More States May Turn to Lotteries to Fund Pensions

Untapped public assets such as state lotteries could be used to add “many billions of dollars” of funding to struggling public pension systems, according to a report from Kroll Bond Rating Agency (KBRA).

State and local governments have accumulated substantial assets over time in the form of land, facilities, and enterprises, and according to KBRA, these resources are generally recognized at values that are “substantially less” than full value on the government’s financial statements.

“There have been several recent examples of states using the value inherent in the assets or entities they control in novel ways to finance critical needs such as reducing unfunded pension liabilities,” said the report.

The report cited New Jersey’s use of its state lottery revenues to help boost its underfunded pension system as an effective way of using untapped state resources to cover shortfalls.

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In 2017, New Jersey contributed its lottery enterprise to three of its pension funds for a period of 30 years. According to the report, the New Jersey state lottery has annual net revenues of about $1 billion, which are forecast by the state to grow in the low single digits per year over the next 30 years. It also said the valuation of the lottery enterprise for the full 30-year period at the time of the contribution was $13.5 billion.

“This amount represented 7.3X the pension contribution the state funded in the prior year,” said the report. “In addition, it significantly increased the funded ratio of the state’s pension funds from 45% to 59%.”

However, coming up with a valuation for these kinds of assets can be challenging, particularly because many of them tend to be illiquid and have non-standard investment characteristics.

The report also said that because the use of these assets would be a non-recurring event, they would be put to better use toward long-term needs such as unfunded pension liabilities, or infrastructure projects. KBRA cautioned that liquidating fixed assets to finance short-term or operating expenses would be “problematic” from a credit perspective.

“Contributing assets that are illiquid or that do not generate cashflow to pension funds may improve some arbitrary ratios, but in our opinion, these kinds of transfers are not likely to improve fundamental credit characteristics,” said the report. “Management could do better by contributing assets that generate cash flow, and/or are expected to appreciate and then can be liquidated in the future.”

KBRA said it expects to see more states like New Jersey turning to public assets to help finance capital and other critical needs.

“As these plans are implemented,” said the report, “it will be important that they are thoughtfully used for long-term purposes, and the underlying causes of the current shortfalls are better managed going forward.”

Tags: funding level, Kroll Bond Rating Agency, lotto, Pension

The world’s largest pension fund gained 3.42% in its second fiscal quarter, valuing it at $1.46 trillion.

Japan’s Government Pension Investment Fund’s performance was dominated by foreign and domestic equities, accounting for a combined ¥5.3 trillion of the ¥5.4 trillion increase. The rest of the returns came from foreign bonds, which caused an upswing in yields to 13 basis points at the period ended September 30, from the previous quarter’s three basis points.

The fund’s president, Nohiro Takahashi, backed the stock returns, adding that “good domestic and overseas economic indicators as a whole and solid corporate performance supported the market.” He also noted the yen’s depreciation during the quarter due to the “backdrop of the expansion of domestic and foreign interest rate differentials” helped raise the assets of the fund’s overseas stocks and bonds, which account for more than 40% of the plan’s assets.

The quarter also marked the first time the Government Pension Investment Fund’s foreign and domestic stock allocation was higher than domestic bonds.

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The organization has been lowering its bond weighting in recent months, as a change in its policy asset allocation has allowed it to decrease the holdings more than was previously acceptable. The last major asset reform, announced in October 2014, had a 35% target for domestic bonds, with a 10 percentage point range to go higher or lower. Toward the end of the last quarter, however, it changed its tune, as the total weighting for bonds and cash was at 33.84%.

The fund’s current operating guidelines will also let it put five percentage points of its portfolio toward alternatives such as private equity, real estate, and infrastructure.

Japan’s asset mix for the quarter was 25.70% foreign equities, 25.65% domestic equities, 25.26% domestic bonds, 14.81% foreign bonds, and 8.58% short-term assets (which is currently just cash).

Tags: GPIF, Japan, Pension, Returns