Economic Assumptions Help Plan for the Future

Dec. 23, 2010 Jack Ehnes

The funding for your Defined Benefit pension is based on several economic assumptions. Among the most critical of these planning factors are the investment return assumption and the assumed inflation rate.

Projecting these and other long-term factors helps to determine the actuarial valuation, or financial health, of the pension plan. Actuarial assumptions are generally reviewed every four years, and in stable economic times the assumptions might go unchanged for many years. But the historic market downturn in fiscal year 2008-09, and ongoing concerns about the future of the financial markets, prompted an earlier review and this thoughtful action on the part of the Teachers' Retirement Board.

Investment assumption lowered

After 10 months of thoughtful analysis and discussion, the Teachers' Retirement Board at its December 2010 meeting lowered the assumed rate of return on investments from 8 percent to 7.75 percent. The board also reduced by 0.25 percent its assumed inflation rate to 3 percent and its assumed wage inflation rate to 4 percent. The moves acknowledge an expectation of reduced future investment earnings and lower inflation.

Lowering these assumptions reduces the projected long-term funding level of the system from 78 percent to 76.5 percent. Funding levels are the percentage of current liabilities covered by existing assets.

Investment returns, which fund a majority of each benefit dollar paid, together with contributions are the only sources of income for the fund. Reducing investment returns expectations creates pressure to increase contributions. Member, employer and state contribution rates are set by law, and may only be increased by the state through legislation. If nothing is done, the fund will deplete its assets in less than 35 years and the state will be constitutionally responsible for paying the difference between the amount of contributions coming in and the amount of benefits paid out to our members.

With this recent change to the assumptions, Teachers' Retirement Board members faced a difficult decision in fulfilling their fiduciary duty to California’s educators. They understood that acknowledging the potential for lower future investment returns is an important and prudent step in the development of a solution to the long-term financial challenges facing CalSTRS.

Comments

Submitted by Edideleexok (not verified) on Mar. 20, 2011.

Thanks for the post! been looking for information like this for awhile.

Submitted by janeyquiel (not verified) on Jan. 28, 2011.

I agree with your assumption.

Submitted by Doug (not verified) on Jan. 2, 2011.

Thank you for doing such an excellent job as CEO. Curious about my mom's pension, I decided to google around this morning to learn about Calstrs. (I knew nothing about it previously) After listening to some interviews and reading various news articles, I have to say, I am just really impressed with your leadership. The more I learned about Calstrs, the more surprised I was at how thoughtful and proactive you are as its leader. Everything about Calstrs is remarkably transparent. And to the extent that the system has problems, they aren't being swept under the rug. The issues are being dealt with in a good, honest and constructive manner. My parents really count on my mom's strs pension. It's the key piece of their retirement security. Now knowing what I know, I am very happy that they have you as their financial steward. Doug

Submitted by Dennis Sadler (not verified) on Dec. 27, 2010.

When STRS sends out their annual report it would be great if they showed what the account has earned in the past 1, 3, 5, and 10 years and compare it to a benchmark like the S&P 500. The fiduciary responsibility should be turned over to Vanguard, Pimco, and Fidelity. The costs would be less and the investment returns greater than those who currently make the investment decisions. It would also cut down on the costs to the members by eliminating those positions and we would be less likely invested in some loony investments.

Submitted by Lawrence Krikorian (not verified) on Dec. 24, 2010.

The stock market fell on its face in 2008. Anyone who thought real estate prices and stocks would never stop escalating geometrically, was naive and mathematically inept. I hope STRS diversification of investment includes bonds--the rich person's investment of choice.