line

Regardless of the level of alarm, in the recent past the current situation would have called for immediate county action.

As recently as several years ago, the county maintained a formal policy to keep its funded ratio in a narrow corridor that required the county to take corrective action if the ratio ever fell below 90 percent. This was considered the red line.

That is, if there was ever less than $900 million in a fund with $1 billion in debts, the county would have to raise its own contribution, or employees’, or both, to get the ratio back above the line.

In 2003 that trigger was pulled. After the funded ratio dipped below 90 percent in the early part of the decade, the county elected to float a special bond called a Pension Obligation Bond to boost the fund back to nearly 100 percent. The bond wasn’t free—the county taxpayers are on the hook for the money—but it had the effect of putting the fund back into near balance.

That didn’t last long. By 2005, the fund was back under the red line and it has continued to fall farther behind every year since.

The Pension Trust’s response to the more recent declines? The trustees elected to erase the red line altogether. Arguing that the corridor allowed too much leeway—gave too much incentive to allow the fund to hover in the low 90s, for example, instead of seeking full funding—the board eliminated the corridor.

The result, however, has been that there is no express requirement that the county act to reverse the falling funded ratio.

Other pension funds have similar problems. A recent report focusing on 125 state retirement systems found that only about a third are fully funded and the average funded ratio was 84 percent in 2008—down sharply from 96 percent in 2007. Still, San Luis Obispo’s situation, if compared to that same group, would place it in the bottom quarter of other funds in terms of its asset-liability ratio.

About the trust

The SLO County Pension Trust was established in 1958, well after many other county pension systems; it took on its current form a decade later. Its primary mission is to earn good returns so it can fund and pay for the benefits that have been promised to employees.

Mankins is the longest serving member of the board, having started in 1971. Back then the fund was operated by a single person and all of its money was simply entrusted to an insurance company.

It has since grown far more complex. The fund contracts with more than a dozen specialists to manage aspects of the fund ranging from local real estate
holdings to foreign stocks.

There are seven trustees including three appointed by the board of supervisors, three “elected” trustees—all are county staffers—and Frank Freitas, who serves automatically as a function of his job as Tax Collector. They don’t receive any pay. The experts make recommendations, but only the trustees create policy.

Over the years, the trust has become more aggressive in terms of investments, though most involved with the fund describe the current approach as conservative.

The inclination toward greater risk-taking has been gradual.

Decades ago, the trust stuck largely to municipal bonds. It was able to earn such high returns—frequently better than 10 percent—that there was no reason to take the risks associated with the stock market.

But, as bond returns began to fall, the trustees began to move more of the portfolio into stock-based funds. At the end of 1998, for example, the fund had about 64 percent of its money in bonds and 24 percent in stocks. By the end of 2008, the target ratio had roughly flipped to about 50 percent stocks and 20 percent bonds with 10 percent in real estate.
The real estate holdings include nine San Luis Obispo properties with values that range from about $700,000 to more than $10 million.

The transition into stocks came at a particularly turbulent market time, with the tech bust of 2000 followed by the massive market bust of 2008. The returns reflect the turbulence. Before the 2008 crash, when it lost nearly 28 percent of its value, the pension trust’s annual return had done as well as 16.6 percent in 2003 to as poorly as minus 4.4 percent in 2002.

The volatility hasn’t dissuaded the trust from becoming still more aggressive. In March of 2008, the board voted to change its allocation targets to move 20 percent of its portfolio out of stocks and bonds and into “alternative investments,” a category that includes hedge funds, commodities, infrastructure, and venture capital. With the move, it was joining a trend among other pension trusts. According to a 2008 survey by Government Finance Review magazine, about half of pension funds invested in such alternative investments, though only a third had gone so far as to move into hedge funds.

In fact, if the board had acted quickly on its move into hedge funds, the trust might have taken a bigger brunt of the market’s 2008 wrath. The board, however, never funded that policy shift into hedge funds—technically it was considering looking into funds composed of hedge funds—and members recently discussed taking hedge funds out of the mix again.

click to enlarge FALLING BEHIND :  After years of increased benefits and comparatively low returns, the SLO County Pension Trust has hundreds of millions of dollars less than it will owe and the trend shows things getting worse. While a policy once prevented the fund from falling below a 90 percent funded level, trustees decided to eliminate that requirement.
  • FALLING BEHIND : After years of increased benefits and comparatively low returns, the SLO County Pension Trust has hundreds of millions of dollars less than it will owe and the trend shows things getting worse. While a policy once prevented the fund from falling below a 90 percent funded level, trustees decided to eliminate that requirement.
How have others done

To understand how different the fund’s performance could have been, consider the results of CalPERS, the retirement system administered by the California state government. Though CalPERS is a giant, with about $200 billion in assets, it’s worth comparing with SLO’s Pension Trust because many municipalities in California, including the city of SLO and Monterey County, have chosen to have CalPERS run their pension funds.

Not counting 2008—an anomaly by any measure—both funds had been exceeding their goals. CalPERS set a target annual return rate of between 7.75 and 8 percent, but it had actually been earning more than 11 percent per year. San Luis Obispo’s target return has shifted between 7.5 and 7.75 percent. It’s also been meeting its goal—one it sets itself— but barely, earning slightly more than 8 percent. CalPERS, in other words, made more than 37 percent more per year on its investments.

CalPERS also has been doing much better in terms of its funded ratio. As of June 30, 2007, the three categories of funds that CalPERS administers—state workers, other public agencies such as SLO City, and schools—each had funded ratios of between 96 and more than 100 percent.

CalPERS manages investments for more than 150 public agencies. Just in the month of May 2009, 13 new agencies, ranging from the city of Barstow to the Ventura County Transportation Commission, elected to have CalPERS manage their funds.

Could the County of SLO delegate CalPERS to simply take over the entire investment?

Certain SLO county workers definitely would benefit. CalPERS takes set rates from all employees, from 5 to 7 percent. (Rates charged employers can fluctuate based on the fund’s investment performance. The fund recently warned of likely increases based on its recent losses; it saw its $260 billion portfolio shrink to less than $180 billion.)

SLO County workers, by contrast, do see their rates fluctuate—higher when the market is poor, lower when the investments have done well. But in general, they’re higher than state employees pay.

That negotiated rate increase is one of the reasons it wouldn’t be simple for the county to throw its funds in with CalPERS now.

A much bigger reason is cost. If the county were to abandon the Pension Trust and its $1.4 million annual budget, it would have to turn over the pension to CalPERS more fully funded. “It’s cost prohibitive right now,” Petruzzi said.

The real reason the county hasn’t chosen to do so—Petruzzi said there have been discussions in the past—is because it would give up local control of the fund. In other words, if CalPERS told the county it had to pay more, it would have to pay more. With local control, the costs can be spread out among the county and its employees.

Educational requirements

By all available reviews, the Pension Trust isn’t sloppy or poorly run. Whalen praised the trust’s members and employees as uniquely engaged. A recent exhaustive audit, came back with a “clean” verdict, meaning all of its data were found to be sound and verified.

So what explains the poor performance relative to its peers? Numerous people associated with the trust simply described it as culturally conservative, reluctant to move with speed into higher yielding investments. Many members had served for long terms, although recently it has experienced a fairly high rate of turnover. While three of the current trustees have been on the board since 2001, the other four positions have turned over.

But there may be another partial answer. Based on the results of a New Times record request, it appears that many of the trust’s trustees and employees have not been meeting the board’s own educational requirements.

The board’s policy requires that:

• New members must attend two specific pension management training seminars during their first term. One is at Stanford, the other at the University of Pennsylvania’s Wharton School.

• All members must attend one educational program sponsored by an approved provider, per year.

• All members must attend another 36 hours of continual education during their three-year term, although professional education for a board member’s normal job can apply if it’s “directly related” to their obligations as a trustee.

Based on the documents, a majority of the trustees did not meet all of those obligations.

Frank Freitas, for example, is not listed as attending a single meeting or conference during a six-year period. He didn’t return a request for comment.

Former Trustee Matt Kraut is listed as having attended one conference during his two-year term in 2005 and 2006.

Former Trustee Brian Davison is listed as attending only one educational program over an eight-year span.

Over a ten-year span, Mankins is listed as attending four conferences.

Sibbach is listed as having not attended the required first-term seminars yet, but Sibbach said he understood that the requirements of keeping up his Certified Public Accountant credential qualified as the board’s educational requirements; the language of the educational policy suggests that alone is not enough. Freitas is also a CPA.

Throughout the minutes of the board’s meeting, there are regular reminders to the board to attend more training. One 2007 entry notes that staff “Reminded the trustees of their minimum obligations to attend one educational program each year.”

Mankins said the board has gotten far tougher on the issue.

Still, Petruzzi said the real lapse is in record keeping. “I would disagree that they aren’t meeting their reporting standards,” he said. “We could have a better disclosure.”

In particular, he said that investor education sessions put on during the course of monthly meetings—most offered as PowerPoint presentations by advisor Scott Whalen—should count toward the requirement.

Mankins said the seminars are valuable, if costly (they can cost up to $6,000 each). Asked if he believes trustees are taking their education requirements seriously, he said:

“The new ones are because they don’t know any different. Some of the older ones they maybe have slipped because, gosh, you go every year and maybe it was the same as it was last year.”

Managing Editor Patrick Howe can be reached at [email protected].

Readers Poll

Do you think the SLO County Board of Supervisors should have gone against their policy that states funding for independent special districts should not result in a net fiscal loss to the county?

  • A. Yes, the housing and job opportunity the Dana Reserve is bringing is important
  • B. No, it's giving special privileges to the Nipomo Community Services District
  • C. I trust them, they know what's best for the county
  • D. What's going on?

View Results


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