Legislature(2015 - 2016)BARNES 124
02/18/2015 03:15 PM House LABOR & COMMERCE
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| Audio | Topic |
|---|---|
| Start | |
| HB86 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| *+ | HB 86 | TELECONFERENCED | |
HB 86-PCE ENDOWMENT FUND INVESTMENT
3:29:47 PM
CHAIR OLSON announced that the only order of business would be
HOUSE BILL NO. 86, "An Act relating to investment of the power
cost equalization endowment fund; and providing for an effective
date."
3:30:22 PM
JERRY BURNETT, Deputy Commissioner, Office of the Commissioner,
Department of Revenue, stated that HB 86 is a very important
bill. He stated that Pam Leary, Director, Treasury Division;
and Gary Bader, the state's Chief Investment Officer will
present the bill.
3:31:15 PM
PAMELA LEARY, Director, Treasury Division, Department of Revenue
(DOR), offered to provide a brief history of the fund, present
the bill, and discuss any considerations.
3:31:52 PM
MS. LEARY stated that the original Power Cost Equalization
Endowment Fund was established in 2000. Its purpose is to fund
the Power Cost Equalization (PCE) & Rural Electric
Capitalization Fund and to reimburse the costs associated with
managing the fund [slide 2]. She said that 7 percent of the
monthly average market value of the fund for the previous three
fiscal years may be appropriated annually. The Department of
Revenue, Treasury Division provides the Alaska Energy Authority
(AEA) with that figure annually. She provided a brief history,
such that the PCE Endowment Fund was established by a $100
million appropriation from the Constitutional Budget Reserve,
along with $89.6 million from proceeds of the sale of the four
dam pool hydroelectric project, and two additional
appropriations: $182.7 in 2007, and $400 million in 2012. The
current balance of the PCE Endowment Fund is $950.7 million
[slide 1].
3:33:11 PM
MS. LEARY directed attention to HB 86 to Section 1 of the bill
that does two important things [slide 3]. First, it removes the
stated nominal return target of at least 7 percent from the
statute, which will allow the commissioner of the Department of
Revenue (DOR) to invest the fund in the manner that can meet the
objectives of the fund. It would also provide the commissioner
the ability invest in less risky investments when it is prudent
to do so, but still meet the financial needs of the fund itself.
She pointed out that there is a zero fiscal note associated with
HB 86 since it will not require additional funds to continue the
work.
3:33:55 PM
GARY BADER, Chief Investment Officer, Treasury Division,
Department of Revenue (DOR), stated that the goal is to achieve
the best return for the least amount of risk. The current
statutes direct the Commissioner of Revenue to attempt to earn 7
percent each year without regard to risk.
MR. BADER directed attention to slide 4, to the 2015 Capital
Market Expectations - Return and Risk. This shows the capital
market assumptions provided to the Alaska Retirement Management
Board by Callan and Associations. He directed attention to the
top third bracket of the investment asset classes or equity
investment classes and three columns over to the column entitled
"1-year Arithmetic" return, which shows high rates of return if
one considers the return will be the mathematical average over
several years, or the mean average. The column entitled
"Projected Risk, Standard Deviation" means that two-thirds of
the time the returns to the fund will be plus or minus the
standard deviation. Thus, when viewing broad domestic equity, a
"1-year arithmetic return" means that the fund would earn 9.15
percent over a 10-year expectation plus or minus 19 percent
[using the standard deviation]. Therefore, it is possible to
lose 10 percent during two-thirds of the time, but during other
times the percentage could be far more or far less. The
aforementioned standard deviation affects the geometric return.
The column entitled, "10-year Geometric Projected Return," is a
term that means when there is a volatility of returns, the
actual amount one could expect to gain would be something less
than the arithmetic return. It is always true, he said. For
example, an initial $100 investment with an expectation of
[zero] percent on average and a standard deviation of 50
percent, could increase to $150, but if 50 percent of the
investment was lost the next year, the initial investment would
be reduced to $75. Thus, while the arithmetic average was zero,
the actual return would be far less than zero. This means that
how funds are invested matters a lot, in terms of how
investments are made, and the department's goal is to eliminate
as much risk as possible.
3:37:23 PM
MR. BADER stated by looking down the column of possible
investment returns and viewing the arithmetic column, that in
order to earn 7 percent, nearly 80-90 percent of investments
would need be in equities, since investing in fixed income with
returns of 2 and 3 percent would average down the investment
considerably. Thus, an attempt to earn 7 percent has a tendency
to force the commissioner to take a far more risky path than
he/she might otherwise choose. He highlighted that the stock
market has gone up six years in a row, which is unprecedented,
noting it has never gone up seven years in a row. Although he
hoped it will continue to improve this year, the potential
exists for the market to go down and passage of this bill will
allow the DOR's commissioner to adjust asset allocations of the
market conditions and risk, but still attempt to earn an
investment return of 7 percent over time.
3:38:39 PM
CHAIR OLSON asked what will happen if the market "tanks" and
with returns of 2-3 percent. He further asked whether the state
will make up the difference in order to fund the PCE Endowment
Fund at 7 percent.
MR. BADER answered that the legislature could appropriate the [7
percent] amount to the PCE, but there isn't any requirement to
do so, but the PCE Endowment Fund "lives" on its own returns.
3:39:09 PM
REPRESENTATIVE LEDOUX related her understanding that the term
"nominal return" typically means nothing, but it doesn't sound
like that is what is being discussed since HB 86 [removes the
language] that specifically stated 7 percent nominal return.
She asked for further clarification on the term "nominal
return."
MR. BADER answered that "nominal return" is a term of finance
and means the real rate of return plus inflation.
3:40:03 PM
REPRESENTATIVE LEDOUX asked how long the state has been
investing the PCE Endowment Fund.
MS. LEARY answered that it has been 14 years and it was
established in 2000.
REPRESENTATIVE LEDOUX asked whether the fund has always
attempted to reach the 7 percent rate of return.
MS. LEARY answered yes.
REPRESENTATIVE LEDOUX asked whether the fund has lost or gained
revenue.
MS. LEARY answered that it has fluctuated, and the returns have
been negative in some years and positive in others. She
reported that the last five years the returns have been 14
percent.
3:41:01 PM
MR. BADER added that when the statute was written interest rates
were higher than they are today so fixed income investments
could earn 7 percent, plus equity investments also made the 7
percent return an attainable goal; however, under the current
low interest rates 10 year [investments] are earning less than a
3 percent return, which prompts the need for this bill.
3:41:47 PM
CHAIR OLSON asked for the average annual nominal return in the
past 14 years.
MS. LEARY offered to provide the figures. She stated that she
has actual returns for each year, but not the complete average.
3:42:06 PM
REPRESENTATIVE JOSEPHSON asked for further clarification on the
growth rate and whether it has grown 14 percent in five years or
per annum.
MS. LEARY answered that the return has been 14 percent per
annum.
3:42:26 PM
REPRESENTATIVE HUGHES, referring to slide 2, understood that 7
percent of the monthly average market value of the fund for the
previous three fiscal years may be appropriated [to the PCE
Endowment Fund]. She asked whether that has occurred. She
further asked whether the legislature would need to adjust the
amount under the bill. For example, if the state will be
earning less than anticipated, it may need to lower the
percentage of appropriation to the PCE Endowment Fund.
MS. LEARY answered that she does not have the historical figures
for the past 14 years; however, she said the FY 16 budget
appropriation is less than 7 percent, but a little more than 5
percent. She offered to review and provide the prior
appropriations to the committee. She said that one of the
factors for the target return of 7 percent is to consider the
use of the fund, the cash flow, and expectations. She clarified
that from the investment perspective the Department of Revenue
is more concerned about setting the target and eliminating any
undue potential risk associated by setting the rate too high,
which could increase risk in certain environments.
3:44:08 PM
REPRESENTATIVE HUGHES asked whether the 7 percent that may be
appropriated [to the Power Cost Equalization Endowment Fund] is
set in statute.
MS. LEARY answered yes; that the calculation that the DOR
provides to the Alaska Energy Authority (AES) is 7 percent of
the 3-year fiscal year monthly average.
3:44:39 PM
CHAIR OLSON held public testimony open on HB 86.
[HB 86 was held over.]
| Document Name | Date/Time | Subjects |
|---|---|---|
| HB86 ver A.pdf |
HL&C 2/18/2015 3:15:00 PM |
HB 86 |
| HB86 Fiscal Note-DOR-TRS-1-16-15.pdf |
HL&C 2/18/2015 3:15:00 PM |
HB 86 |
| HB86 Supporting Documents-Transmittal Letter to Chenault 01-28-15.pdf |
HL&C 2/18/2015 3:15:00 PM |
HB 86 |
| HB86 Supporting Documents-DOR PCE presentation 2-18-2015.pdf |
HL&C 2/18/2015 3:15:00 PM |
HB 86 |