Let’s run the math. Some state pensions guarantee 7.5%. If they don’t make the return, then it’s up to taxpayers to make up the difference. For perspective, the five-year Treasury yields 0.71%. You have to go back to the early 90s to find the last time the five-year Treasury yielded 7.5%.
In order to meet the 7.5% guarantee, state treasurers are taking on more risk, including investing in hedge funds, but returns have yet to materialize. Through Tuesday, August 22, The Wall Street Journal reports that measures of hedge fund performance are not off to a great start to the year. The All Hedge Index is up 3.2%, the Convertible Arbitrage up 5.2%, the Dedicated Short Bias down 10.08%, the Emerging Markets up 2.22%, the Equity Market Neutral up 2.55%, and the Event Driven up 0.96%.
Politicians were all too willing to increase the guaranteed rates of return in the good times. Now they’re slow to reduce them. It’s easier for politicians to hope for higher returns and kick the can down the road to get re-elected. But hope is not a strategy.