The global rout in financial markets this year is putting pressure on state and local government pension funds in the United States, many of which were already struggling to pay future retirement benefits for public sector workers.
The hit to returns from pension systems for firefighters, police and civil servants could, in turn, jeopardize the financial health of local governments who have to foot the bill, according to a report on Tuesday by the Moody’s Investors Service analysts.
“The recent losses in U.S. public pension investments, which we estimate are approaching $1 trillion, risk significantly compounding the pension accountability challenge that many governments already face,” said Tom Aaron. , vice chairman of Moody’s, in the note.
Since the financial crisis, these concerns have been shared by municipal bond analysts who fear that a collapse in public pension funding levels after a recession could hurt the overall solvency of municipalities.
As of March 20, public pension plans were on track to incur an average investment loss of about 21% in the fiscal year ending June 20, according to Moody’s estimate.
In stocks, the S&P 500 SPX,
was down more than 24% since the start of the year, and the Dow Jones Industrial Average DJIA,
was about to drop more than 27% over the same period. Major U.S. equity benchmarks managed to reverse some of their losses on Tuesday amid expectations that a fiscal stimulus package will soon be passed by Congress.
Managers of state and local pension funds have also faced the problem of falling interest rates.
On the one hand, falling Treasury yields have lifted the value of repo fixed-income portfolios, serving as ballast for the broader decline in financial markets.
But it has also had the effect of inflating overall public pension liabilities by lowering the average return they can expect from bonds, forcing pension fund managers to rely on volatile stock markets and other risky assets. to make up the shortfall.
The yield of the 10-year Treasury bills TMUBMUSD10Y,
closed down 0.813% on Tuesday, down from around 1.91% at the start of the year, based on Tradeweb data.
Moody’s noted that the markets still have the potential to rebound.
But if stocks and other risky assets fail to rebound substantially and cover lost ground, the financial hit to public pensions could leave a heavy bill for local and state governments to pay.
“Without a dramatic rebound in investment markets, the 2020 pension investment losses will mark a significant turning point where some state and local government’s downside credit quality exposure to pension risk will materialize. due to already increased liabilities and reduced ability to defer costs,” Aaron said.