Stay Wide Awake

I spent much of this afternoon attending a long, tedious, and occasionally informative PERS Board meeting. With me were about 8 or 9 POD members, about 20 people I've never seen before, and the usual cast of characters. Attendance was strong and the room required extra chairs by the time the meeting got fully underway.

The agenda was chock-ablock with interesting tidbits, but the star attraction was the set of two presentations by Mercer and Company (PERS' Actuarial Firm) concerning the modelling of assumptions for the 2008 valuation. This modelling forms the prelude to the 2008 system valuation as well as forming the basis for the essential 2009 valuation, which will inform decisions about the employer contribution rates to be effective on July 1, 2011. Rates scheduled to go into effect on July 1, 2009 have been set and employers can expect about a 2% *decrease* for that 2 year period.

Prior to the Mercer Report, there were several other business items to be discussed. Representatives from PEBB reported to the Board on the status of health insurance rates for the 2010 year. It was quite interesting to hear everything that went into the process and retirees should feel assured that PEBB did everything it could to hold insurance rates as low as possible. For most members, the rates will not increase significantly, and for those belonging to Kaiser, the rates remain flat. For those using Clearchoice in Eugene, a late change in their bid reduced their proposed rates dramatically and their increase for Medicare plus Medicare Advantage has been limited to a 4.2% increase. This is down dramatically from the rates listed in the agenda packet that appeared online this past Tuesday. There were many representatives from Health Care firms present at the meeting, and most left once the Board approved the new rates for 2010. This is quite good news for most retirees used to double digit increases annually. One disappointment, but certainly not a surprise, was the fact that BC/BS refused to submit a bid and is not available to anyone enrolled in the PEBB plan. This is consistent with BCBS's stated intent to get out of the Medicare business. Providence Health Plan is making a significant move to be available throughout the state - or at least the entire Willamette Valley and Southern Oregon.

The bulk of the meeting time was spent listening to 2 presentations from Mercer and Company on the economic assumptions surrounding the 2008 Valuation study. These presentations lasted close to 2 hours and were mind-numbing in the amount of numeric detail presented. The PERS website now has digital copies of both presentations available online and we will shortly have these documents up on the PERS Document Library. Rather than repeat the tedium of these reports, I will try to summarize the essence of the message Mercer tried to make. Just to make myself clear, this was a report to the Board, not a call for action. The Board will get a third presentation by Mercer at the July 16 meeting, at which time the Board will have to approve, modify, or reject Mercer's recommendations.

The reports were grim from an economic standpoint. The system took a substantial hit in 2008 and early 2009 and it will take many years to recover from the losses over that 15 month period. While this was a once in 70 year anomaly, its impact still has to be factored into the PERS rate-setting structure and benefit matrix. Mercer modelled three different scenarios. The first was a baseline scenario in which nothing changes in the system. They modelled system growth using Monte Carlo techniques with 1000 replications. They used the median (500th replication) as the baseline and reported out to plus/minus 2 standard deviations. In a word, they can see only a small likelihood that the system will return to 100% funding within the next 20 years. Once the 2008 valuation is done, the system will be 71% funded without side accounts. At the bottom of the 20 year forecasting trough, PERS could drop all the way to a 61% funding level and in a worst case scenario could come close to 50% funding. From that Baseline, they they looked at what would happen if the employers were given 30 years to amortized the UAL (unfunded liability). In short, going from 20 years (now) to 30 years (proposed) would do little to keep employer rates from rising. The key variable is the rate collar, which the Board adopted in 2004 to stem skyrocketing employer rates. The rate collar works to spread the losses from a bad spell to a limited amount. Mercer can predict with certainty that the rate collar mechanism will come into play for the 2011-13 period and 2013-15 period. Employer rates are expected to decrease to 12% (from 14%) for 09-11, then rise to 18% in 11-13, and hit 25% in 13-15. Mercer then modeled the impact of capping employer rates at both 25% and 30%. Both mechanisms have little impact immediately but would magnify the system instability in the outer years of the forecasting period. Primarily this comes about because the effects of bad years are magnified far more than the effects of good years. There is no model of good years that could dig the system out from its position following the past 15 months. Finally, Mercer consider the impact of lowering the assumed interest rate from 8% to 7.5%. When questioned about the 7.5% figure (instead of, say, 7%) the actuaries commented that they have no basis to drop below 7.5% given their own longterm capital market forecasts and the investment policy of the Oregon Investment Council. Not surprisingly, the lowering of the assumed rates would lower benefits for those approaching retirement age, but higher benefits could be recovered by working longer (7 months for a 60 year old wishing to retire now, 11 months for a 55 year old planning to retire at 60, and 17 months for a 50 year old planning to retire at 60, all assuming a Money Match retirement). So while members would receive lower benefits at retirement, the current rate collar would protect employers from any immediate rate increase, but would have the effect of increasing employer rates from between 1% and 2% near the end of the time horizon, on top of any other rate increases they would face.

Until the Oregon Investment Council establishes its revised investment policy at the June meeting, Mercer has no basis to use any figure other than 7.5% as the lower bound on the assumed interest rate.

Of course, the Board and Mercer expected some discussion about the potential for lowering the assumed rate. They got some discussion from an employer, a union representative, and two Tier 1 actives. While the Board tried to reassure all stakeholders that no decision would be made, they did remind everyone that IF changes were made, they would take effect on JANUARY 1, 2010 (7 months from now) when the new Actuarial Equivalency Factors would go into effect.

When I went into the meeting today, I would have handicapped the odds of the Board changing the assumed interest rate at about 80% likely. After today's meeting, I'm no longer so confident that they will change anything on that front. Right now, Mercer's own Capital Markets Projection unit forecasts long-term capital market returns at about 7.75%, while the OIC is expected to forecast their own long term rates at about 8.1%. From the Board's reactions to questions and comments, I got the distinct impression that a small reduction in the assumed interest rate would generate far more sturm und drang than it would generate resources for the system. Mercer reminded the Board and the audience that the MEDIAN assumed rate for public and private sector pension plans remains at 8% and only those systems with significantly greater assumed rates are changing them. I don't think Mercer will push very hard for a change from 8%, but if they do I don't expect the rate change will be very big (50 basis points tops; 25 basis points most likely). PERS has promised that it would post hypothetical impacts as soon as any decision got made, assuming a decision was made to reduce the rates.

So, at this point, the big decisions will get made at the July 16 meeting when Mercer gets the information from the OIC and it finishes its demographic analysis of the PERS membership. From there, the meetings in September and November will finalize the methodology for the 2009 Experience Study that will form the basis for everything taking place in 2011.

If you have a numeric mind, the publications from Mercer detail this much more fully than I can. Read them and you will see what I'm describing here. For now, you can find the reports at the PERS web site, but by tomorrow they should be available through the PERS Document Library (Oregon PERS Document Library) . Enjoy the sunshine. It's Rose Festival and I'm amazed it isn't raining. Have fun while it lasts.