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Ratings Agency Calls Pension Returns into Question

A major ratings agency has soured on the ability of state and local pension funds to achieve the rate of return they will need to stay solvent without benefit cuts. Pensions & Investments reports:

Fitch Ratings will now discount U.S. public pension plan liabilities at a 6% investment return assumption, down from the current 7%, according to a news release from the ratings agency.

The ratings agency released the new updated U.S. public finance tax-supported rating criteria on Wednesday.

“U.S. growth has been slower and more incremental over the current economic expansion than over longer time horizons. There is little evidence to suggest the economy will accelerate to previous levels of growth in the near term. Fitch believes that pensions will be hard-pressed to achieve their long-term growth expectations in the current economic context,” said Douglas Offerman, senior director at Fitch Ratings, in the news release.

Many funds currently expect returns in the seven to eight percent range. Fitch’s downgrade could increase pressure on funds to reduce their expected return. This in turn will require governments to choose between either reducing benefits—setting the stage for a major battle with public sector unions—and increasing state contributions—requiring either tax hikes or cuts to public services like education and infrastructure.

California’s pension fund, for example, recently cut its expected return from 7.5 percent to 7.375 percent. Even this modest reduction has put the squeeze on many local governments; going all the way down to 6 percent would require huge increases in contributions that would force many localities into bankruptcy.

The crisis of public finance at the state and local level remains an under-covered story with potentially far-reaching consequences. And without a clear path for reform, the vise is only getting tighter.

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  • Unelected Leader

    There are just so many factors at play. Bad economics on behalf of the government, for one. Too many seniors are poor (and as a result often still working). However, the blame is not entirely on the government. Indeed, people’s [boomers] generally poor financial decisions and lack of planning, living beyond their means, etc., mean that they rely on the DB or DC plans.

    Look at the 2014 data. 401k as well as regular IRAs provided only $1000/year for those 65+ whereas pensions averaged $6000.

    That’s not because the pensions are great and sustainable or the 401k is a piece of junk, but rather it’s poor planning, low contribution, and poor management of DC plans.
    They didn’t use a ROTH and consequently get hammered with taxes when they cash out – especially if it has grown well! Bad. Terrible and preventable. Problems also arise when you’re not paying attention to growth. It’s amazing how many people can coast through life and never figure out what the S&P is, or that you want funds that keep up with it or exceed it on long-term averages.

    • FriendlyGoat

      There is no real evidence that if all past (and future) pension money had been, (is at all moments) and would be/will be perpetually invested in the S&P 500——much of if would not be lost to more sophisticated traders playing cycles against the masses. It’s quite one thing to look back in hindsight and claim what ANYBODY could have done. It’s quite different to infer what EVERYBODY could have done. When everyone is in, you are looking at a market which produces different results.

      • Unelected Leader

        Right, and the reality is that you don’t need to be very smart to make money in the market. Like most classes, you simply have to do the daily reading. You have to devote some time, but really not a huge amount. My uncle retired at 45 a multimillionaire. I likely won’t become a multimillionaire at that age, but I’m 26 and I’m doing very well. Been making smart financial decisions generally.

        My neighbor is 58, and he didn’t realize until two years ago that he has been losing money on most of his investments for many years! Yikes! He didn’t pay attention. And of course he devoted the bare minimum of his pay all of these years. Classic. Tragic.

        • FriendlyGoat

          Congrats. But bear in mind you are advocating the replacement of DB pension plans midstream with no clear description of the replacement, no transition plan, no nuthin’. This is the kind of conservatism which always needs to be countered, so I did.

          • Unelected Leader

            No no. I did no such thing. I’m just exploring problems. I don’t want to see a 50 year old lose their pension promises. I also don’t want to see people my age making idiotic and careless decisions because if they do that from 25 till 50 then it’s too late to really turn it around.

          • KremlinKryptonite

            I remember 2009 when some family members were freaking out and about to cash out. So sad. First time any of them had paid attention and they were about to make a terrible mistake. I had to yell over the phone to talk them out.

            Imagine that. Selling when the DOW is 6,500. Many did. Now it’s more than three times that. Of course the real smart cats bought more during those days.

          • Unelected Leader

            Well at least they had someone sensible to stop them. Many did not as you said. Of course it does not help that some of the big voices disagree, and are in fact both correct as well as wrong. Think Ron Paul and Dave Ramsey. A lot of people listen to them.

            Ron Paul tells us that gold is the way to go, pretty much full stop. Dave tells us that gold is a dumb thing to own. The reality is that the numbers are easy to find. Gold really does hedge against inflation, no doubt about it. 50 years ago, 1 ounce of gold cost about $36. The minimum wage at that time was like $1.60. Well, the dollar has lost more than 65% of its buying power since 1980, and the minimum wage is $7.25!…take a look at what an ounce of gold is worth.

            Basically, if you want to buy some gold and plan to hang onto it for 50 years then it’s a smart idea. But it’s not smart to only hold gold of course. This gets to Dave again, as he also called Bitcoin a stupid thing. It most definitely is not! I’ve made quite a lot of money on Bitcoin, and his predictions that it will fall by the wayside obviously were wrong. It’s still around, highly valued, and now becoming more mainstream than ever with some airlines and Japan as a whole showing some real interest. Many online services, like VPNs, have accepted them for years.

            Gold makes sense if you’re going to buy a little bit and hang onto it for 40 or 50 years. Large valuations really only make sense for the super rich. Average people like myself make far more money looking at good growth mutual funds and also staying on top of tech. Buying Bitcoins with my summer job money saved from high school years has been the smartest and most profitable decision I’ve made thus far.

          • FriendlyGoat

            Well, okay. It’s good that you have your financial “head on straight” at a young age. If you live 50 years or more from here, you are going to need to navigate some down periods, as well as up periods. Best wishes.

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