The median investment return of state and local public pension investments was 12.4% in fiscal year 2017, which ended on June 30, as reported by Wilshire Associates. These investment returns provided good news for pension sponsors after weak investment returns in FY 2016 (0.6%) and FY 2015 (3.2%), well below assumed average annual gains in the 7.5% range. The gains are expected to improve the funding ratios of public pensions. The Center for Retirement Research at Boston College had estimated that the aggregate funding ratio of public pensions had fallen to 67.9% from 72.8% in FY 2016, but with the stellar returns over the past fiscal year, it estimates that the FY 2017 funding ratio will rise to 71.1%.
Investment returns over the past year were driven by growth of both domestic and international equities. Benchmark indices for both domestic and international equities had total returns in the 18% to 20% range over the fiscal year, offsetting returns from fixed income indices that were relatively flat over the year.
While 2017 investment returns provide a welcome relief from the poor returns in 2015 and 2016, we do not expect that pension investments will continue to provide robust returns each year. Given the potential volatility of investment returns, as well as increasing pension costs and limited opportunities to cut pension benefits in the near-term, we favor muni credits where the muni sponsor has consistently provided sufficient contributions to amortize its pension liabilities. We note that states such as Illinois and New Jersey have very low pension funding ratios because they have deferred payments instead of making full annual contributions to their pension plans.
Source: Bloomberg News, Center for Retirement Research at Boston College, Moody’s, Wilshire Associates