In his Wednesday column this week Rich Rifkin did a brilliant job of laying out the exact problem that I have been harping on for a couple of years now, and that is the entire city model of impacts of pensions has been too optimistic because the assumptions that they are based on – the rate of return – as laid out by CalPERS (California Public Employees’ Retirement System) is too optimistic.
Mr. Rifkin does a good job of showing what happens when the assumption of 7.75% ARR (Annual Rate of Return) is reduced by just a quarter of a percentage point to 7.5%.
“To know what a realistic return rate is, I studied the historic returns of the major broad market stock indexes. What I found is that 7.25 percent is far more likely than 7.75 percent,” he writes.
He continues, “Considering that 7.25 percent seems to be a reasonable assumption over the long run, a fair question is why did CalPERS think it could earn 7.75 percent per year?”
“There are two possible answers: One is hubris, thinking they could outsmart the market. Unless you have the skills of a Bernie Madoff, no stock pickers ever beat the market by very much over the long run,” he suggests. “The second explanation is CalPERS didn’t look far enough back in history. For example, the average 10-year return on the S&P 500 from January 1962 to January 2005 was 7.83 percent. The 20-year return average was 8.21 percent and the 30-year return was 7.76 percent.”
I think there is a third explanation that Mr. Rifkin doesn’t make, and that is that they are simply going to continue their more risky investment plans which have produced a much higher yield over the years, but make them vulnerable to the kind of losses they suffered in 2008.
Moreover, while Mr. Rifkin focuses on stocks, he doesn’t focus on their more heavy investments, which are property and other more risky ventures.
And indeed, they have made up some of their losses during the recovery by showing 9 to 10 percent annual rates of returns. This may lead some to suggest that this was a temporary problem, but others have suggested that by relaxing their assumptions, it will in the long term relieve pressure on the cities and other local governments now taxed under a huge burden.
How big a burden are we talking about?
Sue Greenwald cited the number of $7 million when rate increases are calculated with the correct 7.25% ARR.
Mr. Rifkin did a great job of laying out the problem, particularly since the Davis Enterprise, for reasons completely unbeknownst to us, failed to cover one of the most important policy discussions that will ever take place in this community.
But he does not have space to go to the next step. And the next step is to determine just where in the hell we will find $7 million in the next few years, when revenues are stalled along with the economy.
If you look through the answers to questions 3 and 4 that we posed the prospective council candidates, I think we capture a huge problem and I do not want to single them out, but rather use them as an example of where the general public is on this.
Walter Bunter actually knows the math here, as he writes, “Council members have lost confidence in CalPERS. Councilmember Sue Greenwald estimated that using a more realistic 7.25% ARR means that the City’s costs would increase by $7 million.”
He adds, “This situation makes our budgeting process very difficult.”
Kerry Daane Loux adds, “I think it’s safe to say that every city in the state is facing similar problems of budget shortfalls and unfunded liabilities created by policies adopted in ‘fat’ years, just as most private citizens have had to tighten belts in this difficult economic downturn. The harsh reality is that sacrifices must be made across the board. While none of the options available to address this untenable situation is attractive—instituting a two-tiered pension system, layoffs or furloughs, hiring freezes or salary reductions—concessions must be made.”
Dan Wolk may have a slightly deeper understanding, “Under current estimates (which may actually undervalue the problem because of the CalPERS rate of return), we are looking at a nearly $100 million liability between retiree health benefits (OPEB [Other Post-Employment Benefits]) and pensions (CalPERS). And this does not include capital projects, such as improvements to the wastewater treatment plant or transportation infrastructure, which also should be considered ‘unfunded liabilities.’ “
He adds, “All this translates into millions more per year that would have to come out of our already-squeezed budget.”
And he’s right, but even he does not go into the next step – how do we eliminate $7 million from our books?
This is the sad part that I think we need to come to accept – we are likely looking at huge cuts in city services. If you look at the budget for the city, you realize quickly where cuts are going to have to come from. A huge portion of the general fund goes to public safety. Another huge chunk goes to parks and rec.
Public safety compensation is indeed a huge chunk of this problem. No one wants to talk about this, but the Vanguard has spent many a column and article talking about fire compensation, the rate of increase last decade and their pensions which are literally crippling this city’s budget not only 3% at 50, but 3% at a base salary of $100,000.
Mr. Rifkin puts math to this problem. Under the current rate of return assumption, “the percentage of salaries for public safety would increase from 22.85 percent this year to 30.3 percent in 2013-14. In other words, for a firefighter making a $100,000 base salary, the taxpayers will have to pay $30,300 every year on top of that to fund his pension, an annual increase of $7,450.”
However, despite criticism of the fire department and less so of the police department’s compensation, council is likely to fear any perception of cuts to “public safety.” And yes, I have laid out in stark terms the fact that our inability to fund basic road maintenance represents a huge threat to public safety – far more than a reduction of public safety salaries and pensions.
I believe if we are going to cut back on services, we will start with another huge chunk of the general fund – parks and rec. That means closing parks. It means the browning of green belts. It means the end of recreation for our children.
This is where city services and the loss of services will really hit home with the public. Everything else is nebulous and abstract. When the parents cannot send their kids to play soccer and get swimming lessons, then you will see the impact of cuts.
But the real problem is that the public really does not recognize that this is coming. They have been told that this is affecting every community and we are better off than most. They have been shown numbers that are relatively small and manageable.
The people applying for the council certainly are not prepared for the fact that in six months they will be sitting in a packed house, hotter than anything inside and out, with a bunch of screaming parents wondering how it came to cutting the city’s funding for recreation.
They ought to talk with school board members who faced this music in 2008 with proposed cuts to programs, closures of schools and layoffs of teachers. That is what we are facing at the city level now. That is what $7 million means. To the pain.
—David M. Greenwald reporting
Many thanks to both the Vanguard and Rich Rifkin for pounding away at this critical issue…
The bond market is no longer the safe haven it used to be. I wonder how much of the supposed 7.25 % is attributed to the bond market?
[i]”I think there is a third explanation that Mr. Rifkin doesn’t make, and that is that they are simply going to continue their more risky investment plans which have produced a much higher yield over the years, but make them vulnerable to the kind of losses they suffered in 2008.
“Moreover, while Mr. Rifkin focuses on stocks, he doesn’t focus on their more heavy investments, which are property and other more risky ventures.”[/i]
This is a good point. I didn’t get into investment returns other than with publicly traded stocks. And it needs to be said: A pension fund must–for cash-flow purposes–keep some of its funds in cash, short-term bonds and other very liquid assets. The reason I didn’t get into non-stock asset returns was A) I wanted to keep it as simple as possible and B) I only have so much space in a column.
However, I have a different understanding than you have about likely returns on investment with regard to “more risky investment plans which have produced a much higher yield over the years.” I question the notion of higher risk producing higher yield ‘over the years.’ The evidence suggests otherwise ([url]http://www.signaltrend.com/InvTips/DoSmallStocksOutperformLargeStocks.html[/url]). In short periods, you might have much higher gains by concentrating on small caps or a hot sector, such as tech stocks or pharmaceuticals or whatever. But if you look at a longer-run picture, adding risk (by reducing diversity) does not produce better returns. What it does is it produces higher portfolio volatility, meaning higher highs and lower lows.
As to real estate–notwithstanding the current slump–it is generally a safer* (lower Beta) investment than stocks, but [i]with a lower yield[/i]. The income growth from a real estate holding tends to inflate roughly at the rate of income growth in our economy as a whole (or more precisely, it will grow at the income growth rate of the metro area in which it is physically located). By contrast, corporate profits tend to inflate at a much higher clip than the economy as a whole.
This raises a couple of questions: 1) Why would a pension fund invest in real estate if it produces a lower yield in the long run?; and 2) If real estate is less profitable than stock investing, how is it that fat-cats like Donald Trump make so much money in real estate?
The answer to the first part is that, normally, pension funds put only a small percentage of their portfolio in real estate. (CalPERS might have been excessive in that regard.) The reason for a fund to buy office buildings, shopping centers and so on is because they tend to produce steady streams of cash. Funds need cash to keep paying their pensioners every month. A lot of stocks pay no dividend, or if they pay a dividend, most of the ROI is in appreciation, not cash. Therefore, in order to “cash out” stocks, the fund has to keep selling them as they appreciate, and that process can raise risk, because you will often end up selling at inopportune times.
(I should note here that funds also buy bonds for the same reason–even moreso–that they invest in real estate. They need the cash flow, even though bonds pay less in the long run than stocks do.)
The second question regards the huge profits of the Donald Trumps and Walter Shorensteins. The bulk of their long-term income is not made from leasing units. They make their money in development: turning an empty lot into an office building, and profiting from the great increase in the price of land; or essentially doing the same thing by buying an obsolete property and recreating it as something new and better which buyers or leasers prefer. (As Davis residents know, a lot of money can be made simply by getting a change in a property’s zoning.) What distinguishes the Trumps and Shorensteins and so on from other developers has been their keen ability to read what the local market wants, to manage the production of that under-supplied asset, and to raise enough capital and debt to get these tough projects built. (It also helps that they tend to have a lot of well-greased friends in government.)
A fair question with CalPERS is can they act as a Trump? The answer is simple: No. Even if CalPERS invests in raw land or the construction of a new housing subdivision or a new shopping mall or land for an office tower, pension funds ultimately have no ability to “develop.” What they do in these cases is buy in early and hold on for a normal, long-term return. They might luck into a few good land deals. But they will luck out of just as many. In the long-run, pension funds have shown no success in real estate investing beyond the normal returns expected in buying mature assets. However, because a fund like PERS is so freaking large, they can diversify their development deals enough (in the long run) that the risks of their buying raw land and the like should not be too great (unless this class of assets is overrepresented in their portfolio).
*Safer means the income stream is more consistent with less peaks and valleys.
With what we are experiencing in the public sector, it is clear to me that government – fed, state and local – as designed, is incapable of prudent long-term fiscal management. Thanks to people like Rich and David, more people are beginning to understand the scope of pending financial disaster at our local level. Why does it take this herculean effort to stop the bus from crashing into the wall that should be clearly visible?
The long-term solution, I think, is for government to start divesting itself from the employment business. Outsource everything possible. Let private for-profit business employ all the resources, and the government can perform the job of contract administrator. Expertly written contracts and performance clauses and incentives will ensure that adequate service levels are achieved (I would expect better service for most things the government currently attempts to provide). Competition for contracts will drive down costs. Private-sector management best practices will pay labor for performance, and not seniority. Labor/talent will be priced at market rates. The inside risk to this working is the PEU; the outside risk is the potential formation of private-sector unions. We need new legislation to strengthen right to work laws, and also strengthen the laws and penalties against unions for strikes and other methods of wage extortion.
FDR started the ball rolling cementing the mindset that American government was a capable employer. It was a lie then and it probably would have been discovered had not WWII happened. As a result, it has taken us the better part of a century to run out of the credit needed to perpetuate that lie.
[i]”The second question regards the huge profits of the Donald Trumps and Walter Shorensteins. The bulk of their long-term income is not made from leasing units.”[/i]
So why do they own and manage buildings? The answer: taxes. (And to a lesser extent “management fees” which they charge their investors.)
By refinancing and holding, a “devloper” can sort of sell a building off and continue to own it without paying any taxes on the money he took out of the building.
Take a hypothetical brand new Trump office building. Say it has 100,000 square feet of continually leased space and the net rents he gets are $20/s.f./month. That means its net income per month is $2 million and per year is $24 million ($20 x 100,000 x 12). If the building has a discount rate* of 7.5%, then it is worth $320 million ($24/0.75).
Say Trump spent $180 million to buy the land, pay all City fees, construct the building, pay leasing agents and so on. And say he used $50 million of his own capital** and got a loan of $130 million.
So at this point, he has a paper profit of $140 million. If he sold the building to CalPERS, after repaying his loan, Trump would have that cash in his pockets, but he would have to pay federal, state and local captial gains taxes on that $140 million in profit.
But instead, Trump can refinance his project. Say he can get an interest-only loan for $320 million at 7.5% per year. On that, Trump would owe $2 million per month to his lender–exactly the amount of income his building produces. Thus, because interest payments are tax deductible, the building would produce no taxable income at all.
Trump would then have $140 million in his pocket tax free: $320 – $130 – $50. He could either spend that money to support his lifestyle. Or more likely, he would use that money as capital in new projects.
The great problem with this strategy–one Donald Trump and most other big-time developers have run into–is that when a market gets overbuilt or when the economy slumps, that $2 million per month income he needs to pay his lender might not completely be there. If he could not restructure his loan or make the payments out of his pocket, the project might become insolvent; and that then makes it tougher the next time he wants to refinance.
To reduce that risk, lenders will generally limit the debt:equity ratio on a building. In this hypothetical example I used 1:1. But more likely, lenders will limit their exposure closer to 70% or 75% debt:equity.
*The higher the discount rate means the higher the risk and hence the less valuable the asset. Appraisers determine these rates based on the class of a building within its market. Old, run down commercial buildings will have a higher discount rate than a new Class-A office building.
**It’s not uncommon for a guy like Trump to put up no more than 5-10% of the capital in a development project. The rest he will raise from his limited partner investors. Trump will then substantial make fees from the partnership as a “general partner.” And when his agents lease space in his building, he will charge the partnership fees for that, as well as more fees for managing the property.
[quote]Robert Shiller was on CNBC New Year’s Eve to make his forecast for the S&P 500 index in 2020. His best guess is a 1430 level which works out to 14% price appreciation over the next ten years or 1.3% annually. [/quote]
Shiller is an Econ Prof at Yale who saw the housing crisis coming. His methodology uses historical (lagged) earnings rather than current earnings. Jeremy Grantham and John Hussman use similar methods and get similar results. You can also look at price/sales, Tobin’s Q and get the same basic result–stock returns will be low. The US stock market is still over valued.
Also pension funds do not typically have 100% of assets in stocks. In the old days it was 60/40 stocks/bonds; but things have changed.
7.25% is better than 7.75% but still totally unrealistic.
[i]”His best guess is a 1430 level which works out to 14% price appreciation over the next ten years or 1.3% annually.”[/i]
10-year returns on the S&P can be volatile. I don’t have a guess as to what the S&P will sell for 10 years from now. All I know is that the average 10-year return from 1950-present is 7.27% per year.
The worst 10-year performance of that index is -5.08% per year. If you had bought the S&P 500 on Feb 1, 1999 (when it closed for 1238.33) and sold it on Feb 2, 2009 (when it closed for 735.09), not counting any dividends, your annual ROI would have been -5.08%.
The best 10-year performance of the S&P 500 was from August 1, 1990 to August 1, 2000. The index sold for 322.56 at the close on 8-1-90. 10 years later it sold for 1517.68. (On January 3, 2011 it closed at 1276.34.)
[i]”Tobin’s Q and get the same basic result–stock returns will be low. The US stock market is still over valued.”[/i]
When an analyst says the market is “overvalued,” generally he is saying one of two things or a combination of them.
1. That the current price to earnings ratio for the market is too high; or
2. That the future earnings of the companies in question will fall from where they are today.
The current PE Ratio (2-4-11) stands at 23.97 to 1 for the S&P 500. That is higher than the average PE Ratio from January 1, 1950 to the present.
On the other hand, PE Ratios for all stocks have tended to run higher almost always for the last 19 years. (I am not sure why.) It’s possible that something changed in 1992; or it’s possible that the market has been overvalued almost continually for nearly 20 years.
From 1992-present, the S&P 500’s PE Ratio has averaged 26.5:1. From 1950-1991, the PE Ratio averaged 14.95:1.
While I don’t have a specific guess as to where the S&P 500 will be in 10 years, I would say this: If someone tells you it will grow at much less than 7.25% per year, I would bet the over.
P.S. Take the points. The Steelers will cover. My prediction: Pittsburgh 27-Green Bay 20.
Rich
it’s even worse.
Right now corporate profits are extremely high. By averaging over time, shiller, grantham and hussman get a more realistic picture. They are the smart money, not the wall street analysts who use current earnings or earnings forecasts that academic studies have shown are far too high.
This year will probably be good for stocks as third year of presidential term. After that caveat emptor.
As Mark Twain said “Lies, damn lies and statistics.” It seems that if lowering the return on investment you need to put up more money all of you anti-pension people would want a higher roi assumption not a lower one. I did find Rifkin’s article of interest because he admits that if he used a different starting point he would get a different conclusion. In fact if he used 1949 instead of 1950 he would get a really big difference.
in 1949, Sir John Templeton, made a fortune by buying 100 shares of every listed New York Stock Exchange company selling for under a dollar a share. So what a difference a year would make. In fact last year the sp500 returned 13% and the two year return is over 50%. Sadly the 3 year return is -4%. So you can see that it all depends on your time frame.
Second guessing the pension funds assumptions is not easy and it doesn’t matter anyway since future returns can’t be predicted. Building a scenario where you essentially pick a number and change everything is a dangerous game, one, I believe, best left to the trustees of the pension funds who can afford the best financial advise. By choosing a number that differs from the one used by the funds you can make any kind of argument you want but when you have responsibility for thousands of workers pensions it is a much different responsibility than being a blogger with no responsibility beyond your own fantasies.
Good stuff. Very helpful.
The bond market was never safe and stocks, as already pointed out, are essentially a gamble. Forgive my lack of deep understanding (I anticipate the criticism; experience is the best teacher) but, in my opinion, the present conundrum is the result from the feeling, always present during boom periods, that the good times will never end. A few years ago a still current member of the California Assembly told me not to worry about how to pay for a bill he was promoting. “There will always be enough money,” he said, and meant it.
[i]”It seems that if lowering the return on investment you need to put up more money all of you anti-pension people would want a higher roi assumption not a lower one.”[/i]
Ultimately, it does not matter so much what the assumption is, but what the actual returns are. The assumption is only important for planning a few years out.
Moreover, you should note that CalPERS is the body which has said it no longer believes that 7.75% is sustainable. The opinion of bloggers did not change CalPERS’s view. I think reality did.
[i]”I did find Rifkin’s article of interest because he admits that if he used a different starting point he would get a different conclusion.”[/i]
Not just a different starting point, but a different ending point, too. To avoid this problem, I used a much longer period than necessary (more than 60 years), using all of the market data available for the S&P 500.
[i]”In fact if he used 1949 instead of 1950 he would get a really big difference.”[/i]
This is completely untrue. I should note two things: one, I started with January, 1950 because that was the earliest date in the data set for the S&P 500. (The index itself goes back only to 1957, but from 1950-57 there is recreated data on Yahoo Finance.) And two, it would make no real difference in ROI to make the change you suggest.
Using the DJIA for 20-year periods from January 3, 1949-January 3, 2011, you get an annual ROI of 6.75%; using the DJIA for 20-year periods from January 3, 1950-January 3, 2011, you get an annual ROI of 6.72%.
It is true that 1949 was a good year for the stock market. But over the long-run that one year is balanced out by all others.
[i]”Building a scenario where you essentially pick a number and change everything is a dangerous game, one, I believe, best left to the trustees of the pension funds who can afford the best financial advice.”[/i]
Again, you are focusing your anger in the wrong direction. It is CalPERS which has said 7.75% is no longer sustainable. You seem to be attacking me for agreeing with them.
[i]”By choosing a number that differs from the one used by the funds you can make any kind of argument you want but when you have responsibility for thousands of workers pensions it is a much different responsibility than being a blogger with no responsibility beyond your own fantasies.”[/i]
One more time: It is CalPERS which has said they no longer believe 7.75% is achievable. I think their new number, 7.25%, is realistic. Others (like Dr. Wu) think 7.25% is too high an assumption.
But to repeat myself: what ultimately matters is their actual ROI, not their assumed ROI. The assumption’s importance is for member agencies, like the City of Davis, so the members can plan for the next few years.
[i]”The bond market was never safe and stocks, as already pointed out, are essentially a gamble.”[/i]
Nonsense and nonsense.
The bond market is a safe place to invest, as long as you are diversified. In fact, there never has been a safer place to invest than U.S. T-bills, which are bonds. (They now have T-bills with inflation protection built in, making those even safer.)
That is not to say you cannot get risky bonds and ultimately lose money with those risks. Corporate bonds which are junk grade–made famous by Michael Milkin–are much riskier than AAA corporate bonds.
But even a basket of AAA corporate bonds can be too risky if they are not diversified. A wise investor protects himself in this regard by buying a broad basket of AAA bonds; U.S. treasury bonds; and some solid and very diverse municipal bonds.
Another aspect of bond risk is buying and selling them. If you are highly diversified, default risk is extremely low. However, if you are trading bonds–that is, selling them before they mature–you are adding undue risk. That is gambling.
You say that stock investing is “gambling.” It can be if you don’t understand diversification and you don’t hold for the long term (20 years or more). But there is no reason to think stock-investing is “gambling” in any sense of that word if you have a divers stock portfolio and you are a long term investor and you hold a stock portfolio which is appropriate for your age group. (Younger investors should hold more stocks; older less.)
[i]”Forgive my lack of deep understanding (I anticipate the criticism; experience is the best teacher) but, in my opinion, the present conundrum is the result from the feeling, always present during boom periods, that the good times will never end.”[/i]
I think that is spot on.
It’s ultimately the same at the local and state level. Instead of capping spending growth at a sustainable rate–around 3.5% per year–the state increased spending at triple that during the bubble years. From 2003-2007, state spending increased 10.32% per year on a compounded basis.
[img]http://gregor.us/wp-content/uploads/2011/01/California-Budget-2000-2010-plus-2011-Proposed.jpg[/img]
Had the state capped spending growth and set aside its excess revenues, we would have had enough money to either have no cutbacks during the recession or at least have much less severe cutbacks.
The fault for this method is mostly the Democrats and the CTA which insisted on spending like drunken sailors. But it’s also largely the voters who passed some irresponsible initiatives and voted down other responsible initiatives. And lastly it’s partly the Republicans who some years back insisted that when there are excess revenues the state must give the money back to the taxpayers in a rebate.
The City of Davis went through the same drunken spending free. But overspending in the short run is not our biggest problem, now. Our great crisis is the liabilities to workers which we have built up, those coming from unrealistic and unaffordable promises our City Council has made to them.
CORRECTION: “… the same drunken spending spree.”
[i]”It’s ultimately the same at the local and state level. Instead of capping spending growth at a sustainable rate–around 3.5% per year–the state increased spending at triple that during the bubble years.”[/i]
I just checked my math on this and 3.5% spending growth may be too high. If you start in 2002, when the state spent $98.90 billion (according to that graph above) and you had inflated spending 2.85% per year (compounded), 9 years later (in 2011) we would spend $127.40 billion (just what the graph says we are spending this year).
In other words, we never would have had a single year of state spending cuts (on UC, K-12 education or any other areas of the budget) had we simply saved any tax revenues above 2.85% for the rainy day which came in 2008-09.
“The fault for this method is mostly the Democrats and the CTA which insisted on spending like drunken sailors. But it’s also largely the voters who passed some irresponsible initiatives and voted down other responsible initiatives. And lastly it’s partly the Republicans who some years back insisted that when there are excess revenues the state must give the money back to the taxpayers in a rebate. “
Actually the last Governor was a Republican and he spent every cent in the treasury in 2005-2006 trying to get re-elected. In doing so he gave raises that were not sustainable and busted the budget.
Why not put pensions on the ballot? Let the voters determine the pension packages that city workers receive. For that matter, let the voters have a say in pay raises. It would be an interesting twist on union negotiations!
The answer, of course, is a return to the gold standard. If elected, I will be a never-tiring champion of the return to the gold standard. I will end every speech with “we must return the gold standard.”
[i]”Actually the last Governor was a Republican and he spent every cent in the treasury in 2005-2006 trying to get re-elected. In doing so he gave raises that were not sustainable and busted the budget.”[/i]
After the failure of Prop 76 ([url]http://ballotpedia.org/wiki/index.php/California_Proposition_76_(2005)[/url])–which would have restricted spending growth in a manner similar to the one I suggest above–Gov. Schwarzenegger essentially governed like a liberal Democrat. He was not beholden to the unions. But he never bucked them again.
The unions, especially the CTA, deserve a lot of credit* for defeating a rational spending plan, like Prop 76. But again, the ultimate blame must go for the voters of California. They rejected that effort by Schwarzenegger to rein in spending, and now they blame everyone but themselves for the out of control spending by the Democrats.
*”Campaign spending on Proposition 76 was lopsided with $26 million spent to defeat it. The California Teachers Association contributed over $13 million to the campaign against Proposition 76.”
[i]”Why not put pensions on the ballot? Let the voters determine the pension packages that city workers receive.”[/i]
I suspect that is where we are going. I tend to think that Jerry Brown is rational, and thus will attempt to moderate the overly expensive public pension problems. But I don’t think he wants to unnecessarily get in a fight with the unions, especially the prison guards and the firefighters. So if he does not stand up to them, one of the various pension reform initiatives will get on our ballot. And as long as it is not batsh!t crazy, I think the voters will probably approve a reform referendum. One of them ([url]http://www.californiapensionreform.com/pension-reform-proposals/alternative-b/[/url]), which is gathering signatures now, calls for a change in state law which would reduce the pension formulas of all existing state employees down to 1.25% at 65 for miscellaneous and 1.6% at 55 for CHP and prison guards; and it would allow local governments to do likewise.
[i]The answer, of course, is a return to the gold standard. If elected, I will be a never-tiring champion of the return to the gold standard. I will end every speech with “we must return the gold standard.” [/i]
One of the most interesting elections we ever had: 1896, William Jennings Bryan (a horrible person, by the way) and the Cross of Gold.
Perhaps the most enduring legacy of that campaign was the parable novel (and later film) depicting William McKinley as “The Wizard of Oz ([url]http://prosperityuk.com/2001/01/a-wonderful-wizard-of-oz-a-monetary-reform-parable/[/url]).” By the way, until I read that link, I did not realize that the place was called Oz, because Oz. stands for ounce, as in an ounce of gold or silver.
One important distinction to keep in mind is the difference between real and inflation adjusted rates of return.
It will not be hard to meet a 7.75% return projection if inflation is running at 10% to 15%, or more.
This is essentially the plan being put in place by the Obama administration. Inflation will destroy pension plan promises and eliminate underwater mortgages.
Unfortunately it will also lead to radical economic dislocations and inefficiencies, and a lowering of our standard of living. But that’s more or less inevitable now.
Bryan I knew about. Oz I did not. Very cool.
“Why not put pensions on the ballot? Let the voters determine the pension packages that city workers receive.”
One problem with that is the point I was making in this article, the public really doesn’t understand this issue that well. The assumption that a lot of people make is that the public is ready for pension reform, but I don’t see the public as driving this debate right now. Instead it’s the local cities driving the debate because they are about to go belly up. Put it on the ballot and suddenly the people with the most money and most people can mobilize and win.
“After the failure of Prop 76–which would have restricted spending growth in a manner similar to the one I suggest above–Gov. Schwarzenegger essentially governed like a liberal Democrat. He was not beholden to the unions. But he never bucked them again.”
This is through the looking glass stuff. The first thing Arnold did was to cut the car tax blowing a hole in the budget so big that the state had a hard time recovering. When it did briefly he blew another hole in the budget by failing to create a reserve of any meaning and gave everybody big raises while expanding the size of government. A Republican who is fiscally responsible by your thinking is somehow Democrat like and therefore the Dems and the Unions are responsible for his actions.
I guess this makes Bush 43 a Dem too. His fiscal irresponsibility so mismanaged the economy that Obama has had little choice but to run deficits to keep the economy from total collapse. So I’m sure this is because of Bush’s liberal ways.
Then of course on his 100th birthday Reagan was a Dem as well. His tax cutting blew a hole in the budget of the US so big it took a real Democrat, Bill Clinton, to dig us out. I guess that makes Clinton a Republican by you standards and Jerry Brown will be one too when he cuts 12 or 25 billion from the state budget
Mr. Toad (if that IS your real name) how dare you defame the Gipper? Robust debate is one thing, but viciously attacking the dead ad hominem goes beyond the still extant but rapidly diminishing limits to civil discourse.
Other than that you made some excellent points.
So I started reading this expecting to find an increase in the employee contribution rate mentioned at least once. Nope. Whyzat?
Rifkin: “You say that stock investing is “gambling.” It can be if you don’t understand diversification and you don’t hold for the long term (20 years or more). But there is no reason to think stock-investing is “gambling” in any sense of that word if you have a divers stock portfolio and you are a long term investor and you hold a stock portfolio which is appropriate for your age group. (Younger investors should hold more stocks; older less.)”
Older folks cannot “recover” if their stock portfolio takes a dive – they don’t have 20 years to wait for the stock market to go back up. That is why so many seniors are currently underwater in their mortgages, or just barely hanging on. Income from their stock portfolios has dried up, the stocks themselves may be way down in value, which means to sell would result in a huge loss. These are desperate times for seniors who invested in the stock market. Many have literally “lost their shirts”…
To add a bit of context, if you are unlucky enough to hit a low in the stock market at the time when you hit your golden years, you are going to ultimately lose big…
RICH [b]”After the failure of Prop 76 … Gov. Schwarzenegger essentially governed like a liberal Democrat.” [/b]
Prop 76 failed in 2005.
TOAD: [i]”The first thing Arnold did was to cut the car tax blowing a hole in the budget so big that the state had a hard time recovering.”[/i]
That was 2 years earlier in 2003.
Moreover, tax and other revenues into the state government between 2003 (after he rescinded the car tax) and 2005 increased at the fastest rate in the history of California. That was the heart of our bubble.
So it is balderdash to argue that the loss of the enhanced motor vehicle license fee blew a hole in the budget. It was the rapid increase in spending which did that.
Also, the inflated car tax which Schwarzenegger rescinded in November 2003 had only been in effect for 5 months. Just 5 months. It’s not like the state was at that time or at any time dependent on those revenues.
[i]”When it did briefly [b]he blew another hole in the budget[/b] by failing to create a reserve of any meaning and gave everybody big raises while expanding the size of government.”[/i]
You are blaming Schwarzenegger here for what the legislature did.
[i]”A Republican who is fiscally responsible [b]by your thinking[/b] is somehow Democrat like and therefore the Dems and the Unions are responsible for his actions.”[/i]
I have no idea what this partisan nonsense means. It certainly has nothing to do with anything I have ever said.
[i]”I guess this makes Bush 43 a Dem too. His fiscal irresponsibility so mismanaged the economy that Obama has had little choice but to run deficits to keep the economy from total collapse.”[/i]
Again, your conclusions about my thinking are totally off base. I am not a partisan or an ideologue. I’m a pragmatist and centrist.
[i]”(Reagan’s) tax cutting blew a hole in the budget of the US so big it took a real Democrat, Bill Clinton, to dig us out.” [/i]
That is fallacious, though you don’t seem to mind when facts get in your way. It was not the case in the Reagan years that tax revenues into the federal government declined. It was that federal spending (largely on defense, SS and Medicare) increased even faster. Look at the numbers:
[img]http://www.nationalreview.com/images/chart_edwards_reagan6-9.gif[/img]
[i]”I guess that makes Clinton a Republican by your standards and Jerry Brown will be one too when he cuts 12 or 25 billion from the state budget.”[/i]
I am a big fan of Bill Clinton. I think he was a very good president in most regards.
First and foremost, Clinton was the best free-trade president in US history other than FDR. Clinton got the WTO-GATT agreement through in 1994 which substantially liberalized world trade (though not much in agriculture); and Clinton successfully won the approval of NAFTA, another improvement in trade liberalization.
Additionally, I liked the Clinton foreign policy. He deserves kudos for his work in N. Ireland, Israel, Bosnia and Kosovo. He managed foreign affairs in such a way as to make good use of our power without overextending us and overwhelming our resources. Clinton was the anti-George W. Bush, whose foreign policy was excessively ambitious and not cost-effective.
E Roberts – The ultimate horrible irony is that the concept of a laborer’s “retirement” – a very modern, recent concept – was designed around eliminating the economic uncertainties aging workers have experienced since the beginning of time, replacing the specter of slow starvation with security and dignity. But when so called “free market” principals crept into this concept, a worker’s retirement became subject to the very uncertainties that modern concept sought to replace. Once again, a comfortable retirement for millions is plagued with uncertainty and worry, where luck determines who can eat and heat their homes vs. those who must go without because they don’t have any money and are too old to compete in the labor market. There is something morally wrong with a system where comfort or depravation depends on the state of the stock market when one retires.
And let us not forget that allowing, if not encouraging, workers to essentially gamble with their retirement money by investing their savings in the stock market, served as a mechanism to shift wealth and capital from the middle class to the already extremely wealthy, because the economic system is gamed to protect and benefit the wealthy. That is why Goldman Sachs is bigger and richer than it was before this recent and continuing economic downturn, and those who are part of GS are wealthier than ever. When the average person goes to a casino and gambles with their paycheck, the casino owners ultimately win because the games are designed to take money from those who play and not give them a cent. The impression that there are jackpot winners is an illusion to keep chumps pulling the levers on slot machines. The stock market is no different. I’ve seen old men and women in casinos playing a single slot machine over and over again because they feel they’ve “invested” in that machine and that they need to keep playing in order to have a chance at winning back what they invested. People playing the stock market with their retirement accounts are no different than those poor, old fools – worse, because, if they have any chance of a comfortable retirement, the stock market is the only game in town.
ELAINE: [i]”Older folks cannot “recover” if their stock portfolio takes a dive – they don’t have 20 years to wait for the stock market to go back up.”[/i]
Most investment advisors suggest a 100-count formula for stock investors to make sure you don’t have the problem you are speaking of. What that means is subtracting your age from 100 to determine what percentage of your portfolio should be in equities. A person 20 years old should have 80 percent of his savings (100 minus 20) in stocks; and the rest in bonds, CDs, cash, etc. A person 40 years old should have 60 percent in stocks (100 minus 40). A 75 year old should have 25 percent in stocks. And so on.
If someone expects to die much younger or has some other reason to be very liquid at a younger age, he could do the same thing but subtract from 90 or 80 instead of 100.
What you want to avoid is trying to time the market, where you dump all of your stock at once. It’s far safer to gradually buy stocks (this is called dollar-cost averaging) beginning in your 20s and gradually sell them as you get older.
It really does not matter that much what the market is doing when you turn say age 65 if you have followed this approach. You will have benefitted from long-term stock growth, even if it happens that the day before you retire the market takes a big dive.
For example, the market bottomed in February, 2009. If you turned 65 right after that, kept 100% of your money in equities and sold all of your stock the day you turned 65, you still would have averaged a 5.16% compounded annual return on a broad market average (plus dividends), making your total return around 7% per year. That is twice as good as investing in real estate in Davis over the same time frame.
But you should not follow that strategy. You should have included cash, bonds and so on in your portfolio based on your age formula, so when you turned 65, you might have only converted a small percentage of stocks into cash at the bottom of the market.
[i]”That is why so many seniors are currently underwater in their mortgages, or just barely hanging on. Income from their stock portfolios has dried up, the stocks themselves may be way down in value, which means to sell would result in a huge loss.”[/i]
72 percent of home owners ages 65 and older have no home mortgage. And more seniors own second homes than the average for all adults.
([url]http://seniorjournal.com/NEWS/Money/6-12-07-SurveyOfHomeOwners.htm[/url]).
Beginning about age 30, investors should gradually reduce the share of their portfolios in stocks. Investors should trade out a small amount roughly once every year, so they have a balanced portfolio; or when they have new money to invest, they should buy in percentages so their portfolio of stocks, cash and bonds is balanced to their age. No one near retirement age should be over 30% or 35% in stocks. (Caveat: some older people well past 65 by choice. As long as they have a stable income from their work, there is much less reason for them to reduce their stock holdings.)
[i]These are desperate times for seniors who invested in the stock market. Many have literally “lost their shirts”… [/i]
No wonder I keep seeing those naked old people ([url]http://www.untoldentertainment.com/blog/img/2009_05_07/oldMan.jpg[/url]).
As to stock losses, it depends on what stocks they bought, when they bought them and how diverse their equities portfolio was. If they were gradually adding stocks to their portfolio, they made a decent return, far better than they would have in home ownership or bonds or money markets. But if they did not understand stock investing and just got into it when they were already old and they had a portfolio overweighted to stocks, then yes, they were foolish gamblers and they lost.
Good advice. But the guidelines you just described were not considered when most of those who lost their savings got involved. Too many were trying to ride the spreading wave to riches, believing the rising real estate and stock market tides would never stop rising. The same thing has happened countless times. I saw a bumper sticker in Texas in the 1980’s that read “Please, God, when the next boom comes, I promise not to piss it all away.” The modern economy is like a bowl of soda pop – with little bubbles of speculation and irrational enthusiasm rising and popping all over the place. But this last one was the mother of all economic bubbles, greater in geographic and demographic scope than virtually any that came before it.
The ultimate horrible irony is that the concept of a laborer’s “retirement” – a very modern, recent concept – was designed around eliminating the economic uncertainties aging workers have experienced since the beginning of time, replacing the specter of slow starvation with security and dignity.
The reason this is a newer concept is because in days of yore only a small percentage of our population–weighted to the wealthy–lived beyond age 65.
[img]http://www.bryanmarcel.com/wp-content/uploads/2010/11/us_life_expectancy.png[/img]
[i]”But when so called “free market” principals crept into this concept, a worker’s retirement became subject to the very uncertainties that modern concept sought to replace.”[/i]
Two things to note:
1. It was the success of the free market which increased life expectancies. Before the industrial revolution–as seen in pre-industrial societies to this day–almost all people lived very short lives. The free market generated the wealth to create better, safer water systems and other advances in health and diet;
2. The vagaries you speak of don’t exist when someone invests properly for the long term. What you are confusing is short term fluctuations, which have always been with us. Sound, lifelong stock investing is not rocket science. It can be easily understood in 15 minutes.
[i]”Once again, a comfortable retirement for millions is plagued with uncertainty and worry, where luck determines who can eat and heat their homes vs. those who must go without because they don’t have any money and are too old to compete in the labor market.”[/i]
There are more people in the world today than in any time in history who are living a comfortable retirement over age 65.
Certainly some older people failed to save or had some bad luck or made some other mistakes. But most who just followed a sound investment strategy all their lives are doing very well.
[i]”There is something morally wrong with a system where comfort or depravation depends on the state of the stock market when one retires.”[/i]
If a person followed a sound strategy and held an age appropriate portfolio, there is no system in human history which could have better aided him in retiring comfortably. It would not matter at all what day he chose to retire.
[i]”And let us not forget that allowing, if not encouraging, workers to essentially gamble with their retirement money by investing their savings in the stock market, served as a mechanism to shift wealth and capital from the middle class to the already extremely wealthy, because the economic system is gamed to protect and benefit the wealthy.”[/i]
This makes no sense. If a middle class person–say a worker for UPS–started buying stocks and bonds in 1971 when he was 25 and he retired this year at age 65, his stocks would have earned him an average return of just under 7% plus a lot more in dividends. That shifted wealth from him to the rich? What evidence do you have for such a bizarre claim?
[i]”That is why Goldman Sachs is bigger and richer than it was before this recent and continuing economic downturn, and those who are part of GS are wealthier than ever.”[/i]
Goldman Sachs is a very wealthy firm–though less so since it went public–because it has provided tremendous value for roughly 140 years to corporations which needed to raise capital.
I won’t accuse you of anti-Semitism. However, your accusations against this one company are exactly the same as those which have been made against Jews going back 500 years or more: that their companies, especially their banks, are enriching themselves on the backs of the hard work of the ordinary people solely for the benefit of the Jews. (I should add that a lot of Jewish marxists make these same indefensible attacks against Jewish banks.) The fact is that no one in the free market gives Goldman Sachs or any other bank any money unless the giver thinks he is profitting from the exchange.
Investment banks play a very important role in our economy and always have. I suspect you are completely ignorant of the history of how Jewish banks–most notably a New York bank called The Bank of the United States–were targetted for a deprivation of funds when they had bank runs in 1929 and 1930 by the Federal Reserve Bank. That kind of “eff the Jews” thinking is really what caused the recession of that time to turn into a depresssion–the Fed ended up starving our banks of cash; and that dried up the economy. (If you have any interest in facts and not just in a nonsensical anti-market ideology, I recommend you read “A Monetary History of the United States” by Milton Friedman. It will enlighten you as to the role banks play in a free economy, and how damaging them damages everyone else in an economy.)
[i]”When the average person goes to a casino and gambles with their paycheck, the casino owners ultimately win because the games are designed to take money from those who play and not give them a cent. The impression that there are jackpot winners is an illusion to keep chumps pulling the levers on slot machines. [b]The stock market is no different[/b].”[/i]
This is just utter nonsense. It [i]is[/i] a gamble to buy stocks and sell them in the short run and try to time the market. However, the risk is eliminated by holding a broad array of stocks for the long term. I’m amazed there are people who actually don’t understand that. (And by the way, I am not just talking about the US over the last 100 years. This has proved true going back to the original stock markets created by Portuguese Jews in Amsterdam after the Spanish Inquisition. They too had bubbles and busts. But long term investing in them enriched everyone who did, just as in our times.)
[i]”Too many were trying to ride the spreading wave to riches, believing the rising real estate and stock market tides would never stop rising.”[/i]
Again, you are not talking about stock investing. You are talking about pure gambling. That is a fool’s choice. Some smart person once said, “A fool and his money are soon departed.”
So don’t confuse an investor, who takes a lifelong approach, with gamblers.