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Pension Check Guarantees Mean More Budget Woes

By Michael Laris
Washington Post Staff Writer
Monday, March 16, 2009

Pension plans for state and local workers in Maryland, Virginia and the District have lost more than $28 billion since last summer and have seen about a quarter of their total value vanish at a time when governments are losing billions in tax revenue to the recession.

Even as pension investments have plummeted, the plans must still cover the same number of retired teachers, police officers, custodians and tax collectors. And the plans are set up so that the size of the recipient's check won't shrink, no matter how far the markets fall.

As a result, jurisdictions will have to squeeze already-strained budgets to replenish the pension funds for future retirees. That could mean deeper cuts to spending on roads, schools and social services or an increase in taxes -- all unsavory prospects for elected officials struggling as it is to triage their spending decisions.

"The numbers are so compelling that they will not be ignored for long," said Del. Murray D. Levy (D-Charles), a member of the House committee that oversees the retirement system. Backfilling Maryland's pension investment losses would cost about $250 million a year, he estimated. "This time next year, if nothing is changed, you will see everyone running around with their hair on fire wondering, what the hell do we do now?"

Some local pensions lost between 24 and 31 percent of their value from July to the end of January, according to a Washington Post survey of a half-dozen systems covering state and local workers. Virginia's investments shrank by $14.5 billion; Maryland's, by $10.3 billion; and the District's, by $1 billion.

Pensions have long been a bedrock benefit of public employment. Workers usually pay in a percentage of their paychecks, and governments kick in another piece. Retired workers continue getting paid, depending on how many years they put in. Some gold-plated plans allow certain employees to retire at age 50. Others are less generous.

Pension officials invest in everything from broad stock market index funds and Mexican bonds to real estate holdings and Amazon.com stock. They count on hearty growth.

That's not what happened.

"It's clear 2008 was a bad year. It's pretty clear to me 2009 will be a bad year. I can't believe we're going to have a real bounce back in 2010," said Alicia H. Munnell, director of the Center for Retirement Research at Boston College, which tracks pensions.

State and local pensions nationwide lost $1.3 trillion since the market peaked in October 2007. That was during a period when pension officials assumed they'd grow by $300 billion. It could take decades to make that up. Even counting on big market gains, the annual tab for filling that hole will top $27 billion next year and rise to $135 billion within five years, according to the retirement research center.

"These public employees have to be paid. And so the burden rests with the taxpayer," Munnell said.

Even before the bankruptcy of Lehman Brothers in September gave way to months of precipitous stock market declines, concerns were being raised about whether officials were doing what was necessary to keep pensions healthy.

In the District, for instance, 11.5 percent of the retirement funds covering firefighters, police officers and teachers was invested in mortgage-backed securities as of Sept. 30, 2007. Such securities, often representing a convoluted repackaging of shaky loans, have been at the heart of the nation's financial crisis.

In a July letter to District and congressional officials, the D.C. Retirement Board said they seemed, at the time, like an "attractive and prudent investment."

Retirement experts said they were surprised by the choice. In a written response to questions this week, District pension officials said that the securities are down 5 percent and that they know of no defaults. "Regarding whether these investments are/were responsible, it should be noted that . . . security selection decisions are made by" outside investment managers, not staff, they said.

In Virginia, legislators shorted the benefits plan for state employees by more than half a billion dollars over two decades, according to a report by the General Assembly's oversight agency. Virginia is a rarity among governments in that state employees don't pay into their own pensions. If the pensions required employees to contribute 2 percent of their salaries, the state could save about $89 million a year, the report said. But such a move would be unpopular.

Recent losses have dramatically worsened those calculations.

The pension troubles come on top of another problem facing state and local governments: soaring retiree medical expenses. Governments have made generous promises to pay doctor bills but in many cases are just beginning to set aside the money.

Pension officials have sought to reassure spooked retirees. In a bold-print response to the market "turmoil," the District's retirement board declared in an open letter: "Pensions cannot be reduced due to investment losses."

Prospects are good, the officials said.

"I have every confidence that the markets will restore the funds to former levels," said Robert Mears, executive director of the Fairfax County Retirement Systems. "That's based on the history of the markets through time. . . . I'm talking about back as far back as we're able to study."

But Fairfax and many other public retirement funds have relied on what some analysts say are rosy assumptions. Fairfax assumes 7.5 percent growth; others assume 8 percent. Both projections outpace the performance of the Dow Jones Industrial Average in the 20th century. Mears called the projections conservative.

Although pension managers emphasize a measured, long-range approach, there are moments where they scramble to ditch a bad investment. Consider Mellon Tactical Asset Allocation. The fund had been a strong performer for Arlington in 2007.

As the market tanked, officials began bailing out; they thought it was too heavily invested in stocks. At the beginning of July, the account was valued at $211 million. After making major sales, the pension ended up losing about $34 million. It would have been about twice that had officials waited, they said.

"In hindsight, it would have been nice to do it with every manager," said Gregory A. Samay, the pension's chief investment officer.

Overall, investments have tracked the market, officials said. Linda Herman, executive director of Montgomery's retirement investment board, acknowledged it was a difficult year. "Everything went down unless you were in cash," she said, "and very few pension plans hold cash."

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