STRS Board Reviews Recommendations From Experience Study, Weighs Impact on Financial Condition – February 17, 2017

At the February meeting of the State Teachers Retirement Board, staff summarized the results of the experience study recently completed by the board’s actuarial consultant, Segal Consulting. An experience study is completed every five years to help the system make accurate economic and demographic assumptions used to measure the financial condition of the pension fund. The economic assumptions include the rates of inflation, salary increases, overall payroll growth and the investment return on assets. Demographic assumptions include the number of retirements, disability inceptions, withdrawals from the system and deaths among active members and benefit recipients.

The results of the study showed that STRS Ohio should consider adjustments in several key areas that will have an overall negative impact on the system’s funding status. Segal’s recommendations included: lowering STRS Ohio’s investment return assumption, adopting updated mortality tables that account for increasing lifespans among benefit recipients, and reducing the payroll growth and inflation assumptions. Of these recommendations, the change in the mortality assumption — to recognize that benefit recipients are living longer and collecting benefits for longer than expected — and the change in the investment return assumption have the biggest financial impact.

STRS Ohio’s current investment return assumption is 7.75%. Segal, as well as the board’s investment consultant, Callan Associates, have indicated the retirement system’s diversified portfolio of assets is unlikely to reach this return target over the next 10 years. Segal used various studies and factors to determine a likely investment return range of 6.95%–7.45%. Many retirement systems throughout the United States have lowered their expected return rates over the past year.

The board is expected to adopt new actuarial assumptions at its March 16 meeting. If the board adopts all of Segal’s recommendations, STRS Ohio’s liabilities — the value of benefits earned to date by members and retirees — will increase by about $11.5 billion. This would extend STRS Ohio’s funding period well beyond the state of Ohio’s goal to pay off unfunded liabilities within 30 years. This would indicate the need for the board to make benefit plan design changes to meet the state’s funding goal. The board will consider plan design changes in March with a focus on providing a sustainable benefit to active and retired members, while preserving the fiscal integrity of the pension fund.

Asset-Liability Study Shows STRS Ohio Investment Policy Alone Not Enough to Close Funding Gap
The Retirement Board’s investment consultant, Callan Associates, updated the board on its current asset-liability study. STRS Ohio conducts this study every five years with the primary objective of determining reasonable investment risk and return expectations. Callan modeled STRS Ohio’s liabilities, then modeled various investment asset mixes using long-term capital market projections. Callan noted that STRS Ohio took significant steps to close its current funding deficit through pension reforms in 2012. Callan reported that the pension fund’s asset mix will need to retain a strong orientation toward growth — in pursuit of return — to achieve its funding goals; however, investment policy alone will not be sufficient to close the current funding gap. Callan reviewed several potential asset mixes and emphasized that with annual benefit payments of more than $7 billion per year, the portfolio needs to have enough liquid assets — like fixed income investments — to meet these ongoing payment streams. The board will continue its discussion on asset mix at its annual investment seminar at STRS Ohio March 2–3.

Board Receives Update on Health Care Fund Status
Segal Consulting presented the results of its annual actuarial valuation of the Health Care Fund. The report shows that based on the current long-term discount rate of 7.75%, the valuation projects the Health Care Fund to remain solvent until 2039, an increase of six years from the Jan. 1, 2016, valuation. The projected 22-year solvency is an estimate. Depending on the strength of financial markets, the amount of health care claims and whether additional funding is available, there is a chance the life of the fund could be shorter or longer than indicated. Segal also shared that if the board adopts the recommended actuarial assumptions (noted in the lead story above), the projected solvency of the Health Care Fund would be reduced to 18 years.

The primary reason for the increase in the solvency period is the health care plan changes implemented Jan. 1, 2017. These changes included a reduction in the subsidy for non-Medicare plan enrollees and the phase out of the Medicare Part B reimbursement.

The Health Care Fund is valued on a calendar-year basis. During 2016, the fund earned a 7.8% rate of return. Costs for the health care program are paid out of the Health Care Fund, which is currently funded through premiums charged to enrollees, government reimbursements and investment earnings on these funds. The fund balance as of Jan. 1, 2017, was $3.22 billion, nearly $36 million below the $3.26 billion reported in the Jan. 1, 2016, valuation report. Benefit payouts during fiscal year 2016 totaled $677 million, an average of more than $1.8 million per day.

Board Continues Discussion on Plan to Improve Health Care Program Solvency
In July 2014, the Retirement Board discontinued the 1% employer allocation to the Health Care Fund because these monies were needed for the pension fund. With no new sources of revenue for the health care program, the Retirement Board is evaluating options to keep the Health Care Fund solvent until funding from the employer contributions can be returned — likely to be 20 years or more. Staff reviewed with the board several health care models that are designed to extend solvency for the health care program for 35 years or more.

Board discussion centered on plans that are consistent with one of the pillars of its health care strategic plan — to establish Medicare as the health care program’s cornerstone. With that in mind, most of the health care models under consideration would provide a higher premium subsidy percentage for Medicare enrollees than for non-Medicare enrollees. Under each of the models presented, costs for all participants are expected to increase, as health care program costs continue to grow.

Member Survey Results Reveal Positive Overall Impressions of STRS Ohio
Dr. Martin Saperstein presented the results of the 2016 membership survey. Phone surveys were conducted in December 2016 with active educators and retirees of the system. Notable findings from the survey results included:

Most members surveyed (96% of retirees, 85% of active educators) have positive overall impressions of STRS Ohio.
More than 80% of retirees and active educators feel STRS Ohio has earned the trust and confidence of its members.
Compared with last year, fewer members believe the pension system is financially sound.
Compared with last year, fewer members consider their pension an excellent or good value.
Nearly three out of four retirees and nearly two out of three of active educators have positive impressions of the Retirement Board.
Most members are satisfied with communications, including email updates, and most members feel that STRS Ohio keeps them well informed about pension- and retirement-related issues.
More than nine out of 10 retiree households have at least one source of income in addition to STRS Ohio and, on average, STRS Ohio provides 62% of retirees’ household income.