Monday, March 9, 2009

Asset Allocation Dilemma

NYCERS has an asset target of 30% for its bond investments; 25% for investment grade and 5% for junk bonds. The trustees have invested the rest of the portfolio in various classes of equity; domestic, foreign, private, and real estate.

This aggressive investment strategy was needed to support a projected 8% investment profit target.

This, in turn, allowed the city and the other employers to make lower payments to NYCERS since 2000. It, however, exposed to greater swings, up and down, in its investment returns.

In effect, NYCERS was gambling that it would make a lot of money and the city could save a lot of money. Over the last 9 years has lost that gamble. While it is easy to criticize in hind sight, you can make a good argument that this policy was never prudent in the first place, especially after the 2000-2002 collapse.

If NYCERS had followed a conservative investment strategy, 50% in investment grade bonds,the city would have had to contribute significantly more money since 2000 but it now would have a much smaller burden going forward.

Because of massive equity losses NYCERS now has 36% of its assets in bonds. This will require NYCERS to re-balance under the current asset allocation 6% into a foreign equity position. That is a scary thought.

The NYCERS trustees are faced with the dilemma of either staying with their aggressive strategy or shifting to a more conservative policy. The elected officials and union presidents on the board are highly conflicted. A conservative strategy is most likely what is best for the members and retirees of NYCERS. It definitely is not what is best for the city.

Not only would the city have to cover current losses, it would have put up more money on an ongoing basis in recognition of the fact that a 8% profit target is not prudent and probably never was. Do the trustees take care of politics or the retirees?

Strangely, NYCERS for the first time committed money to convertible bonds in the spring of 2008. They have lost 25% of the $390M invested. Convertible bonds add equity risk and reduce fixed income returns. In this market it was like throwing a match into a gas tank.

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