REPORT TO COUNCIL
SUBJECT
Title
Review and File City of Sunnyvale Other Post-Employment Benefits (OPEB) Trust Account Investment Summary and Independent Accountant's Report and Approve an Amendment to the Investment Policy Statement for the OPEB Trust Account
Report
BACKGROUND
The City of Sunnyvale provides healthcare benefits to eligible retirees and their dependents through the California Public Employee's Retirement System (CalPERS) healthcare program (PEMHCA). Benefit levels are established through agreements and memorandums of understanding between the City and employees or bargaining units.
To implement a funding plan to address the unfunded liabilities associated with retiree medical benefits, the City created an Other Post-Employment Benefits (OPEB) Trust. By contributing to a retiree medical trust fund, the City will derive many benefits, including the reduction of future employer OPEB costs, as the earnings generated from trust fund investments will eventually be utilized to offset ongoing costs for the retiree medical insurance. Additionally, it will prevent OPEB obligations from being a significant liability on the City's balance sheets.
On July 20, 2010, Council approved the City entering into an Investment Advisory Agreement with PFM Asset Management, LLC (PFM) as investment manager for the City's OPEB Trust (RTC 10-187). On December 7, 2010, Council approved the City entering into a Trust Agreement with PFM as Trust Administrator and U.S. National Bank Association as Trustee for the OPEB Trust (RTC 10-326). The Investment Policy Statement for the OPEB Trust was also approved at that time.
EXISTING POLICY
Council Policy 7.1.1 Fiscal - Long Range Goals and Financial Policies
Policy E.2.6: An Actuarial Retiree Medical Reserve will be maintained at a level that is deemed adequate to meet the projected liabilities as determined by an actuarial evaluation. This reserve should meet the GASB reporting requirements for these future costs.
ENVIRONMENTAL REVIEW
N/A
DISCUSSION
PFM has managed the investments for the OPEB Trust since January 2011. Total funds deposited by the City since that time total $42,608,832. The market value of the trust as of December 31, 2013 was $52,922,714, which includes earnings (net of fees) of $10,313,882.
The attached performance summary shows the asset allocation, growth, and the performance of the fund. The trust has historically out-performed the benchmark. As of December 31, 2013, the fund earned 8.96% since inception compared to the benchmark of 7.47%.
As required by the trust agreement between the City, PFM, and U.S. Bank as Trustee, the City contracted with Maze and Associates, the City's prior external auditor, to conduct a review of the trust portfolio for the fiscal year ending June 30, 2013. That review included verifying that all investments types in the portfolio were permitted investments and that the asset allocation and diversification of the portfolio were within the predefined ranges stipulated in the investment policy. No exceptions were noted. The report is attached for Council's review.
Retirement fund investments are governed by Section 53622 of the California Government Code. The code does not make reference to specific allowable investments but refers to the Prudent Investor Standard, which states that investments shall be made with the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent person acting in a like capacity and familiar with these matters would use in the conduct of an enterprise of a like character and with like aims. This standard allows for a wide range of appropriate investments for OPEB trust funds. Because of this flexibility and recent changes in investment opportunities, PFM is recommending some amendments to the Investment Policy Statement as described below.
PFM is making recommendations that 1) clarify language applicable to each asset class with the objective to take advantage of market opportunity while maintaining a broadly diversified portfolio and 2) make the Investment Policy Statement consistent with current investment language.
Specifically, PFM recommends updating the asset allocation table to reflect a target allocation of 54% equity and 46% fixed income. This change coincides with the current asset allocation of the portfolio and as stated in the existing policy, is consistent with the City's intention to gradually migrate the asset allocation toward a targeted global asset allocation of 60% equities and 40% fixed income by June 2016.
PFM also recommends recategorizing Real Estate Investment Trust (REIT) and Inflation Hedge products into a new category broadly defined as "Alternatives". The purchase of investments in this category will be limited and therefore, the Alternatives category has a proposed target allocation of 0%. However, these investments can offer the potential benefit of additional return and/or reduced volatility through diversification. Given the current economic climate, PFM recommends a maximum allocation of 15%.
PFM is also recommending that the existing cap of 35% on emerging market equities be removed. While PFM does not intend to exceed this limitation on a regular basis, this change will provide flexibility to invest a higher percentage at certain times such as if/when the asset class is underpriced.
Finally, PFM is recommending that the equity classification system be changed from the Industry Classification Benchmark to Global Industry Classification Standard (GICS). GICS is a standardized classification system developed by Morgan Stanley Capital International and Standard & Poor's Financial Services and is widely used in the investment community.
FISCAL IMPACT
With the OPEB Trust, the City has made significant progress in funding retiree medical costs for the long term. At the end of FY 2012/13, the retiree medical plan is 34% funded and on track to be fully funded by FY 2030/31.
PUBLIC CONTACT
Public contact was made by posting the Council agenda on the City's official-notice bulletin board outside City Hall, at the Sunnyvale Senior Center, Community Center and Department of Public Safety; and by making the agenda and report available at the Sunnyvale Public Library, the Office of the City Clerk and on the City's website.
RECOMMENDATION
Recommendation
Review and file the City of Sunnyvale Other Post-Employment Benefits (OPEB) Trust Account Investment Summary and Independent Accountant's Report and approve the attached Investment Policy Statement as amended and presented.
Staff
Prepared by: Therese Balbo, Treasury Manager
Reviewed by: Grace K. Leung, Director, Finance
Approved by: Robert Walker, Interim City Manager
Attachments
ATTACHMENTS
1. City of Sunnyvale OPEB Trust 2013 4Q Summary
2. Independent Accountant's Report for Year Ended June 30, 2013
3. Investment Policy Statement for City of Sunnyvale OPEB Trust