September 23, 2011


In mid-August, we did our best to put the current period’s volatility into perspective. We gave you a sense of our strategies as we position our portfolios for the intermediate term. We would like to give you an update as of mid-September - to provide some perspective, historical context, as well as give you a sense as to how we are taking action for you, our Members.

What is happening?

Students of economic history will know that we have just reached 40-year low yields on most maturities of U.S. Treasury notes and bonds. For example, the 10-year bond recently reached a yield of 1.71%, a level last reached in the 1950s! The result is that this recent, dramatic decrease in rates (and increase in price) has benefited most all who own bond funds either through the Bond Fund itself, Balanced Fund, or one of the Target Annuitization Date (TAD) Funds.

The catalyst for this positive bond price action has been the slow pace of economic growth and increasing concern of recession both here and abroad, described in our last letter to you. The most recent precipitous drop (in yields, and rise in prices) occurred after Federal Reserve Chairman Ben Bernanke made comments about substantial risks to an economy already burdened by high unemployment, Eurozone problems, and the slow housing market. Bernanke also announced ‘Operation Twist’, in which the Fed would sell shorter-term securities and buy longer-term securities, lowering yields. This strategy is primarily designed to lower rates on consumer loans such as mortgages that key off of longer term securities such as 10-year bonds.  

On the other side of the ledger, it probably hasn’t escaped anyone’s notice that equity prices in the U.S. and around the world have continued to fall after a rally at the end of August. Within the equity market, larger company U.S. equities (as represented by the S&P 500) have held up the best, mostly because of the positive factors mentioned last time (fairly robust picture of corporate profits and balance sheets, as well as reasonable price/earnings multiples). Since the beginning of 2011, the S&P is down about 8%.  However, because fear and volatility are dominating this period of time, equities deemed riskier (either smaller companies or those more tied to Europe) have fallen two and three times that amount. For example, the Russell 2000 index of small company stocks is down 17% this year, the MSCI EAFE Index of international developed country equities has fallen 17%, and the MSCI Emerging Market Index of developing countries has fallen 23% year to date, as of this writing.

Some perspective

It is revealing to look at the very recent behavior of investors. The Wall Street Journal recently noted that investors worldwide have pulled $92 billion out of developed market stock funds in the three months through August 2011, and another $25 billion so far in September. Wow! The WSJ headline was ‘Investors have staged an historic retreat from stocks, abandoning their time tested “stocks for the long run” optimism.’

Last time, we made some comments about economic growth, policy intervention, and valuations. Today, I want to put the markets into a larger frame.

Reversal of Fortune

In the 10 years ended December 2010, the average ANNUALIZED return of the S&P 500 was 1.4%. At the end of 2000, the level of the Dow Jones Industrial Average was 11,000. Today it is below that. As Barron’s puts it, the PRIOR decade was one to forget. Yet, there was much enthusiasm for stocks at the start of the LAST decade. Interestingly, over that time period, S&P 500 earnings have about doubled, and according to a September 3, 2011 Barron’s article, many companies in the index have seen their earnings grow more than three-fold over that time frame.

The returns from International Developed Markets as represented by the MSCI EAFE Index were better than that of the U.S. markets over that 10-year span, with a return of 3.5% per annum. Better still was the performance of small stocks in the U.S., as represented by the Russell 2000 Index, which averaged over 6% per year. Even better was the performance of Global Emerging Markets Stocks, as represented by the MSCI Emerging Markets Index, which returned over 15% annualized over the 10 years ending in 2010. Because our EQUITY FUND is diversified across markets within ranges set by the PBUCC Investment Committee, returns to Equity Fund investors were better than the return of just the S&P 500 over that decade.

I have already described the extraordinary returns that U.S. Treasury Bonds have delivered so far this year.

In the equity market, the third quarter of 2011 has been one that has REVERSED the trends of the prior decade. In other words, large U.S. stocks (S&P 500) have outperformed most other categories of equities, especially international stocks, in contrast to the last decade.

What we will do

The best strategy we know of to benefit your assets is to keep our perspective and look for opportunities to preserve and position the portfolio for the NEXT decade rather than the PRIOR decade. As we indicated in our last note, we will be looking to tilt the portfolios (such as balanced portfolios which include both equities and bonds) to take advantage of the recent outperformance of bonds and the relatively long-term attractiveness of stocks.  

In addition, the Investment Committee has set ranges for the PB Equity Fund, a broadly diversified equity portfolio which can invest here at home and globally. Within those guidelines, we will weigh the portfolio toward geographical areas and capitalizations where valuation considerations and positive fundamentals make it likely those areas will outperform in the NEXT 10 years!  At times, this may mean staying nimble, buying low and selling high, and buying when others are fleeing. As always, our decisions will be informed by prudent and well-reasoned judgment.

We will update you periodically so as to keep you informed and up to date.

In a Q&A article, the Pension Boards outlines the benefits and risks of investing in Target Date Funds and shares why you, the member, should take advantage of the Pension Boards’ Target Annuitization Date (TAD) Funds. The TAD Funds automatically reallocate your investments in line with your anticipated annuitization date, and when you annuitize, they are converted to a defined benefit annuity – an option not provided through other plans in the financial services marketplace. Click here to read the article.

Investment Objective:

Each TAD Fund seeks levels of capital appreciation, principal preservation and current income that are consistent with its asset allocation at a particular time. A TAD Fund with a relatively long time horizon (defined as the time before a Fund’s target date) will have more emphasis on seeking capital appreciation, whereas a TAD Fund with a relatively short time horizon will have more emphasis on income and principal preservation.

Investor Profile:

These Funds are suitable for investors who plan to annuitize in or around the year of a specific Fund, who want a portfolio that automatically becomes more conservative as time passes and who do not have the time, interest or inclination to rebalance their portfolios as their annuitization date approaches. 

Fund Investments:

The TAD Funds are “funds of funds” that invest in The Pension Boards’ Equity, Bond and Stable Value Funds and thus invest in the securities permitted in those funds.

Manager(s) - click here for list of Fund managers

To access another Fund profile, click Fund name below.

• Stable Value Fund
• Sustainable Balanced Fund
• Equity Fund
• Bond Fund
• World Selection Index Fund

Investment Objective:

The Equity Fund seeks to provide long-term growth of principal and income.

Investor Profile:

This Fund is suitable for investors who are willing to accept a greater degree of principal and income volatility for some portion of their assets than will be typical of the Stable Value Fund, the Bond Fund, the Sustainable Balanced Fund or the Target Annuitization Date Funds, in the pursuit of long-term growth. Over long periods of time, the return to investors in this Fund should exceed the return to investors in the other Funds. Over shorter periods of time, however, returns to investors in this Fund could be less than the returns to investors in the other Funds, and at times the returns from this Fund will be negative.

Fund Investments:

The Fund invests primarily in a broadly diversified portfolio of domestic and international equity securities further diversified by market capitalization, sector, and style. Alternative assets are permitted up to limits established by the Investment Committee, subject to approval by the Investment Committee. Alternatives may include private equity (buyouts, venture capital, distressed), real assets (real estate, timber and other natural resource based assets) and hedge fund strategies such as arbitrage, relative value , directional,  and event-driven strategies. Futures guidelines are provided in the Investment Guidelines.

 

Manager(s) - click here for list of Fund managers

To access another Fund profile, click on Fund name below.

• Bond Fund
• Stable Value Fund
• Sustainable Balanced Fund
• Target Annuitization Date Fund
• World Selection Index Fund

Investment Objective:

The Equity Fund seeks to provide long-term growth of principal and income.

Investor Profile:

This Fund is suitable for investors who are willing to accept a greater degree of principal and income volatility for some portion of their assets than will be typical of the Stable Value Fund, the Bond Fund, the Balanced Fund or the Target Annuitization Date Funds, in the pursuit of long-term growth. Over long periods of time, the return to investors in this Fund should exceed the return to investors in the other Funds. Over shorter periods of time, however, returns to investors in this Fund could be less than the returns to investors in the other Funds, and at times the returns from this Fund will be negative.

Fund Investments:

The Fund invests primarily in a broadly diversified portfolio of domestic and international equity securities further diversified by market capitalization, sector, and style. Alternative assets are permitted up to limits established by the Investment Committee, subject to approval by the Investment Committee. Alternatives may include private equity (buyouts, venture capital, distressed), real assets (real estate, timber and other natural resource based assets) and hedge fund strategies such as arbitrage, relative value , directional,  and event-driven strategies. Futures guidelines are provided in the Investment Guidelines.

Click on the thumbnail to view chart.

Manager(s) - click here for list of Fund managers
Fee Disclosures
Historical Policy Benchmark

To access another Fund profile, click on Fund name below.

• Bond Fund
• Stable Value Fund
• Balanced Fund
• Target Annuitization Date Fund
• Global Sustainability Index Fund

Investment Objective:

The Sustainable Balanced Fund seeks to provide long-term growth of principal and income.

Investor Profile:

This Fund is suitable for investors who are willing to accept a greater degree of short-term principal and income volatility for a portion of their assets than will be typical of the Stable Value Fund or the Bond Fund, in pursuit of long-term growth of principal and income. This Fund, however, will typically be less volatile than the Equity Fund and the two longer dated Target Annuitization Date Funds. This Fund is also suitable for investors seeking a fund in which The Pension Boards will manage the allocation of asset classes approved by the Investment Committee. Under normal conditions, between 40% and 70% of the Fund’s assets will be invested in stocks, 30% to 60% will be invested in bonds and 0% to 10% will be invested in alternative assets.

Over long periods of time the return to investors in this Fund should exceed the return to investors in the Stable Value Fund, the Bond Fund, and the two shorter dated Target Annuitization Date Funds but it should fall short of the return to investors in the Equity Fund and two longer dated Target Annuitization Date Funds. However, over shorter periods of time, returns to investors in this Fund could be less than the returns to investors in the other Funds, and at times they may be negative.

Fund Investments:

The Fund achieves broad diversification by investing in units of the Bond and Equity Funds. Alternative assets are permitted up to limits established by the Investment Committee and subject to Investment Committee approval and may include private equity (buyouts, venture capital and debt including distressed), real assets (real estate, timber, natural resource based assets) and hedge fund strategies (which may include arbitrage, relative value, directional and event-driven strategies). Futures guidelines are provided in The Investment Guidelines.

Manager(s) - click here for list of Fund managers

To access another Fund profile, click on Fund name below.

• Stable Value Fund
• Bond Fund
• Equity Fund
• Target Annuitization Date Fund
• World Selection Index Fund