Legislature(2005 - 2006)CAPITOL 106

04/12/2005 08:00 AM STATE AFFAIRS

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08:04:47 AM Start
08:05:56 AM Human Rights Commission
08:28:44 AM HB215
08:44:31 AM HB238
09:43:52 AM SB87
10:09:17 AM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ Confirmation hearing:State Commission TELECONFERENCED
for Human Rights
Heard & Held
Moved Out of Committee
Moved HCS SB 87(STA) Out of Committee
Scheduled But Not Heard
Scheduled But Not Heard
Bills Previously Heard/Scheduled
HB 215-PERM FUND CORP. INVESTMENTS/REGULATIONS                                                                              
CHAIR SEATON announced that the  next order of business was HOUSE                                                               
BILL   NO.   215,   "An   Act    relating   to   the   investment                                                               
responsibilities  of  the   Alaska  Permanent  Fund  Corporation;                                                               
relating  to regulations  proposed and  adopted by  the Board  of                                                               
Trustees of  the Alaska Permanent Fund  Corporation and providing                                                               
procedures  for the  adoption of  regulations by  the board;  and                                                               
providing for an effective date."                                                                                               
8:28:44 AM                                                                                                                    
MICHAEL  J.  BURNS,  Executive Director,  Alaska  Permanent  Fund                                                               
Corporation, Department  of Revenue,  presented HB 215  on behalf                                                               
of the  department.  He  said the  bill would change  the [legal]                                                               
list of permissible investments  for the permanent fund currently                                                               
found in statute  to "the prudent-investor rule."   He noted that                                                               
currently,  45  of  the  50   states'  pension  funds,  including                                                               
Alaska's,  use the  [prudent-investor]  rule.   He said  Alaska's                                                               
Public   Employees'  Retirement   System  (PERS)   and  Teachers'                                                               
Retirement System (TRS) have no  statutory guideline, but use the                                                               
[prudent-investor] rule.   He said  when the fund  was originally                                                               
created, it was 100 percent in  fixed income, which made sense at                                                               
the time.  Over time,  investments have been liberalized, and the                                                               
fund's performance  has reacted  positively to  that.   Today, he                                                               
emphasized,  the statutory  list is  actually impeding  progress,                                                               
"causing us to take higher risks for lower returns."                                                                            
MR. BURNS  directed attention  to page  4 of  a handout  from the                                                               
Alaska Permanent  Fund, included  in the committee  packet, which                                                               
is entitled, "Reducing Risk, Increasing Return."   On page 4 is a                                                               
graph  called, "Efficient  Frontier."   He noted  that the  lower                                                               
blue line shows the expected  returns of various asset mixes, and                                                               
the blue square shows "were we  are today."  He added that that's                                                               
where the trustees made their  asset allocation, in [March 2004].                                                               
He explained  that the vertical  axis shows  "expected historical                                                               
returns" and  the horizontal axis  shows "increase in  risk" from                                                               
left to right.  He continued as follows:                                                                                        
        So, if you go directly above the blue box to the                                                                        
      purple box [showing standard deviation], that's the                                                                       
     efficient frontier  without a  statutory list;  that is                                                                    
     the  return that  we could  get today  for exactly  the                                                                    
     same risk  we are taking.   Or conversely, if  you look                                                                    
     to  the  left  at   the  green  box  [showing  expected                                                                    
     return],  we could  get the  same return  we're getting                                                                    
     today for that much less  risk.  So, the statutory list                                                                    
     is putting  us in a  position where we are  taking more                                                                    
     risk for less return.                                                                                                      
8:32:30 AM                                                                                                                    
MR.  BURNS,  in  response  to   a  question  from  Representative                                                               
Gardner, explained that  the numbers 1-10 along the  blue and red                                                               
lines stand  for different  asset mixes  that the  trustees would                                                               
look at.   He added, "We landed on number  8, and that's probably                                                               
55 percent  equities [and] ...  35 percent bonds."   He indicated                                                               
that he was  also referring to page  5 of the handout.   He said,                                                               
"That's how  the efficient frontier  is - the different  mixes of                                                               
assets are  those points along  there, and we've  highlighted the                                                               
square one,  because that's the  one we  decided on a  year ago."                                                               
He  added, "Those  are driven  by the  historical returns  of the                                                               
various asset categories."                                                                                                      
8:33:26 AM                                                                                                                    
REPRESENTATIVE  GARDNER responded  that  she didn't  see "on  the                                                               
chart where 8 is."  She indicated  that what she could not see is                                                               
what is corresponding to the current target or goal.                                                                            
8:33:36 AM                                                                                                                    
LAURA   ACHEE,  Research   and  Communications   Liaison,  Alaska                                                               
Permanent Fund  Corporation, Department  of Revenue,  in response                                                               
to a question from Representative Gardner, explained:                                                                           
     We don't have  all of the possible  portfolios; so, the                                                                    
     triangles that  you're looking at  that are  numbered -                                                                    
     we don't  have those in your  packet.  What we  do have                                                                    
     are the main points - the  blue box, the green box, the                                                                    
     brown box,  the purple box -  and those are on  page 5.                                                                    
     And,  unfortunately,  they're  not labeled  so  clearly                                                                    
     that you can  immediately spot them, but  they match up                                                                    
     in color.  ... For  instance, the brown box is labeled,                                                                    
     "expected return  equals 8.5  percent," and so,  if you                                                                    
     look  on page  5,  there's a  column  [with a  matching                                                                    
     title]  ...,   and  ...  that   shows  you   the  asset                                                                    
     allocation that corresponds to that point.                                                                                 
8:34:23 AM                                                                                                                    
CHAIR SEATON said what is being  considered in HB 215 is changing                                                               
the  philosophy from  having the  legislature dictating  what the                                                               
basket of  investments will be to  requiring the prudent-investor                                                               
rule to be used for the management of the permanent fund.                                                                       
8:34:46 AM                                                                                                                    
MR. BURNS, in  response to a question  from Representative Gatto,                                                               
said  there is  an  existing definition  of the  prudent-investor                                                               
8:34:59 AM                                                                                                                    
MS. ACHEE  said the idea  of the  "prudent man rule"  has existed                                                               
for a  long time,  and the prudent-investor  rule was  defined in                                                               
the early 90s.                                                                                                                  
8:35:33 AM                                                                                                                    
MR. BURNS pointed  out that one of the important  concepts of the                                                               
prudent-investor rule  is that "you  don't have to be  right, but                                                               
you have to ... document ...  your thought process ...."  He said                                                               
he thinks  that's what the  board meetings are about,  and that's                                                               
why there  are investors and advisors.   He stated, "The  fund is                                                               
governed today by the prudent-investor  rule and further governed                                                               
by  the  statutory limitations;  so,  we  do operate  as  prudent                                                               
investors today."                                                                                                               
8:36:04 AM                                                                                                                    
REPRESENTATIVE  GATTO   gave  opposite   examples  of   what  two                                                               
different investors  may call "prudent."   He asked,  "Isn't that                                                               
kind of a self concept?"                                                                                                        
8:36:32 AM                                                                                                                    
MR. BURNS  replied that both  of Representative  Gatto's examples                                                               
would  defy  [the  term]  prudent  investor,  because  they  lack                                                               
diversity,  which is  necessary.   He stated,  "A very  important                                                               
thing  today  is  lack  of   correlation."    He  explained  that                                                               
portfolios were  previously constructed  whereby a great  deal of                                                               
thought  was  given   to  each  particular  asset.     Today,  he                                                               
continued, the  same thought is given  to the asset, but  also to                                                               
how  it interacts  within  the  whole portfolio.    He said  it's                                                               
important  to  have  things  that  don't  correlate,  but  rather                                                               
respond  to  different  things.    He  added,  "A  lot  of  those                                                               
[uncorrelated]  assets that  we're talking  about are  really not                                                               
available to  us today, and  that's, I  think, one of  the things                                                               
that's impeding our performance, or holding us back."                                                                           
8:37:39 AM                                                                                                                    
REPRESENTATIVE  RAMRAS  asked if  it  would  follow the  prudent-                                                               
investor rule  to borrow money  on $400 million at  standard bond                                                               
rates and  then pay  it back  with permanent  fund earnings.   He                                                               
said, "I'm thinking about the  Amerada Hess [Corporation]-type of                                                               
approach that the  House is contemplating.  Does  that follow the                                                               
prudent-investor rule?"                                                                                                         
8:38:43 AM                                                                                                                    
MR. BURNS responded as follows:                                                                                                 
     We would  actually not  be making  that investment.   I                                                                    
     think  from just  the financial  mathematics, any  time                                                                    
     you can  borrow tax exempt  and invest taxable  ..., or                                                                    
     use it in  a taxable fashion, I think that  makes ... a                                                                    
     great deal of sense.   The Amerada Hess [Corporation] -                                                                    
     that's not a decision that  the trustees would make, so                                                                    
     it  doesn't  fall  under the  prudent-investor  [rule];                                                                    
     that's not an investment that  they would be making, or                                                                    
     the  leverage is  a  decision that  they  would not  be                                                                    
     making ....  They would  continue to invest the Amerada                                                                    
     Hess [Corporation]  dollars just  as they did  the rest                                                                    
     of the fund.                                                                                                               
8:39:58 AM                                                                                                                    
CHAIR   SEATON,   in   response    to   further   comments   from                                                               
Representative Ramras,  asked that  the discussion be  focused on                                                               
the issue at hand.                                                                                                              
8:40:23 AM                                                                                                                    
REPRESENTATIVE GARDNER asked Mr. Burns  if he knows of anyone who                                                               
is or may be opposed to the change proposed in HB 215.                                                                          
8:40:33 AM                                                                                                                    
MR.  BURNS   said  the  permanent  fund   has  historically  been                                                               
supported in  changes to its  asset mix  by the legislature.   He                                                               
said the  only reluctance he has  heard from some people  is that                                                               
perhaps this  [change] should  be taken  more incrementally.   He                                                               
said, "I  think with the asset  types that we're talking  about -                                                               
that doesn't really work."  He offered an example as follows:                                                                   
     We have a commitment today  under the basket clause of,                                                                    
     I believe, $600  million to private equity.   We have a                                                                    
     commitment today  of ... about $240  million to private                                                                    
     equity of  that commitment  of $600 million.   Actually                                                                    
     outstanding,  that  people  have drawn  down,  is  $2.6                                                                    
     million.  So,  there's a real execution  risk in trying                                                                    
     to   incrementally  do   this  in   a  process   that's                                                                    
     incremental already  ....  We're  looking at -  today -                                                                    
     our commitment  to private equity.   And to get  to the                                                                    
     point where we want to be,  we need to commit more than                                                                    
     we want to get to, just  because it takes so long.  And                                                                    
     some of  them, you have  returns starting to  come back                                                                    
     before the money is actually  drawn down.  So, you need                                                                    
     to commit beyond what you  want.  If you have statutory                                                                    
     limitation, that's a real problem.                                                                                         
MR. BURNS offered  an example regarding the  University of Alaska                                                               
8:42:54 AM                                                                                                                    
REPRESENTATIVE ELKINS  moved to  report HB  215 out  of committee                                                               
with  individual  recommendations  and  the  accompanying  fiscal                                                               
notes.  There being no objection,  HB 215 was reported out of the                                                               
House State Affairs Standing Committee.                                                                                         

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