MOORLACH UPDATE — Peter Pan Portfolio — July 24, 2016

The OC Register‘s Commentary section has an editorial that included the "CalPERS" e-mail exchange below. The Peter Pan Portfolio concept is one that was introduced to me by Andrew Bary of Barron’s in December of 1994, it’s "based on the idea that ‘ya gotta believe’ things will work out" (see MOORLACH UPDATE — LOOK BACKS — December 5, 2009 december 5, 2009 john moorlach).

For more on the CalPERS topic, please see MOORLACH UPDATE — SKY FELL — July 15, 2016 july 15, 2016 john moorlach.

The OC Register also announces my speaking engagement for Monday night in the second piece below. If your evening is open, please feel welcome to attend.

CalPERS

John,

Any thoughts on its 0.61 ROI?

Dave Low says it doesn’t matter because of smoothing.

Your rebuttal?

Writing for OC Reg for Sunday!

Best,

Steven

Re: CalPERS

Steven,

Customarily, Dave Low might be right, as two bad years should be followed by two good years. That is the joy of cycles.

I hate this phrase, "but this time it’s different." We’ve had two poor performing years and now we’re at the top of three major markets. The Dow Jones was at all-time highs yesterday (haven’t checked today’s position). The fixed income market is at all time highs, and you know what happens to the value of bonds when interest rates rise. And, at least here in the OC, real estate prices in the residential market, are at all-time highs.

Now we’re in "Peter Pan" territory, "you’ve just got to believe." You’ve just got to believe that the stock market will rise more than 7.5% per year. You’ve just got to believe that interest rates will stay at zero indefinitely. You’ve just got to believe that real estate prices will continue to rise.

But, stock markets enjoy cycles.

And interest rates will rise, which means that stock market performance has to exceed 7.5% to offset the market losses.

And, with a state that is discouraging businesses from moving here, how will the demand for housing and office space continue to climb? Are we going to continue to rely on foreign investors to pay cash for California housing to drive up the prices? Because I see people who can’t afford housing moving away.

So, there may be no room for the markets to climb. A water fountain can only go so high in the air.

What, then, can CalPERS do?

Maybe it will have to consider revising its investment policies? Maybe it needs to let go of a marriage to asset allocation and become more proactive? Maybe it needs to break from the crowd and focus on market timing?

One idea would be to consider selling short. Or purchasing credit default swaps (watch "The Big Short" for a primer). Maybe it needs to take advantage of market swings, instead of being a victim of them.

Not that you have to give investment advice, but if CalPERS just repositioned into cash, meaning making no income, but not losing principle, would be a smart move. It reminds me of the old Will Rogers quote that went something like this, "I would rather have a return of my principle, than a return on my principle."

I would suggest you contact professional money managers to confirm what I’ve just written.

To conclude, Dave Low can be cavalier (like Bob Citron was) about the future because it’s not his money. But, no one knows the future. All we have is historical trends that show we are in for a market correction.

And when you know that taxpayers are your backstop, Low doesn’t have to worry about market set backs.

The problem will be that the taxpayers can see this train wreck in slow motion, too. As they have to make investment decisions with their 401(k) plans. And they will rebel if they have to pay higher taxes to prop up a government employee’s retirement plan. See how that’s working in Chicago.

These are interesting times. Using the old euphemisms, like Citron did ("we hold to maturity, ya da, ya da, ya da"), won’t cut it. Union spokespeople are not money managers, they’re propogandists. And, when the ship hits the sand, the taxpayers will lose and, tragically, the government employees will lose, too. Just ask Detroit retirees. Sad ending. All because public employee unions stayed rigid to their demand for over-aggressive defined benefit pension plans (a strategy the private sector left many years ago).

"You’ve just got to believe."

Denial is sad to observe. But, I hope you can get Dave Low to the first step in the 12-step process.

See how fun this is?

John

OPINION

CalPERS’ earnings flop means belt tightening

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COURTESY OF WIKIPEDIA COMMONS

By STEVEN GREENHUT / Contributing writer

Earlier this year, I watched in horror as my 401(k) earnings started a freefall right before I planned on shifting some assets into a lower-risk fund. Things corrected, but my investment mistakes are my problem. If I do something stupid, I might spend retirement in a trailer near Landers rather than in an oceanfront condo.

Consider this in the context of this month’s news from the California Public Employees’ Retirement System. On July 18, the largest state investment fund announced a piddling 0.61 percent rate of return in its latest 12-month period. The system is significantly underfunded. CalPERS blames a bad year in the markets. Defenders of the status quo suggest all is well – the rebounding market will correct itself and fix the mess.

State Sen. John Moorlach, R-Costa Mesa, notes that the Dow Jones, the fixed-income market and the real estate market have been at all-time highs: “Now we’re in Peter Pan territory. ‘You’ve just got to believe’ … the stock market will rise more than 7.5 percent per year. You’ve just got to believe that interest rates will stay at zero indefinitely. You’ve just got to believe that real estate prices will continue to rise.”

What happens if they don’t? This much is certain: Public employees will not have to alter their lifestyles. Recently retired public employees will still receive their lush benefits. Public-safety formulas, for instance, guarantee employees can retire with 90 percent or more of their final years’ pay at age 50. Somebody has skinned the hog. And it’s not taxpayers. The East Bay Times reported last week that CalPERS’ retirement debt “averages out to $11,000 for every California household which is relevant because taxpayers, not government workers, must make up the shortfall.”

For private-sector employees, we invest our pre-tax cash into a fund – and sometimes employers match a portion of it – and our final retirement payout is determined by how much we put in the account and how well the investments perform. We combine that with a reduced retirement lifestyle and other investment income.

For public employees, their agency guarantees a retirement payout based on a formula (plus a bunch of pension-spiking gimmicks). It invests the funds employers and employees contribute. When investment returns are great, the fund has plenty of cash to pay for pension promises. But when they are low, an unfunded liability – or taxpayer-backed debt – emerges. That’s why CalPERS’ piddling earnings should concern us.

State courts have consistently ruled public employees’ pensions can never be reduced – even going forward. They are safe unless a municipality goes bankrupt. As debt rises, local and state agencies have to contribute more. Services have to be cut.

CalPERS and its union-dominated board are all about protecting these enormous pensions, so they tell the rest of us not to worry. They even justify plans to expand benefits. The people who directly benefit from the system get to make all the decisions. Other people pay the tab. It’s the opposite of our personal-investing scenarios.

CalPERS has an aggressive earnings assumption of 7.5 percent a year. Union spokespeople argue that CalPERS spreads out the investment ups and downs over many years and hits its mark over the long haul. That’s a nice way of saying current CalPERS officials and state politicians are kicking the can down the road. And think back to what Moorlach said. Can this keep going?

As an aside, if these union folks are right, then there’s no need to have taxpayers back this scheme. If it pays for itself, then it should pay for itself without having to rely on everyone else as a backstop.

Despite this being one of the state’s biggest fiscal problems, Gov. Jerry Brown and the Legislature rarely mention it. To do so would mean offending the most powerful players in the Capitol – and would obliterate the false narrative that California’s budget is in good shape and that there’s plenty of money to spend on new programs.

“Positive performance in a year of turbulent financial markets is an accomplishment that we are proud of,” said CalPERS Chief Investment Officer Ted Eliopoulos, in a statement. What he didn’t say: Those Californians expecting a meager High Desert retirement will need to further tighten their belts to pay for those enjoying those Pacific views.

Steven Greenhut is Western region director for the R Street Institute. He was a Register editorial writer from 1998 to 2009. He is based in Sacramento. Write to him at sgreenhut.

HUNTINGTON BEACH

Senator speech: State Sen. John Moorlach, R-Costa Mesa, will address community members at 6:45 p.m., Monday at the Elks Lodge, 7711 Talbert Ave. He will discuss state Legislature issues and answer questions. More information: 714-374-4304.

Greg Mellen, gmellen

This e-mail has been sent by California State Senator John M. W. Moorlach, 37th District.

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