Heavy weightings lead to double-digit performance
Updated with correction
Large public pension plans that were more heavily weighted toward U.S. equities than international stocks found themselves seeing double-digit returns well above their benchmarks in the fiscal year ended June 30.
Also, plans that had sophisticated programs in alternatives also experienced strong returns.
"U.S. equities did much better than non-U.S. equities this past fiscal year," said Thomas H. Shingler, a senior vice president at Callan LLC's fund sponsor consulting office in Summit, N.J. "If you were a plan that had a lot more U.S. equities than non-U.S., that was going to help you."
"Growth-oriented assets like private equity and real estate (also) would've helped," Mr. Shingler added.
Following a year in which double-digit returns reigned supreme, the median one-year return as of June 30 of the 50 plans tracked by Pensions & Investments through Sept. 12 was 8.94%. Callan's data show a similar figure: Based on 93 public plans that have at least $1 billion, the median return was 8.68%.
Only seven plans posted double-digit returns in the most recent year, following a year where every plan tracked by P&I but one exceeded 10%.
Longer term, for the three- and five-year periods ended June 30, most plans' annualized returns ranged from 3.7% to 9.35% and 7% to 9.93%, respectively. Median annualized returns for the respective periods were 7.4% and 8.45%.
For the 10 and 20 years ended June 30, P&I's return tracker showed median annualized returns of 6.77%, and 6.5%, respectively. By comparison, median returns for the five and 10 years ended June 30, 2017, were 8.9% and 5.4%, respectively.
The median five-, 10- and 15-year returns of large public plans as of June 30 as calculated by Callan were 8.51%, 6.7% and 7.75%, respectively.
Still, none of the plans in the most recent period experienced negative annual returns. The $778 million Austin (Texas) Police Retirement System had one of the lower returns at 7.3% for the year ended June 30, trailing its 9.6% benchmark return.
Pattie Featherston, executive director of the Austin police fund, attributed the plan's performance to several investments within its large allocation to alternative assets that underperformed. The pension fund's asset allocation as of June 30 included 8.8% real estate and 2.8% timber.
The pension fund "has taken a number of steps to redesign the … investment portfolio over the past five years in response to returns that were below expectations," Ms. Featherston said in an email.
This includes increasing its exposure to liquid markets, lowering fees by investing in more U.S. equity index funds, removing timber from its portfolio, repositioning its private equity portfolio and redesigning its allocation to real estate.
Mr. Shingler was not surprised that the numbers were lower for fiscal year 2018 from the year prior.
"From an index perspective, the (MSCI) All Country World index for the prior fiscal year was up 18.8%. This past year, it was up 10.7%," he said. "So, there was a difference of over 800 basis points year-to-year."
Sona Menon, head of North American pension practice and an outsourced chief investment officer at Cambridge Associates LLC, Boston, agreed "weaker public market returns" were a big reason returns were on average lower than last year.
During fiscal year 2017, equity markets were strong and moving in the same direction and market volatility was unusually low. "So, 2017 was a great year," Ms. Menon said.
Since then, however, the Cambridge Associates executive noted volatility has risen back up to normal levels and equity markets haven't done as well.
For the 12 months ended June 30, the Russell 1000 returned 12.4%; the Russell 2000, 16.1%; and the MSCI Europe Australasia Far East index, 4%. In the year-earlier period, the Russell 1000 returned 15.7%; Russell 2000, 22.9%; and MSCI EAFE, 17.1%.
Although most large U.S. pension funds resumed single-digit returns for the year ended June 30, several plans experienced returns above 10%. Of the seven plans that returned 10% of higher, five of them reported benchmark data, and all five plans topped their benchmarks.
The plan that saw the largest annual return among those P&I tracked was the $2.7 billion Oklahoma Firefighters Pension & Retirement System, Oklahoma City, which posted an annual gross return of 11.8% for the year ended June 30, above its benchmark of 9.4%.
Not surprisingly, the plan was overweight to domestic equities at 42% and underweight to international, 15%.
But Executive Director Chase Rankin mentioned another factor that contributed to the plan's double-digit gains: patience.
"We implemented performance-based fees (in 2014), which gives us the ability to be more patient with a manager that's underperforming," Mr. Rankin said in a phone interview.
He cited a situation during the past fiscal year in which the board stuck with a struggling manager. That decision paid off, because the manager' performance eventually rebounded and doubled its benchmark. Mr. Rankin would not identify the manager or the strategy.
Louisiana Teachers' Retirement System, Baton Rouge, saw the second-highest annual return, posting a net 11.56%.
Philip Griffith, CIO of the $21 billion pension plan, attributed its strong returns to diversification.
"Last year, commodities was our best-returning asset. This year, venture capital was our highest, at 25.58%," Mr. Griffith said. "Last year, it's one asset class, this year it's another, so I attribute (our success) to a well-diversified portfolio."
The CIO explained that Louisiana Teachers has about 50% invested in public equity, which returned about 14.5% for the year — about 3 percentage points over the benchmark — and about 30% in alternatives and real estate, which returned about 13.5%. Private fixed income, meanwhile, returned 9.5%, about 4 percentage points above the benchmark.
"So, all the risk assets did really well, and our public fixed income was about flat, about 50 basis points higher than the benchmark, but didn't detract from the portfolio," Mr. Griffith added.
In fact, the low fixed-income-return environment has been an overlooked driver of returns during the past fiscal year, Callan's Mr. Shingler said. Returns have been so low that asset owners moved out of public fixed income and into riskier assets, which wound up paying off.
"If you had a low fixed-income allocation, that is going to help," he said, noting the Bloomberg Barclays U.S. Aggregate Bond index posted negative returns for both the 2018 and 2017 fiscal years at -0.4% and -0.3%, respectively.
Ms. Menon said something similar: "In the last few quarters, rates have been beginning to rise. So plans investing in core bonds have produced lower, if not negative, returns."
The other plans to post double-digit returns for the year were the:
- $25.1 billion San Francisco City & County Employees' Retirement System, at 11.35%.
- $19.8 billion Kentucky Teachers' Retirement System, Frankfort, 10.81%.
- $14.3 billion Maine Public Employees Retirement System, Augusta, 10.3%.
- $68.3 billion Minnesota State Board of Investment, St. Paul, 10.3%.
- $8.9 billion Arkansas Public Employees Retirement System, Little Rock, 10.25%.