American state and local pensions have less than 73% of the assets they need to fund future obligations to public workers, according to a survey of 180 plans by Boston College’s Center for Retirement Research. They believe they can help keep that gap from widening by earning an average of 7.4% annually.

The surveyors “take plans at their word” when it comes to these investment assumptions, says CRR’s Director of State and Local Research Jean-Pierre Aubry. Maybe we shouldn’t.[…]

A 30 year Treasury bond today yields less than 2.6%. Meanwhile, the cyclically-adjusted price-to-earnings ratio (CAPE) compiled by Nobel laureate Robert Shiller, which a Vanguard Group study found had the best ability to predict medium-term stock returns, is above 30 today. It was at just 16 back at the end of 1987.

When the CAPE has been above 25 then subsequent S&P 500 10-year returns have averaged just 4.1% over the ensuing decade based on data going back to 1928. A portfolio 70% invested in stocks and 30% in high-quality corporate bonds today might therefore be expected to return about 3.8% over 10 years. It could be higher, but even the best historical result would fall short of pension funds’ forecasts.

Read the whole article at The Wall Street Journal.

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This article quotes selections from “America’s Public Pensions Are Stuck In The Clouds,” by Spencer Jakab, in The Wall Street Journal, July 26, 2019.