NYCERS, Is This Really a Ponzi Scheme?

In the NYCERS FY-2015 CAFR on page 189 you will find the updated Solvency Test issued by the NYCERS actuary.

The last year listed on the chart is 2013. The actuary has always been slow in doing his/her work. On the last line there are several amounts:

1. $7.6B = the total contributions made by active workers plus the 5% interest they have earned on their money.
2. $36.2B = the pension liability for all current retirees (7% assumed interest rate)
3. $30.6B = the employer financed pension liability for all active workers (7% assumed interest rate)
4. $47.3B = the actuarial value of NYCERS assets

What the City/Employers Actually Pay for Active Workers

Workers are currently contributing approximately 3.6% of payroll into NYCERS. In FY-2015, workers contributed $457.1M to NYCERS and the covered payroll was $12.7B.

For argument sake let us assume the city and the other employers are contributing $3 for each $1 that the workers are contibuting. That would be 10.8% of payroll. Lets assume that the $3 earn the same conservative 5% that worker's $1 earns. That would mean that there should be at least $22.8B along with the $7.6B set aside for the active workers. That would be $22.8B to cover a $30.6B liability. Wrong!

Faking It

If you go back to the last line in the chart, you will see that the actuary is claiming that both the liability for all current retirees, $36.2B, and the workers contributions, $7.6B, are 100% funded. She is also valuing NYCERS's assets at $47.3B.

So when you start with $47.3B and you subtract $36.2B and $7.6B, you are left with only $3.5B. That is $3.5B to cover a $30.6B liability for active workers. This is a truly frightening conclusion.

The Other City Pension Funds

The story only gets worse. The Police Pension Fund is in the same shape as NYCERS with only $2.3B to cover a $17.9B liability for working police officers (page 151 of the FY-2015 NYPPF CAFR).

Teachers and the Fire Funds are in totally worse shape. The Fire Pension Fund has NO money to cover a $5.2B liability for working firefighters and only $8.0B to cover a $10.5B liability for current retired firefighters (page 151 of the FDNYPF FY-2015 CAFR).

Teachers with over a 100,000 working teachers has NO assets to cover their $18.6B pension liability and only $31.9B to cover the $37.5B pension liability for retired teachers (page 120 of the NYC-TRS FY-2015 CADR).

This grim picture is based on the unrealistic 7% assumed interest rate assumption. You don't want to do the arithmetic for a lower interest rate assumption. Just going from 7% to 6% at NYCERS increases the unfunded liability from $20.2B to $28.0B (page 114 of NYCERS FY-2016 CAFR)

What is Really Going On

Of course, there is one major flaw. The current retirees benefits are not fully funded. Most of the pension contributions the city and the other employers are making each year are catch up payments covering pensions being paid to current retirees.

The city and other employers paid $3.4B to NYCERS in FY-2016. The workers paid $485.5M. Three times what the workers paid is $1.5B. Under our 3 for 1 scenario it is reasonable to conclude that $1.9B went to cover retirees benefits not current workers. This is actually a Ponzi scheme and not an actuarially funded pension plan. It is a lot like the Social Security benefit system.

What is actually going on is that the city and other employers are trying to pay two different pension bills each year. One for active workers and the other for former workers who are now collecting pensions from NYCERS. You can just imagine the political nightmare this is. Part of the ongoing pension funding issue is not just about pensions for current workers. It is the huge mass of current retirees whose benefits the city did not properly secure when the workers retired.

How did this happen?

When a worker retires, the actuary can very accurately compute the cost of the benefit. She, however, can be very prudent or a total screw up. You know where this going. A 62 year old retiree is going to get a pension of $40,000 a year for the rest of his/her life. The actuary can say that $400,000 will cover this benefit or she can say that $520,000 will cover the cost.

Now if the fund hasn't even put aside the $400,000, you can imagine how they feel about the $520,000 cost figure. In either case there is going to be catch up, even if the fund is hitting its interest targets. Needless to say pension funds are not known for hitting their interest targets

One thing that NYCERS active workers should immediately demand is that their annual statement be expanded to include how much the city or their employer have contributed on their behalf during the year for their future pension benefit. The statement should also include an opening balance of employer contributions and how those assets performed during the year. And don't let anyone tell you it can't be done.

Reality Comes to NYCERS -- Funding Status 2007 - 2013

Below is the NYCERS funded ratio for the last seven years. It charts out a serious problem for NYCERS and in turn for the members, retirees, and the taxpayers of New York City.

This problem is in large part due to the failure of the NYCERS trustees to properly invest the assets of the fund over the last 14 years. See NYCERS income statement history .

Over the last 14 years NYCERS has earned an annual rate of return of 2.11%. From my calculations the index/core strategy would have enabled NYCES to achieve a 3.59% return over the same period. Both of which are significantly short of the 8%/7% actuarial interest rate (AIR) that NYCERS has been using for the last 14 years.

This is a classic "Catch 22" situation. The 8%/7% allowed the city to contribute less to NYCERS in the short term but motivated the NYCERS trustees to adopt an irresponsible investment strategy which allegedly would achieve the 8%/7% target. The end result was under-funding, underperformance, and ironically causing the city to pay more to NYCERS over the long run.

I do not have any concrete evidence of corruption but at some point incompetence rises to the level of criminal.

As of FY-2000, NYCERS had 71% of its assets in a index/core strategy. In 2013, NYCERS had only 39% in a index/core strategy and another 16% in illiquid assets which create uncertainty about the real value of the assets.

Fiscal Year	Actuarial Assets	Accrued Liability	Unfunded Liability	Funded Ratio	Covered Pyrl	Unfunded as % of Pyrl
2013	$42.41B	$65.27B	$22.86B	65.0%	$12.23B	186.9%
2012	$40.33B	$62.94B	$22.50B	64.2%	$12.10B	185.9%
2011	$41.71B	$53.05B	$11.34B	78.6%	$11.88B	95.5%
2010	$40.72B	$51.11B	$10.39B	79.7%	$11.31B	91.9%
2009	$38.93B	$49.25B	$10.33B	79.0%	$10.76B	96.0%
2008	$38.37B	$46.60B	$8.23B	82.3%	$10.13B	81.3%
2007	$39.69B	$39.80B	$0.10B	99.7%	$9.67B	1.1%
....	....	....	....	....	....	....
2000	$42.39B	$42.42B	$0.03B	99.9%	$7.87B	0.3%

As of July 1, 2011 NYCERS changed actuarial valuation methods going from "frozen initial liability" to "entry age". In simple English, NYCERS started using a real actuarial method as opposed to a delusional one. And I mean "deluuusional" in the way Lewis Black uses it in his comedy routines. NYCERS also switched actuarial interest rates from 8% gross of expenses to 7% net of expenses.

You can clearly see how the NYCERS pension liabilities jumped from $53.1B to $62.9B in 2012 because of the switch from 8% to 7%. You can just imagine what the accrued pension liabilities would be if the actuary used the real rate of return of 2.11%. A straight linear projection would produce an added $50.0B. That is the cost of bad investment decisions.

In 2008, the NYCERS actuary started providing the "entry age" numbers as supplementary information in the CAFR in order to supply the public with better disclosure on NYCERS funding status. That is why my chart changes dramatically from 2007 to 2008. Page 127 in the FY-2013 NYC CAFR shows the the change occurring in 2012 instead of 2008. Everyone tries to delay bad news.

Any funded ratio below 80% is a sign of trouble. The other four city pension funds, unfortunately, have much lower funded ratios than NYCERS.

Institutional Conflicts of Interests at NYCERS

NYCERS is a trust. The trustees are obligated to pursue the best interests of the members and retirees, not the participating employers, elected officials, or the labor unions sitting on the board of trustees.

The NYC Law Department is the statutory counsel for NYCERS. Unfortunately the Law Department is primarily the mayor's lawyer. This means there is a systematic, though legal, flaw in the way NYCERS receives legal advice. The trust structure is broken by law.

In an ordinary legal setting the Law Department would be constantly recusing itself and advising NYCERS to seek outside counsel. The Law Department, of course, never recuses itself. In fact the trustees have no choice as to which staff the Law Department assigns to handle NYCERS pension issues.

If the trustees wish to acquire and pay for outside counsel, they must, by law, get approval from the NYC Law Department.

In a related matter the NYCERS trustees appoint the actuary for NYCERS. In a bizarre arrangement in 1990 the new actuary was allowed to be the head of an agency funded by the mayor. That agency has no legal basis in statute or the City Charter. The funding for this agency is dependent on decisions of the mayor.

This situation is particularly conflicted, since 1996 when the NYCERS was granted budget control over its operations by the state legislature. Instead of placing the NYCERS actuary on the NYCERS payroll and paying for the actuary's expenses, the trustees continue to allow the actuary to function outside their budgetary control. There isn't even a statutory excuse for this situation.

The main function of the NYCERS actuary is to determine every year what the city and the participating employers (i.e. the Transit Authority) must pay in pension costs to NYCERS. The actuary also determines the expected rate of return on NYCERS assets.

This rate is crucial in determining the amount of regular pension contributions that the city has to pay NYCERS every year. The higher the rate, the lower is the amount that the city has to pay. A higher rate also means that the trustees must adopt a more risky investment policy to support the higher rate.

If the market does well, everyone is happy.

If the market collapses, the city must make up the losses and the NYCERS actuary has a harder time justifying the higher expected rate of return. If the NYCERS actuary has to lower the rate, the city has to pay higher regular contributions to NYCERS, in addition to covering the losses from a down market.

Then everyone is very unhappy.