Context Lacking on PBS Newshour Discussion of Pensions

The PBS Newshour last night included a segment on state and local pension liabilities. While it included Josh Rauh, one of the people who has been most visible raising alarms about the condition of state pensions, it did not include the voice of anyone who was prepared to defend the financial situation of state pensions.

This meant, for example, that when Rauh told viewers that unfunded liabilities came to $9,000 for every U.S. household, there was no one to point out that this comes to less than 0.3 percent of projected household income over the next 30 years, the relevant time frame for paying off this unfunded liability. It is likely that listeners would be less concerned if they were given this additional piece of information.

There was also no one to point out that pension funds are simply assuming that their asset mix will get their historic rate of return when they assume an 8.0 percent. Contrary to Ruah's statement:

"Anybody who's looked at their own accounts lately know that that's very difficult particularly in an environment where bonds, 10-year Treasury bonds are yielding 1.6 percent."

A knowledgeable person could have reminded readers that the price to earnings ratios for stock have now fallen back to their long-term average. While it was in fact foolish for pensions to assume 8.0 percent returns when the PEs were inflated in the 90s and the last decade, as some of us pointed out at the time, it is difficult to construct a plausible scenario now where pension assets will provide a return that is much below 8.0 percent.

Unfortunately, because the show did not have a balanced panel, there was no one to make these points to viewers.

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written by David M, June 20, 2012 4:44

I only caught the last few seconds of this segment, and I wondered if PBS would have been decent enough to actually present a balanced report. Thanks for confirming my suspicions.

-1

Krugman
written by Bart, June 20, 2012 8:30

Also, despite initially promising five nights of the Krugman interviews, PBS have moved this to their web site for the four remaining segments. I wonder how that decision evolved.

2000-2009: 0% return in S&P 500
written by TVeblen, June 20, 2012 10:03

One thing Wall Street is good at is inducing amenesia among us "defined benefit"ors (what an Orwellian name for a self-managed retirement account where no benefit is defined!). OK, so when I started contributing to my account many years ago, I based my earnings assumptions on the Siegalian long-run inflation-adjusted equity return of roughly 7%. Well for the last decade us S&P500 "indexers" got exactly 0% (Walmart? MSFT? - big "0%"'s all around). And so as we wait (and wait and wait) for the Dow to get back to 14,000, I suspect that most of the boomers (like myself) are beginning to face the possibility that the magic real 7% is likely to remain a mirage for the next decade (or longer?). Unlike a defined-benefit state pension fund manager - who probably has a bunch of maturity-matched bonds from the 1990s and early 2000s - the individual "201(k)" account holder is suffering through low nominal returns while our health insurance premiums book ahead at 6-10% per year. Why the hell didn't PBS get one of their own reporters to "do the math" on their 403(b) retirements accounts or health insurance costs? Pension crisis? Hell there's a pension crisis, but it is among the millions of Americans who've been shafted by the cult of the defined benefit program!

8% in the bag?
written by tew, June 20, 2012 11:46

Wow. "it is difficult to construct a plausible scenario now where pension assets will provide a return that is much below 8.0 percent."

I mean, Wow! That 8% is usually taken to be against 2% inflation, implying around a 6% real return. What economy in the world is going to generate 6% annual real returns for decades? Is that really the expected growth rate of world economies? Because corporate profits cannot in the long run grow faster than the economy. And it is impossible for everyone to reinvest dividends. Yet this is what is implied. It's an incredible delusion.

Oh, and not to mention that U.S. corporate profits as a percentage of GDP are at historical highs and that this is a mean reverting data set. But I get it: Out of one side of your mouth is the glib claim that high single digit returns are guaranteed. Out of the other side of the mouth come denouncements of record corporate profits at the expense of labor.

8% Really?
written by fresno dan, June 21, 2012 4:03

http://www.cnbc.com/id/4766827...lobal_Rout

8% ? Really? With demographics? With the real price of oil rising substantially? It is a flaw of humans to extrapolate - so is extrapolating the last 5 years wrong, or the period after WWII?

Yes folks, I noticed the stock market plunge 2000-2009
written by Dean, June 21, 2012 4:57

That is the point -- I expected low returns in the period from 1997-2009 because the stock market was high. I expect higher returns now because the stock market is low. This is arithmetic, look at our calculator look at my paper. It is simple -- even an economist should be able to figure it out. btw, the assumption is that real profits grow at the same pace as the economy and stock prices grow at the same pace as profits. This gets you 2.5 percent real return. The other part of the 6.5-7.0 percent real return for stocks comes from dividends and/or share buybacks. And, I always look at trend profits in calculating PEs, not momentary peaks or troughs.

-1

Interest Rates
written by Bob Canuck, June 21, 2012 7:27

I saw the first part of the segment an also read the transcript. I was very surprised that there was no mention of the significant impact that low interest rates have had on the liabilities. Declining interest rates increase the discounted liabilities of the various pension plans. As interest rates rise, the liabilities will be reduced and, all things being equal, the pension deficit will shrink or be eliminated. Given that interest rates are at all-time lows, interest rates will rise at some point.

The Newshour segment was sub-standard.

PBS Newshour Always Lacks Context
written by leo from chicago, June 21, 2012 9:01

The PBS Newshour always lacks context. In their first segment this week about Paul Krugman all Paul Solman could talk about was nuance and how Krugman was hurting people's feelings! But don't believe me, look at the segment yourself:

http://www.pbs.org/newshour/bb/business/jan-june12/krugman_06-18.html

In any case, Krugman replies in exasperation:

"Except it's true, right? And people like me have been right so far. And that doesn't mean we will always be right."

That's the kind of context the the Newshour consistently lacks.

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written by liberal, June 21, 2012 10:24

tew wrote,

That 8% is usually taken to be against 2% inflation, implying around a 6% real return. What economy in the world is going to generate 6% annual real returns for decades?

I agree with the sentiment, but don't forget that by the Gordon equation there's more to real returns than just increases in earnings (which for simplicity we can take as roughly equal to GDP growth). There's also the initial payout component (dividends).

mean reversion v. random walk down wall st.
written by pete, June 21, 2012 11:34

The idea of mean reversion and market timing suggested by Dean here has been disproven in oh so many different papers. Only stock brokers want traders to try to time the market this way, since it leads to nice turnover and commissions. Market risk premium is down to around 4% by most estimates (see Graham and Harvey), so add that to the 2.75% 10 year to get like 6.75% expected total return on equities (including dividends). Blend that with the 2.75% or so 10 year bond return, and you get something like an expected 5% nomial return for a balanced portfolio. Less the 2.5% or so expected inflation, and its slim real expected pickens. But go ahead, California banked on these returns in the late 90s (of course listening to the 99%, not Shiller and Baker)....ooops....Illinois is trying to borrow at 4% to invest in stocks to pay off the pensions...good luck.

But bottom line is there is no evidence of mean reversion in stock returns as required to get these expected returns from.

Robert Shiller sees 4% real returns--maybe
written by Richard Genz, June 21, 2012 12:01

Dean,

I know we need to head off pay cuts for public employees somehow. But encouraging pension managers to bet on high returns in the stock market does not strike me as a smart strategy. At the least I think when you cite P/E ratios as a strong predictor of returns, you shouldn't call such analysis "arithmetic." I remember that Nassim Taleb documented that a major portion of average equity returns is generated by highly unlikely and unpredictable price moves such as the 1987 crash and the 2001 crash. In the same vein, he stresses the fallibility of advanced quantitative models that try to forecast markets (but he doesn't recommend substituting arithmetic instead). When trillions of taxpayer money are at stake how can we afford to rely on pension fund managers to assume best-case returns?

From Business Insider, here's Robert Shiller, who knows a lot about P/E's and stock markets, expecting 4% real returns, with caveat about reliability of P/E.

"In new interview with Money Magazine's Penelope Wang, Shiller offers some bad news for stock market investors.

Citing his 10-year cyclically-adjusted price-earnings ratio (aka CAPE ratio aka Shiller PE), Shiller estimates that the expected long-run inflation adjusted return on the stock market is just 4 percent.

But he warns that even he doubts the predictive power of his namesake ratio."

Read more: http://articles.businessinside...z1yRmsFDbA

"I know we need to head off pay cuts for public employees somehow. "
written by pete, June 21, 2012 12:21

This is not clear. What should be examined is turnover rates. Wages will be appropriate when you get turnover, i.e., the pay is just enough to keep you, but once in a while the smart folks leave for greener pastures. This is the way it works, for example at the university level...lots of movement. Instead, in government, including public eduction, often you have lifers, much more so than in industry, indicating overpayment.

But the real problem is excessive overhead, a lot of this the result of over regulation....such as (admittedly extreme case, I hope) the Wisconsin School that had 5 taff for 1 student. Or the NY teachers who can't teach but can't be fired so are warehoused.

In my 1-8th grade we had 50 kids on average per class, another way to get costs down.

Nassim Taleb Did Not Find Anything That Contradicts Arithmetic
written by Dean, June 22, 2012 5:03

Sorry Richard, Taleb's analysis is 100 percent consistent with what I wrote. Pensions don't have to give a damn if the market plunges in 2001 or soars in 1996-2000. They only need to look at long period averages. And, this is arithmetic -- read my work. There is no way around it. 3+4 will always equal 7, you just can't change that fact.

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written by paul, June 25, 2012 8:03

Pete, 5 staff per student? I knew LA Unified School District was big, but I didn't know it employed every household in the city! Talk about "job creation".

Context Lacking on PBS Newshour Discussion of Pensions

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