Your Survival Guy

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California Pensions are Dreamin’

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By Ihor Tkachuk @ Shutterstock.com

You really can’t make this up.

Rather than admitting that they’ve spent years making the wrong assumptions, and underfunding the pensions of California public workers, CalPERS pension fund managers seem hell-bent on driving the fund off a cliff to save their jobs.

In the Wall Street Journal, Ben Meng, chief investment officer of Calpers, does his best to explain why the fund is taking on a load of leverage to fund its overpromised goals. He writes:

Yet even before the pandemic, we knew that our goal of achieving a risk-adjusted return of 7% would require addressing the market’s triple threat of low interest rates, high asset valuation and low economic growth. In late 2019 we mapped out an investment strategy to deliver sustainable results.

The solution is based on “better assets” and “more assets” and will capitalize on Calpers’s advantages: a long-term investment horizon and access to private asset classes.

Calpers must diversify and increase exposure to private assets, such as private equity and private credit. We refer to these as “better assets” because they have the potential for higher returns and lower expected volatility when compared with publicly traded assets.

“More assets” refers to a plan to use leverage, or borrowing, to increase the base of the assets generating returns in the portfolio. Leverage allows Calpers to take advantage of low interest rates by borrowing and using those funds to acquire assets with potentially higher returns.

This approach is not without risk. Private debt can reduce liquidity. Leverage can exacerbate some short-term volatility. But prudent use of leverage can reduce risk over time by allowing Calpers to keep more exposure in diversifying assets such as Treasury bonds, while pursuing higher returns in other parts of the portfolio.

In Mr. Meng’s view, better assets mean private equity that doesn’t have a believable quote/price, and more assets mean leverage. How could this go wrong?

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E.J. Smith - Your Survival Guy

E.J. Smith is Founder of YourSurvivalGuy.com, Managing Director at Richard C. Young & Co., Ltd., a Managing Editor of Richardcyoung.com, and Editor-in-Chief of Youngresearch.com. His focus at all times is on preparing clients and readers for “Times Like These.” E.J. graduated from Babson College in Wellesley, Massachusetts, with a B.S. in finance and investments. In 1995, E.J. began his investment career at Fidelity Investments in Boston before joining Richard C. Young & Co., Ltd. in 1998. E.J. has trained at Sig Sauer Academy in Epping, NH. His first drum set was a 5-piece Slingerland with Zildjians. He grew-up worshiping Neil Peart (RIP) of the band Rush, and loves the song Tom Sawyer—the name of his family’s boat, a Grady-White Canyon 306. He grew up in Mattapoisett, MA, an idyllic small town on the water near Cape Cod. He spends time in Newport, RI and Bartlett, NH—both as far away from Wall Street as one could mentally get. The Newport office is on a quiet, tree lined street not far from the harbor and the log cabin in Bartlett, NH, the “Live Free or Die” state, sits on the edge of the White Mountain National Forest. He enjoys spending time in Key West and Paris. Please get in touch with E.J. at ejsmith@yoursurvivalguy.com To sign up for my free monthly Survive & Thrive letter, click here.