Pension Committee - Regular Meeting

of the minutes from the meeting held on May 20th. Is there a motion?

I noticed a typo. I think it was on page two. It said physical instead of fiscal.

Okay.

So other than that, I move to approve as submitted.

Okay. We have a motion and a second. Can you call the roll? Yes. Amanda DeRosa. Aye. Justin Burris. Aye. Earl Hall.

Aye.

Greg Sample.

Aye.

Alan Bozeman. Aye. Erin Tucker. Aye. Okay. Okay. So next we have Chris Rollins on the screen. Hi, Chris. We get to see you today. You'll be reviewing our second quarter fiduciary governance calendar and then any flash reports and recommendations for rebalancing. Great.

That is correct. Okay. And I will pull up our report. I think everybody can hopefully see it on the screen.

Yes.

Great. Fantastic. Well, I hope everybody is having a great summer. It's good to see everybody. We have the second quarter investment review for the pension portfolio. It coincides with the plan's fiscal year. We had really solid results for the fiscal year. I'll get into that in a little bit more detail. This does mark the fourth consecutive year of actuarial gains for the portfolio. And so this will ultimately serve as meaningful tailwinds to the plan's funded status. But before I do, and before I go through optics on the portfolio, just a gentle reminder to this group, as stewards overseeing the plan, we do have our fiduciary governance calendar as outlined here. And the purpose of this calendar is to assist you as stewards overseeing public fund assets and carrying out your fiduciary responsibilities. Now, you're not governed by ERISA. This is not an ERISA plan, but state laws like Tennessee have prudent investor acts as an example that clearly outlines a series of duties and responsibilities in overseeing public fund assets. So, this calendar really serves as kind of checks and balances throughout the year, you know, understanding the optics in a public plan, right? You come under the scrutiny of stakeholders, the press, Freedom of Information Act, So you have to stand ready to deliver on your decisions and information around the plan. And this is exactly what our report is designed to do, is to really create a defensible fiduciary trail. So in the first quarter, as you'll see, we kind of provide fiduciary training around best practices, what you should be doing throughout the year. We review the investment policy statement as an example. That's an important governance document. to make sure it's in good order and this quarter is a focus in on fees and fee transparency it allows you to to readily deliver to uh stakeholders uh you know kind of the transparency and the cost of the uh of the pension portfolio so that there's no hidden fees there's no commissions there's no inherent conflict which we'll highlight in a minute and then also the liquidity profile the portfolio right so as an example we just uh started working with a plan About $300 million in assets, about 30% of the portfolio is invested in private equity and private real estate, unbeknownst to this group, and 30% of their portfolio is illiquid. So we had to kind of explain to them, you know, you need to be cognizant of that illiquid feature, particularly as these plans mature and you're kind of taking money from the portfolio to kind of meet benefit payment distributions. That's not the case for Murfreesboro. You'll see in a moment that the plan is 100% liquid, daily valued assets. In the third quarter, we provide optics around the municipal landscape, so we have about 120 plans that we advise to in our database that provides you insight, what are other plans doing around the discount rate, funded status, and asset allocation, so it provides some insight along those lines. And then the fourth quarter is we revisit the asset allocation, right? So we know that the asset allocation is not necessarily static. It should and will evolve over time based upon where your discount rate is, based upon capital market assumptions. So it really serves us the opportunity to re-underwrite the portfolio and reaffirm that the asset allocation and its underlying structure is consistent with your goals and objectives and some of our best thinking as well. So this quarter, as I mentioned, is really around fee transparency. And what we're doing here on this page is just outlining each of the investments in the portfolio and their corresponding fee structure. So at a $222 million portfolio, the expense is roughly 42 basis points. And this number is netted out of the performance of of the results of each manager. But as you can see, kind of in this fourth column, right in the first column, you can see each manager, you can see the assets aligned with those managers, the estimated annual fee monetized when you look at the estimated annual expense ratio. So, again, at the end of the day, you know, full fee transparency. There's no hidden commissions. You know, fiduciary doesn't receive any commissions. There's no insurance products where there's some hidden fees. You know, full fee transparency. Most of these are daily valued 40-act mutual funds that are readily liquid. So, you know, full fee transparency that you can stand ready to deliver to you any inquiries with regard to the cost structure of the portfolio. So I'm going to move outside the governance calendar. I'll provide some information on capital market performance and then jump right into the portfolio, portfolio returns. I'm also cognizant of Aaron's need to depart at 845. So let me provide some insight around fixed income and equities. It was a rather conducive environment for the last quarter of the fiscal year. You know, fixed income markets have a positive return, a modest return, about 70 basis points and about 60 basis points on a year-to-date basis. So interest rates have moved up pretty meaningfully from the start of the year. So the 10-year is a bogey. You know, it was about $4.15 at the start of the year, and we're up to today as we speak about $4.70. We're going to talk about that a little bit further in terms of the recommendation we have about rebalancing back towards fixed income. It does represent an attractive entry point. But, you know, as interest rates do rise, as they have done so far this year, it does put a little bit of pressure on bond prices on a go-forward basis. it drives the total return profile for fixed income. So fixed income provides that important balance in the portfolio setting. So fixed income is up about 70 basis points for the quarter, 60 basis points on a year-to-date basis, which would be the last six months of this fiscal year. And then you can see high yield just given the higher yield profile. It's more sensitive to the dynamics of the economy and default rates. We're up about 2.5%. So we have a very modest allocation to high yield and that provided an attractive return profile. But just to the right where you see it was really driving meaningful performance results for the second quarter and tailwinds to the fiscal year returns was equities, both domestic and global. So, you know, equities did rally in the second quarter. We have our second, excuse me, seventh consecutive quarter of double-digit earnings growth, attractive margin. And that's, you know, kind of taken front and center. you know, kind of away from sort of the noise around geopolitical risk. And yes, the markets are sensitive to the dynamics with the straight or hard moves, but investors have been, you know, looking at the underlying strength of the economy and corporate earnings. that have supported these equity valuations. So we had strong results from large cap. You can see up 15% for the quarter. That's reflected by the S&P 500. And then small cap had a really nice rally as well. Small cap was up about 21%. We have a nice allocation within the portfolio in small cap. But it has been a lower quality rally. So for active managers, it's been a little bit difficult time because some of the lower quality non-earners have been the clear winners where quality companies have been notable laggers. But in any event, absolute returns continue to trend higher. and then international markets a little bit more subdued so right in the developed markets you don't have the big ai play as you do here in the u.s international developed think along the lines of eurozone in japan you have those more traditional sectors like energy and industrials but with a weaker dollar in international is up about 10.8 percent for the quarter 9.4 percent year to date And then the theme in emerging markets was just the AI ecosystem play here. So in emerging markets, the top three countries now are South Korea, Taiwan, and China. At the beginning of the year, that wasn't the case. Taiwan and South Korea were both up about 80% of those markets on a year-to-date base. A lot of that has been driven by retail investors and leverage. So a lot of institutional managers are a little bit coy around developments in South Korea and Taiwan. They recognize the important role it's playing within this AI framework around semiconductors and chip makers, but they think that the market has gotten ahead of itself there. But in any event, you can see, you know, about 24 percent return for emerging markets. We do have a reallocation. in the portfolio. So, REITs were up nicely, up 10.7 percent. Year-to-date, up 15 percent. So, our allocation of REITs served as a tailwind of performance. And then you can see commodities. Commodities, which has certainly benefited the portfolio, given sort of the dynamics in play with the Strait of Hormuz. Commodity prices pulled back in the second quarter as we saw some progress with diplomatic efforts. So, you're kind of seeing this give and take around commodities. Right now, commodities in July, we have the July flash report. We're positive. I think we're up about 8%. So that is a volatile asset class, and it's leading to us sort of the conclusions to maybe take a little bit off that asset class on a go-forward basis, just given the positive return profile that we've experienced. So moving away from capital markets, and please, any questions, feel free to jump in. I want to highlight the asset allocation of the portfolio as it stands today. You'll see in short-term liquidity, we have cash, and that's designed for benefit payment purposes. It's not a tactical call on our part. It's designed specifically to meet ongoing pension benefit payments. Our fixed income allocation today is at 35 percent. Our long-term target is at 44%, and that's grounded in some of the asset allocation study and work that we've done. So on a go-forward basis, we want to get there in a judicious, cautious manner, recognizing where valuations are with equities, where we are with yields, where we are with Fed policy. And we think today represents a compelling opportunity to take a step forward towards that long-term target, and I'll highlight that in a moment. It is a high quality fixed income portfolio, double A, single A within Pinnacle and Baird. We don't want to take a lot of risk within fixed income. We'll take risk elsewhere in the portfolio, but we look at fixed income to just provide that important ballast to offset the equity risk within the greater portion of the portfolio. Our domestic equity, you can see, had a weight of 27% versus 21% versus our long-term target. We're pretty rich in valuations right now. The S&P is trading about 21 times earnings, which is slightly ahead of historical averages. That could suggest, on a go-forward basis, we start pulling a little bit from equities into fixed income as we look at that target. But, you know, being a little bit overweight, obviously, to that long-term target has provided some important investment results given just the run-up that we've had. And it's a properly diversified allocation. We have large cap. We have mid and small cap. And the small cap run-up has certainly benefited the portfolio as well. I would say more recently, given that a lot of the managers in the equity sleeve focus in on high-quality assets, you know, absolute numbers, relative numbers were a little bit challenged. They're better numbers as we speak over the last couple months, because we've seen the market broaden out into other areas outside AI, and that benefits some of the active managers. So it's been a nice rotation. We anticipate that your managers, like a Pinnacle, would fully participate in that rally. And Pinnacle's done a really nice job, I would say, over the last seven months, as an example. International equity, as you can see, allocated across a couple managers. And then within the real asset class, we've taken a little bit deeper dive, working with our defined benefit business council, our investment committee at Fiducia to provide some insight and guidance along the lines here. We have a 5% allocation to your natural resources. We think it plays an important role, but we think we can curtail that allocation. We've had a big run-up in natural resources. It is a fairly volatile asset class. If you look at it historically, you get a big run-up in natural resources. You get a supply-demand imbalance. then the kind of production improves to offset that imbalance, and then, you know, commodity prices come down. But we've had about a 35 percent return within that sleeve. We think it could play a role in the portfolio, but, you know, I think we're more comfortable at about a 2 percent allocation, as we'll outline in a moment. And then within REITs, REITs plays an important role. We do have Duplicative strategies, you know, principal and Cohen and Steers, managing two REIT strategies. Cohen and Steers is renowned for just being a REIT manager. They're a really great firm. The return profile versus principal, they've outperformed principal over almost every period. You know, we would probably advocate just kind of consolidating the manager structure, maintaining the overall weight, but consolidating that structure. And we have a slide in here that articulates that. So the good news is the numbers, right? The good news is performance results. For the quarter, we were up almost 7% net, slightly ahead of our benchmark. Our year-to-date number, 8.3%. When you monetize that, that's roughly about a 17% gain. And then the more important number that goes in the books is the 14.7% return. So, that's a big number. That represents your fourth consecutive fiscal year of actuarial gains. Last year, you had a 10.1% return. The previous fiscal year was 10.9%. And the previous fiscal year, 2023, we had a 7.7% return. Now, you're not going to recognize all this gain in one year. You're going to amortize that or smooth that out over a couple of years. And what's happening right now is you're going to lose 2021 in the calculation. That was a 27% return. And we still have to amortize one year left of 2022 when the portfolio is down 11%. But I think these last four years, ultimately, with your plan at roughly 78% funded right now, these return profiles are going to serve as meaningful tailwinds going forward to help to improve the plan's funded status outside of any changes with some of the assumptions and actual experience. And what I mean by that, if you had a salary assumption of 3%, but The experience was 6%. That would be cost prohibitive, right? If you had people living longer than the mortality tables, that's cost prohibitive and would serve as a headwind to improve funded status. But given these outsized returns, you know, 14% versus 7% is your discount rate, you know, these are strong gains that will continue to fuel improvements in the plan's funded status. So really good results really across the board. Um. As we get into each of the kind of the line items here, we step outside the top line number, so 14.7%. Where were we getting some of the return profile? So within fixed income, you can see we had a 4.1% return for fixed income, and the benchmark was about 3.8%. Now, just given the manager's understanding, the manager's objectives, where they're pretty much aligned to their benchmarks, we would expect a return profile somewhere around 50 basis points to 100 basis points.

Oops.

I wonder if he knows he froze.

I doubt that he does.

He's probably still, yeah.

I'm sure Melissa's getting Chad for us to see if we can unfreeze it. Well, at least we all get to look at each other.

I've got my glasses on, and it's all a little blurry, so it's okay.

It's probably preferred. You mentioned you have to roll out here at quarter till?

Yeah, but Amanda can step in as vice chair if the meeting's not done. I was hoping to get... Any action items completed?

I sent him a chat. If you have him on, like, can you text him?

I don't have his phone number.

I sent him a chat on the Zoom link that he's frozen, but...

Okay. Do you... Where did he go? Do you know if Marcus has his number, Alan?

Who's?

Chris Rollins. Melissa might.

I'm looking to see. It's in that email.

Okay. Well, I emailed and asked him to log off and log back on. Okay.

Trying so hard. Made it.

Isn't that media wonderful? It is. You probably do a lot of meetings like this though, don't you?

We do. We have a lot of Zoom meetings. Zoom and Teams both.

Yeah.

Technology is great when it works.

That donut looks really good. I'm not going to get one. I'm not going to do it.

Here you go. I got a sale. If you need a sale. All right.

How are the fish biting, Earl? Not good. It's just too hot. I haven't really fished since early July, mid-July. If you're going to go fishing, you've got to get up at dark and be there for two hours, and then you can leave and then go back at dark. I don't like fishing in the dark.

Driving and fishing and setting up in the dark, yeah. Yeah.

So we'll let them cook a little bit until September, and then it'll start back. There he is.

Sorry about that.

What happened? Just froze up. Yeah? Yeah, you had just started on that, talking about the turns. Okay. Okay. Let me share my screen.

I think we were looking at the manager performance slide. Yeah, the manager.

You had just started that. You were 30 seconds into that.

Yeah. So I think I was highlighting fixed income performance, right? Correct. Expectations that we would get modest excess return above the benchmark, right? We're not going to get 300 basis points of excess return because we're just not taking that credit risk. And then within equity, it's been a challenging period for... Active managers, just given that it's been a low-quality, concentrated rally. But we got some improved performance year-to-date and for the quarter. But the fiscal year numbers was solid at 21.5%. And then international managers were up, the sleeve was up 25.8%. And then you can see real assets. Real assets was up 18.6. You can see Cohen and Steers and Principal. To my earlier comment, if we were to look out historically three, five, 10 years since inception, you know, you could see that Cohen and Steers has a pretty nice return advantage over multiple periods. That's all they do is really manage REITs. They're really good at that within that asset class. And then the solid results that we've had from natural resources, we're up about 30% on a one-year basis, even though we pulled back about 10% in the quarter, as we saw maybe a little bit of a kind of diplomatic effort to open a straight over moves, right? So oil prices, commodity prices dropped pretty meaningfully, and they've since spiked up since then. So I think we've back up to about a 30% return profile for natural resources. So, I think for the portfolio considerations we have today with the group, we're cognizant of the 44 percent long-term target. It is grounded in our asset allocation study and recognizing the work that we did around sort of some risk-adjusted return profiles. We've been judicious and within a discipline and measured getting to that point. But we think today's current investment environment, interest rate environment, you have a 470 starting yield on a 10-year. 30-year yields are at their highest in 20 years. So we just think it makes a really nice entry point. And equity valuations are a little rich. So we think it's a good time. We would suggest within the real asset allocation is to reduce the natural resources allocation from 4% to 2%. So we do think it has a good role in the portfolio. We think 4% is a little rich. There's a little bit of volatility there. So if we could take a little bit of money off the table of that 30% return profile, that would be great. And then consolidating the two REIT managers, we think, you know, moving that money from principal back into Cohen and Steers, just given that they are really kind of a world-renowned REIT manager. It's all really what they do. You know, we think that that minimizes duplicative strategies within the portfolio. And, of course, we would assist with that transition, and we would update the investment policy statement if warranted. So just the optics on that we provided sort of a kind of a trade worksheet just to show the flow of money and you can see we'd be putting a little bit more money back towards fixed income. We'd be getting back up to about 38% and the adjustment would be coming from real assets. We think in the third quarter, we would kind of start going back and looking at the domestic equity allocation and maybe judiciously taking a little bit off maybe every other week and stepping into fixed income, maybe getting up to about 42 percent. We don't have to get to the 44, but if we can get closer to 40, you know, 42 or so kind of midpoint, I think we'd be comfortable with that. But today's recommendation before the commission is is to move forward with these following changes. And as again, that is reducing the allocation to real assets, consolidating within REITs, taking some of that real asset money in commodities and moving up to fixed income.

Okay, are there any questions about that recommendation? Okay, can I get a motion?

I'll entertain that motion that we move as recommended by fiduciary.

Okay. Second. Okay. Can you call the roll, please? Amanda?

Aye. Justin? Aye.

Bill?

Aye.

Greg?

Aye.

Allen?

Aye.

Aaron?

Aye. And then, Chris, you mentioned possibly updating the investment policy as well.

Yes, we're going to take a look at the investment policy. We'd probably just simply have to reduce the target to real asset, but we'll look at that and come back with any proposed edits, and that could be approved at the next meeting.

Okay, perfect. Thank you.

So if I can, I just want to just update July numbers. This is the first month of the new fiscal year. It was a little bit of a challenging period for capital markets. Interest rates spiked up higher. That put pressure on bond prices. As you can see here, fixed income was down about 1.3% for the month. Equity sold off modestly, mostly within small cap and emerging markets. International and developed were up 2%. REITs were up 2.4%. Real assets were up 1.8%. Then you could see commodities. You saw signs that the straight was going to kind of continue to be closed. Oil prices spiked up higher. Commodities were up 7.5%. So we look at performance results. We actually had a positive month. We're ahead of the benchmark. We're up 60 basis points. The benchmark goes up 20. That improves our year-to-date numbers to about 9% versus 7.8% for the benchmark. And our one-year number, 15.4% versus 14.3% for the benchmark. When you monetize that, you can see year-to-date about $18.4 million in gains, $1.4 million for the month. And then just getting a little bit more granular, you can see some good numbers for the domestic equity. I mentioned that market rotation that is kind of rewarding other sectors. you know, more on fundamentals rather than just momentum. And somebody like, you know, Pinnacle is doing a really good job for the month year to date. We would expect them to perform pretty well in that environment. But if you're just to go down the sleeve, like for the month, you could see each of these managers delivered, you know, some really good relative, in some cases, absolute results in a more conducive manner. environment for active managers. So Harbor MidCap, you can see 23% year-to-date, 38% on a one-year basis. Some of these numbers have really improved in just a matter of two months because active management has been able to outperform some of the benchmarks. And then our real asset allocation was up 4.1 percent for the month. And you can see, you know, almost a 7 percent return from real assets. So I think it's an opportune time, as the committee just approved that, you know, we're taking a little bit of money when we just got some of those gains and getting back into fixed income where yields, you know, the 10-year-olds about 4.7. So I just think it's a really compelling opportunity to step into fixed income at these rates. And if you think about it, you know, a 4% yield, just doing the math, if interest rates were to move down 1%, you know, that would give you, a portfolio, about a 12% return. If interest rates moved 100 basis points, we'd lose only about 2%. So, you know, that trade-off is very, very attractive in this environment, given the higher rate profile. So, good numbers to report. Off to a good start for the new fiscal year. Of course, always happy to answer any questions that come up, provide this governing body any additional information. I have a question.

Yeah, sure. So in the language you've told us, basically you're saying you are expecting, as we move into the fall here, the Fed's going to raise rates. Rates are going up.

What I said, sir, was an example of if rates moved up 100%, the fixed income portfolio would be down about 2%. If rates did come down 1%, portfolio would be up about 12%. So that's the advantage of higher yields and duration right now, right? So the silver line into higher yields, right? It's not good for us as borrowers, but as investors, higher yield portfolio provides you a higher return profile and helps to mitigate against some interest rate volatility.

Okay, then answer just my question. What is your... fiduciary feeling about where we're headed through the fall on two fronts. One, interest rates in general, and two, November with the elections.

yeah so i i'll tackle interest rates first i think what you're seeing is the fed's hands are somewhat tied given sort of inflationary pressures right so they're looking at the underlying strength of the economy which has been pretty pretty resilient uh to what's happening overseas right we're not seeing uh much in the way of a scarred economy as a result the consumer has been resilient uh you know unemployment has has been really unchanged so to speak so you got a resilient economy And you've got higher inflation above the Fed's target, which would suggest to us that the Fed is likely to keep interest rates where they're at, possibly a modest rate hike at the end of the year. We don't see any evidence right now that would give them ammo to cut rates. Going forward, equity valuations are pretty rich right now. We'd be not surprised if we see a little bit of a pullback. We're seeing a market rotation away from AI. So AI has been the clear theme. But there is some question around CapEx spending. which was initially fueled by cash flow, and now there's more debt involved. So I think that area of the market, there's going to be winners and losers. So we're cognizant of market dynamics and maybe a change of investor sentiment to other areas in the market outside of AI. Okay.

November? November.

Yeah, so we're seeing what's happening. Yeah, we're seeing what's happening right now, right? You're seeing even last night, you know, Socialist Democrats are gaining more and more momentum. I think it just reflects, you know, sort of this, you know, K economy that we're in, right? The super rich are getting really, really rich. And those that are modest incomes are really, really suffering. And there seems to be a demand for a more somewhat equitable arrangement. That's what's unfolding right now. Whether that takes hold more nationally is yet to be seen. I'm not really convinced that that type of approach can win on the national level, can win more around state levels, but I think it's going to be hard-pressed for them to gain seats on a national level with a sort of a socialist theme. I think it's something that Republicans need to be cognizant of is that some of the dynamics are changing and changing. I think socialist Democrats are demanding that billionaires pay a little bit more to the system. So I'm not too sure how it's going to unfold. I don't think the dynamics within the capital markets, I think I'm a little bit more concerned around how events are unfolded in the Middle East. Not necessarily between the U.S. and Iran, but other countries getting involved, and this becomes a bigger quagmire, which really starts to impact energy prices. I think we have to be mindful that our energy reserves are at their lowest level right now since the 80s. So again, higher energy prices, if we start getting at $5 per gallon, that's certainly gonna impact the consumer, gonna impact the economy as well. Not so concerned about the political environment and midterm elections as I am more about the geopolitical events.

Thank you.

Good questions. Any other questions? Okay, well, Chris, thank you very much for all of that information and for your recommendations. We'll look forward to seeing an updated investment policy if one is needed. And I think we will be looking to meet, I would say potentially in October, depending on when the Accresure reports are in. It may be November. We'll have to touch base with Amy and see... see where those will stand as far as timing on that. But that's always a good refresh to getting the actuarial information and how that impacts the plan.

Sounds good. I am down in Nashville the week of October 5th. We're having a conference in Nashville, so I welcome the opportunity to meet with any members who maybe want to grab lunch or dinner. But I could certainly follow up on that and confirm dates, but we're all excited to be in Nashville for that first week of October. I know it kind of conflicts with any type of the reporting or committee meetings, but it would be great to see everybody nevertheless.

Yeah, that's great. Well, enjoy your trip down here. I will be at the beach that week. Sorry, I won't see you.

All right.

Okay, well, if there's no other business, we will adjourn the meeting. Thank you.

Thank you for your time, everybody.

Thank you.