'The Fed has done enormous violence to the public, and to the underlying stability of the financial markets, not only by encouraging a reckless yield-seeking financial bubble as the response to a global financial crisis..'<blockquote>'..In Chicago’s case, pension return assumptions had been optimistically set at 7.5%, and the city had vastly underfunded its obligations. Still, this isn’t a Chicago problem. It’s a national, even global problem, and it’s going to get much worse. See, Chicago’s assumptions were actually below the national 7.62% average.. Chicago is essentially the rule, not the exception.
These return assumptions effectively guarantee a widespread crisis in already underfunded state, corporate, and municipal pensions in the coming decade. This underfunding has resulted from a failure to appreciate the links between reliable valuation measures, realized past returns, and prospective future returns.
..
The Fed has done enormous violence to the public, and to the underlying stability of the financial markets, not only by encouraging a reckless yield-seeking financial bubble as the response to a global financial crisis that
resulted from the previous Fed-induced yield-seeking bubble; not only by driving the financial markets to the point where poor long-term returns and wicked interim losses are inevitable (the same dangers investors faced at the 2000 and 2007 peaks); but also by creating an environment where scarce savings have been increasingly diverted to speculative activities, and where pensions have been encouraged to underfund their liabilities in the belief that past realized returns are indicative of future outcomes.
Savings and umbrellasDespite the dismal 10-12 year prospects for conventional portfolios, we strongly encourage investors to continue to save in a disciplined way, but nothing forces investors to allocate these funds to speculative asset classes. I expect the S&P 500 to lose about 40-55% over the completion of this cycle, which would be only a run-of-the-mill outcome from a historical perspective, given current valuation extremes. It’s unfortunate that prospective returns on traditionally rewarding asset classes have been driven to zero, and it may be uncomfortable to park savings in safe but low-return investments, hedged equity, and the like. Still, I strongly encourage investors to continue a disciplined saving program, even if the funds have to stay under an umbrella for a while. Market conditions will change, but the opportunity to save is always much harder to recover once it is abandoned.
..
What’s quite unfortunate, in my view, is that the strong
realized past returns of the past 25 years are now actually being taken as a justification of current, unrealistically high pension return assumptions. This, in turn, encourages continued underfunding. This inclination appears to be wholly encouraged by Federal Reserve policies, and threatens to amplify an inevitable pension crisis in the coming years. To get a full sense of the level of denial here, the following argument appeared in a February brief from the National Association of State Retirement Administrators:
"Some critics of the current public pension investment return assumption levels say that current low interest rates and volatile investment markets require public pension funds to take on excessive investment risk to achieve their assumption... Although public pension funds, like other investors, experienced sub-par returns in the 2008-2009 decline in global equity markets, median public pension fund returns over a longer period exceed the assumed rates used by most plans. Specifically, the median annualized investment return for the 25-year period ended December 31, 2015 exceeds the average assumption of 7.62 percent... Over the last 25 years, a period that has included three economic recessions and four years when median public pension fund investment returns were negative, public pension funds have exceeded their assumed rates of investment return."
National Association of State Retirement Administrators, NASRA Issue Brief, February 2016To draw an inference about
future returns using investment returns over the
past 25 years is to draw a line from the depressed valuations of 1990 to the obscene valuations of today, and then extrapolate it indefinitely. The
realized past returns of this period have been strong precisely because they have robbed from
future expected returns. The tide will turn, as it always has in
complete market cycles across history, and as investors discovered during the market collapses of 2000-2002 and 2007-2009. The erasure of realized past returns will restore reasonable prospects for future investment, as other retreats have done. Meanwhile, keep saving, reach for umbrellas, fasten your seat belt, and brace for the consequences and eventual opportunities that the current recklessness will bring.'
- John P. Hussman, Ph.D.
The Coming Fed-Induced Pension Bust, May 23, 2016</blockquote>
Context<blockquote>
'..I believe a monumental de-risking/de-leveraging cycle has commenced..''..saving, wise investment and production are what creates wealth, not spending and consumption..'Mises - Money and Credit - '..the recession was a problem of under-saving, and over-consumption..'</blockquote>