Asset allocation is the primary determinant of any portfolio’s risk, or volatility, and return potential, including PERA’s. Asset allocation simply refers to the portion of PERA’s total portfolio that is invested in the five asset classes. The PERA Board of Trustees regularly revisits the strategic asset allocation to determine whether the fund needs to be differently proportioned. A critical part of that work is called an Asset/Liability Study, which evaluates the relationship of the plan’s assets and liabilities, as well as the plan’s risk tolerance.
The Board’s investment consultants, Aon, began the latest Asset/Liability Study in late 2018 and recently provided its findings at the Board Planning Session earlier in September.
The key objective of the Asset/Liability Study is to identify the appropriate risk posture for the portfolio in the context of the liabilities of the portfolio, or the right level of risk for the overall portfolio of assets. Making this determination requires three key decisions: the overall mix between return-seeking and risk-reducing assets; the composition of the return-seeking portfolio; and the composition of the risk-reducing portfolio.
The Board is expected to use the results of the Asset/Liability Study, the timing of projected cash outflows, and overall risk tolerance of the fund in order to determine a strategic asset allocation later this fall.
[PERA’s current asset allocation policy can be seen here.]
Reevaluating its strategic asset allocation every three to five years, as PERA does, is a best practice for institutional investors and a cornerstone of prudent governance of a pension plan. The updated asset allocation policy will provide guidance on the most appropriate mix of assets to be held in the PERA Trust Funds in order to meet the future financial needs of the plan for the sole benefit of its members and retirees.
Also included in the Asset/Liability Study is information about key assumptions and possible alternative portfolio compositions:
- Long-term capital market expectations for a variety of asset classes are used to model different asset allocations based on Aon’s expectations. Since PERA is a long-term investor, it relies on long-term assumptions about how the capital markets will perform and economic environments will shift.
- Risk and performance expectations with different asset allocations. Aon’s analysis looked at a range of combinations of different asset classes in a variety of weights, including global equity, fixed income, private equity, real estate, private debt as well as asset mixes designed to mitigate risk. Aon generally favors careful diversification into a broad set of asset classes with attractive risk and return properties to improve portfolio efficiency, and its specific analysis for PERA has been customized to reflect PERA’s particular needs and circumstances.
Additional information from the presentation of Aon to the Board at its September Planning Session can be found here.
As the Board continues the process of refining the analysis of the Asset/Liability Study and developing its updated strategic asset allocation, PERA on the Issues will continue to provide new information on the Board’s conclusions.