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O’REILLY and KEOHANE

Looking for a better measure of a pension fund’s success Add to ...

Hugh O’Reilly is chief executive officer of OPSEU Pension Trust (OPTrust). Jim Keohane is CEO of Healthcare of Ontario Pension Plan (HOOPP).

The world of business is one where people like to quantify and measure things. This drive has led to the old saw: “If it can’t be measured, it can’t be managed,” and, like all sayings, it has its portion of truth. However, our desire to measure progress can also leave us vulnerable to certain pitfalls.

Too often, we head down the path of holding up metrics as accurate barometers of success because they represent things that are easy to understand, quantify and report. This then raises questions for any business. Are we are on the right track? Are we truly doing the right things for success, not just for this quarter or year, but for the long term? And, most important, are we measuring the right things?

For example, if you were in the business of cutting paths through a forest, you might take measurements of how straight your paths were and how quickly you were progressing. But those measurements would be completely meaningless if you were cutting a path through the wrong forest.

This is a bit of what goes on in the pension-fund industry. Many pension funds view themselves as asset managers, and their metrics for gauging success focus on how the asset side of their balance sheet has done in comparison with public market benchmarks. There is some validity to this approach at a micro level, but in terms of measuring organizational success, it is akin to measuring results in the wrong forest.

Canada’s large public-sector pension plans have garnered considerable acclaim as investors on the world stage. But it’s a misnomer to call us asset managers. We are pension-delivery organizations. The nature of the product we deliver to our members means our goals are fundamentally different from organizations that are simply looking to accumulate and grow capital. We are investing to deliver a specific outcome, which is to make the pension payments to our members that they are expecting.

Despite this, people inside and outside the industry have historically looked to a measure that is short-term, easy to report and easy to understand: annual investment returns.

Each year, when the results come out, people sift through the numbers like fortune tellers trying to discern the future from tea leaves. But it’s all sleight of hand, a showy distraction from the real action. Annual investment returns are just one part of the complex business of running a pension plan. Ultimately, to be successful in delivering pensions to our members, the assets have to outperform the liabilities (which are the current and future pension payments owed to our members). We measure this by looking at a plan’s funded ratio. If a plan’s current assets are equal or greater than the present value of current and future pension payments, it is fully funded and has achieved success.

Positive investment returns are generally a good indication of success, but not always. There are scenarios in which investment returns have been positive and the funded ratio has declined, and conversely times when investment returns are negative yet the funded ratio improved.

Our own industry has been as guilty as anyone else in trumpeting annual returns. In a world in which so many people are in a pension rat race to accumulate the biggest pot of money before they retire, it feels normal to celebrate when we’ve been able to make our assets perform faster, higher and stronger. However, if we are honest with ourselves, it’s not the business we’re in. Does this mean that returns don’t matter? Not at all. What it does mean is that as pension plans, our investment approach must be inextricably linked to the goal of keeping the plan fully funded.

Growing and maintaining our funding surplus over time to ensure we can deliver pension benefits to our members leads to very different decision-making, particularly when it comes to risk management, and the nature and mix of assets that we hold in the investment portfolio.

For members, the true value of a defined-benefit (DB) pension plan is certainty at a stage of life when there is little runway to accumulate more. Beyond the dollars that will one day be paid, we give members the confidence that they can count on their pension to be there when they retire and that their contributions will remain as stable as possible during their working years.

When creating certainty is the true goal, taking undue risk with members’ futures for the sake of a few hundred extra basis points in a given year makes no sense at all. That is why both of our organizations have adopted an approach that puts funding first, one in which we balance the need to generate returns with the need to effectively manage risk.

When viewed from this perspective, being good, better or best will not be assessed on the basis of a given year’s investment return. Instead, we will measure success by the plan’s funded status. This measure of success also means that plans will be focused on putting the interests of plan members first in the decision-making process. In so doing, we will be putting stock in another old saw: “If it isn’t measured, it doesn’t matter.”

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