Market rout sends state and city pension funds to worst year since 2009

Much of the damage occurred in April, May and June, when global markets came under intense pressure driven by concerns about inflation, high stock valuations and a broad retreat from speculative investments including cryptocurrencies. Funds that manage the retirement savings of teachers, firefighters and police officers returned a median minus 8.9% for that three-month period, their worst quarterly performance since the early months of the global pandemic.

“It was a really, really bad quarter for investing, there’s no way around it," said Michael Rush, a senior vice president at Wilshire.

The results underscore the pain felt by many investors in a year characterized by a rare combination: simultaneous sharp declines in both stocks, which are understood to be risky, and bonds, which aren’t and accordingly are often purchased by investment managers as hedges.

That one-two punch has pummeled household and institutional investors alike as the Federal Reserve has pushed short-term interest rates higher to rein in inflation. For state and local governments around the country, the losses will mean higher annual retirement contributions in the coming years, forcing many public officials to raise taxes or other revenues or to cut services.

Public pension funds have hundreds of billions of dollars less on hand than they will need to cover future benefit promises. A record run in stocks afforded them a decade of relative breathing room. But even after a blockbuster median return of nearly 27% last year, many retirement systems remained underfunded with the growth in expected benefit costs outpacing the growth in assets.

That shortfall, along with aggressive annual return targets of about 7%, have led pension funds to embrace investment risk, with a median equity allocation of 57% as of June 30, according to the Wilshire data. A larger equity allocation increases funds’ exposure to stock-market moves; a rally in stock and bond prices in recent weeks stands to ease some of the pain of the past year.

Larger public pension funds fared better than smaller ones over the past year, with those managing more than $1 billion returning a median minus 6.6% and plans over $5 billion returning a median minus 5.1%, the data showed.

Bigger plans tend to attract more experienced investment professionals and keep less money in stocks. But likely the biggest reason for their comparatively narrower losses is that these plans keep a fifth or more of their money in so-called alternative assets such as private equity and report returns on those assets on a one-quarter lag.

An example is the minus 6.1% return reported by the nation’s largest pension fund, the California Public Employees’ Retirement System, for the year ended June 30. That number reflects a 21.3% return on private equity and a 24.1% return on real estate, both of which cover the 12 months ended March 31 and don’t include losses in the second quarter of 2022.

Some of the better-performing pension funds managed to nearly break even on that basis.

The Los Angeles County Employees Retirement Association reported a return of 0.1% for the year ended June 30, while the School Employees Retirement System of Ohio returned minus 0.5%.

The California State Teachers’ Retirement System, the nation’s second-largest pension fund, returned minus 1.3%.

Some funds benefited from their holdings of assets expected to fare well amid inflation. For the 12-month period ended June 30, the Los Angeles County fund earned 3.8% on publicly traded infrastructure investments and 3.2% on publicly traded natural-resources and commodity investments.

Pension investment managers are reminding their governing boards to focus on long-term returns, which in recent years have been good until 2022.

“One year is like the pace of a mile in a marathon," Christopher Ailman, investment chief of the California teachers fund, said at a board meeting last month. “Last year was so positive, it gave us such a nice lead, we could be flat another year and still have a 7% three-year return."