Iowa Public Employees Retirement System Assumptions Presentation.pdfRequest for Proposals Actuarial Consulting Services April 13, 2010 Iowa Public Employees Retirement System Economic

Request for Proposals

Actuarial Consulting Services

April 13, 2010

Iowa Public Employees Retirement SystemEconomic Assumptions Review

Presented By: Cavanaugh Macdonald

March 24, 2017

Assumptions have a significant impact on the

calculation of liabilities and actuarial contribution

rates Future benefit payments are dependent on number of contingent

events that are unknown

Actuaries use assumptions to estimate the timing, duration and

amount of future benefit payments

Assumptions will impact the allocation of costs so usually set

neither overly conservative or aggressive

Assumptions are just that – assumptions. If actual

experience differs from the assumption over time,

the costs will differ also

Background

2

Purpose of Experience Study

Provides basis for analyzing existing assumptions and developing recommended changes

Actuary’s role is to make recommendations for each assumption As fiduciaries, the Board is responsible for the selection of

actuarial assumptions

Board can adopt all, none, or some of actuary’s recommendations

Assumptions do not affect the true cost of the plan which is the actual benefit payments paid from the trust

3

Selection of Assumptions

Economic

•Price Inflation

•Investment Return

•Wage Growth

•COLA

•Interest Crediting Rate

•Payroll Growth

Demographic

•Retirement Rates

•Promotional/Step Pay Increases

•Disability

•Turnover

•Mortality

What Are They? Who Selects Them?

Economic

•Board

•Actuary

•Other Advisors

Demographic

•Mostly Actuary

•Board Approves

4

5

IPERS Experience Study

Performed every four years for IPERS

Monitor all actuarial assumptions and methods

used in the valuation process

Last IPERS study covered fiscal years 2010

through 2013

Next study, covering fiscal years 2014 through

2017, is scheduled for June, 2018

Economic assumptions are being reviewed earlier

at Board’s request

6

Actuarial Standards of Practice (ASOP)

Issued by the Actuarial Standards Board

Provides guidance to actuaries in the selection of

assumptions used in valuing pension benefits

Economic assumptions (ASOP 27)

Recommendation is for a “reasonable assumption”

Appropriate for purpose of measurement

Reflects actuary’s professional judgment

Takes into account historical and current economic data

that is relevant

Reflects actuary’s estimate of future experience,

observation of estimates inherent in market data, or

combination

No significant bias (not significantly optimistic or

pessimistic)

Permissible to include some conservatism for adverse

deviation

Advises actuaries not to assign too much credibility

to recent experience

Actuarial Standard of Practice

Number 27

7

Economic Assumptions

Building Block Method

Investment

Return

Individual Salary

Increases

Wage

Inflation

Real Rate

of ReturnMerit Scale

Productivity

Inflation Inflation Inflation

Productivity

Note: inflation assumption and productivity must be consistent in all assumptions.

8

Price inflation represents annual increase in cost of

living, measured by CPI

Current assumption is 3.00%

Indirectly impacts the valuation as a component of

other economic assumptions Investment return

General wage growth (which becomes part of individual salary

increase assumption)

Interest on member contribution balances

Payroll growth for amortization of unfunded actuarial liability

Dividend for pre-1990 retirees

Inflation Assumption

9

Considerations for setting the assumption

Historical inflation

Market expectations

Social Security projections

Peer group comparison

Inflation Assumption

10

Historical Inflation(measured from 12/31/16)

11

Period Inflation Period Inflation

90 Years 2.94% 30 Years 2.65%

60 Years 3.70% 20 Years 2.15%

50 Years 4.09% 10 Years 1.76%

40 Years 3.66%

-5%

0%

5%

10%

15%

194

5

194

7

194

9

195

1

195

3

195

5

195

7

195

9

196

1

196

3

196

5

196

7

196

9

197

1

197

3

197

5

197

7

197

9

198

1

198

3

198

5

198

7

198

9

199

1

199

3

199

5

199

7

199

9

200

1

200

3

200

5

200

7

200

9

201

1

201

3

201

5

Annual

Rat

e

Calendar Year

Price InflationCPI-U

Annual 30-Year Average Assumed 3.00%

Peer Group Comparison

Inflation Assumptions

Jul

20

13Source: NASRA Public Fund Survey 12

Bond Market Pricing – Difference between 30-year

Treasuries and TIPS as of 12/31/16 was 2.1%

Investment consultants’ median long-term inflation

assumption is around 2.3%

Social Security Administration intermediate assumption –

2.6% over next 75 years

Data and analysis supports lowering the inflation assumption

Recommend reducing inflation assumption from 3.00% to

2.60%

Analysis and Recommendation

13

Law sets interest rate at 1% above 1-year CD

rates.

Analyzed last ten years of actual interest credited

compared to inflation

Average was 1.01% above inflation

Recommend assumption change from 3.75% to

3.50% (inflation assumption of 2.60% + 0.90%)

Interest on Member Accounts

14

Building block approach Rate of price inflation (previously addressed)

Real rate of return

Sum is expected investment return

Asset allocation is the key factor in setting this

assumption Portfolios that are more aggressive can generally expect higher

returns along with potentially greater volatility

Most powerful assumption in valuation Small changes can have large impact on liabilities and

contribution rates

Current assumption: 7.50% (3.0% inflation + 4.5% real return)

Investment Return Assumption

15

Retirement funding is a long-term concern and so

a long-term assumption is appropriate


16

Assumed

ANNUALIZED RETURNS through 6/30/16

1-Year Return: 2.15% 15-Year Return: 6.62%




-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

An

nu

al R

etu

rn

Fiscal Year

Current actuarial assumed investment return = 7.50%*

30-year annualized return = 8.64%

*Actuarial interest rate assumption:1953 - 1993: 6.50%1994 - 1995: 6.75%1996 - present: 7.50%

IPERS Historical

Fiscal Year Returns

17

Trend has been to lower investment return assumption

Peer Group Comparison

18

Note: Investment mixes may differ significantly between funds

Forward looking analysis using capital market

assumptions

Wilshire (2017 assumptions)

2016 Horizon Actuarial Survey

2016 Horizon Actuarial Survey includes capital

market assumptions for 35 investment consultants

of which 12 provided both short-term and long-term

assumptions

Consider all information, but recognize Wilshire has

greater knowledge and insight into the IPERS

portfolio


19

Horizon Survey Assumptions

(20-Year Assumptions)

20

0%

2%

4%

6%

8%

10%

12%

14%

Range of Assumptions by Advisors

Minimum Median Maximum

Median (50th percentile) of expected returns using

Wilshire and Horizon’s capital market assumptions


21

Wilshire

(10-Year)

Wilshire

(30-Year)

Horizon

(10-Year)

Horizon

(20-Year)

Real Return 4.33% 5.09% 4.29% 5.21%

Inflation 1.95% 2.33% 2.16% 2.31%

Nominal Return 6.28% 7.42% 6.45% 7.52%

Note: Each investment consultant’s inflation assumption is reflected here.

Distribution of Expected Returns

(Percentile Results)

22

3.1%

4.3%

5.0%

6.1%6.3%

7.4%7.6%

8.7%

9.5%

10.7%

3.0%

4.0%

5.0%

6.0%

7.0%

8.0%

9.0%

10.0%

11.0%

10 years 30 years

95th

95th

75th

75th

50th

50th

25th

25th

5th

5th

Using Wilshire’s capital market assumptions including inflation.

Significant difference between expected returns in

short term and long term

Options to address this issue:

Maintain long-term assumption that is significantly higher

than short-term expectations

Lower return assumption to expected return in short-term

Use select and ultimate approach to setting the

assumption (one assumption for 10 years and different

assumption thereafter)

Use a single return assumption that blends both short-

term and long-term return expectations

Analysis of Expected Return

23

Need to maintain long-term perspective

Material difference in short and long-term return

expectations are hard to ignore given impact on

funding of System

Real rate of return expectations (Wilshire)

Short term: 4.33%

Long term: 5.09%

Current assumption of 4.50% lies between the two with

heavier weighting to short term, similar to system liabilities

Analysis of Expected Return

24

Expected Real Returns

(40th-60th Percentile Results)

25

Percentile Wilshire

30-Year

Horizon

20-Year

60th 5.58% 5.72%

55th 5.33% 5.46%

50th 5.09% 5.21%

45th 4.84% 4.96%

40th 4.59% 4.71%

Past practice set the investment return assumption

as net of administrative expenses

Average expense ratio over the last 9 years is

approximately 0.05%

Small adjustment needed to account for

administrative expenses

Administrative Expenses

26

Recommend decreasing investment return

assumption from 7.50% to 7.00%


27

Recommended

Real Return 4.50%

Inflation 2.60%

Administrative Expenses (0.05%)

Net investment return 7.05%

Typically consists of price inflation and productivity

(standard of living increase)

Historical data is based on the national average

wage index from Social Security Administration

General Wage Growth Assumption

28

Historical Statistics(rolling 30-year periods)

29

0

0.01

0.02

0.03

0.04

0.05

0.06

0.07

Wage Inflation vs. CPI-U

Wage Index - 30-Year CPI - 30-Year

Some Limitations

– Reflects entire workforce subject to FICA

– Based on increases in average (mean) wage

Over last 25 years, median real wage increase

was only 0.42% compared to mean wage increase

of 0.77%

Median real weekly non-farm wages increased

only 0.24% from 2005 to 2015


30

Assumptions for Social Security projections (high,

intermediate and low cost) range from 0.5% to

1.8%, with 1.2% as the intermediate assumption

Recommend reduction from 4.00% to 3.25% with

components shown below:


31

Current Proposed

Price Inflation 3.00% 2.60%

Productivity 1.00% 0.65%

General Wage Growth 4.00% 3.25%

Payroll growth assumption is used to determine the

amortization payment on Unfunded Actuarial

Liability Unfunded Actuarial Liability is amortized as a level percent of

payroll

Need an assumption about future payroll amounts over the

amortization period

Current assumption is 4.00% composed of 3.00%

price inflation and 1.00% real wage growth

With a given set of economic assumptions, a lower

payroll growth assumption provides a margin for

adverse deviation

Payroll Growth Assumption

32

Recommend no assumed growth in the size of the

active membership

With a stable population, total covered payroll is

expected to grow with general wage growth

Actual IPERS’ experience indicates covered payroll

growth near general wage growth, after adjusting for

increase in active membership

Recommend lowering payroll growth assumption

from 4.00% to 3.25%

Payroll Growth Assumption

33

Summary of Recommended

Economic Assumptions

34

Assumption Current Recommended

Price inflation 3.00% 2.60%

Interest on Member

Accounts

3.75% 3.50%

Investment return 7.50% 7.00%

General wage growth 4.00% 3.25%

Payroll growth 4.00% 3.25%

Effective June 30, 2017

The change in investment return is the most

significant change

Lowering investment return assumption results in

higher normal cost and actuarial liabilities

Actual contribution rate impact will depend on

period over which the increased liability is funded

Cost Impact of Changes

35

Amortization policy leaves duration of assumption

change to the Board

Gains and losses are amortized over 20 years, so

assumption change should be no shorter

Actuarial profession white paper suggests 15-25

years is ideal, but accepts that a longer period

may be appropriate

We suggest a period in the range of 20 to 30 years

Amortization of Changes

36

Longer period results in lower contribution rates and,

therefore, less immediate impact on members and employers

Shorter period pushes the System toward fully funding more

quickly (20 years from now instead of 30)

IPERS Contribution Rate Funding Policy will tend to move the

System toward full funding by maintaining the higher

contribution rates until each group reaches 95% funding

This is the first time the Board has had to address this

situation, so no prior guidance

Board Considerations for

Amortization Period

37

Cost Impact: Regular Members(Using 6/30/16 Valuation)

38

Before Changes

Amortize Changes

Over 30 Years

Amortize Changes

Over 20 Years

Actuarial Liability ($M) $32,578 $33,884 $33,884

Actuarial Value of Assets ($M) $27,001 $27,001 $27,001

Unfunded Actuarial Liability ($M) $ 5,576 $ 6,883 $ 6,883

Funded Ratio 82.9% 79.7% 79.7%

Normal Cost Rate 10.20% 10.42% 10.42%

UAL Amortization Rate 4.01% 5.19% 5.48%

Actuarial Contribution Rate 14.21% 15.61% 15.90%

Required Contribution Rate 14.88% 15.61% 15.88%

Employer Contribution Rate 8.93% 9.37% 9.53%

Employee Contribution Rate 5.95% 6.24% 6.35%

Note: Numbers may not add due to rounding.

Cost Impact: Sheriffs/Deputies(Using 6/30/16 Valuation)

39

Before Changes

Amortize Changes

Over 30 Years

Amortize Changes

Over 20 Years

Actuarial Liability ($M) $625 $650 $650

Actuarial Value of Assets ($M) $602 $602 $602

Unfunded Actuarial Liability ($M) $ 23 $ 48 $ 48

Funded Ratio 96.4% 92.6% 92.6%

Normal Cost Rate 16.41% 16.82% 16.82%







Cost Impact: Protection Occupation

(Using 6/30/16 Valuation)

40

Before Changes

Amortize Changes

Over 30 Years

Amortize Changes

Over 20 Years

Actuarial Liability ($M) $1,417 $1,471 $1,471

Actuarial Value of Assets ($M) $1,430 $1,430 $1,430

Unfunded Actuarial Liability ($M) $ (13) $ 41 $ 41

Funded Ratio 100.9% 97.2% 97.2%

Normal Cost Rate 15.99% 16.37% 16.37%







Documents

Iowa Public Employees Retirement System Assumptions Presentation.pdfRequest for Proposals Actuarial Consulting Services April 13, 2010 Iowa Public Employees Retirement System Economic