Legislature(2001 - 2002)
01/12/2001 09:04 AM Senate FIN
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* first hearing in first committee of referral
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+ teleconferenced
= bill was previously heard/scheduled
GENERAL SUBJECT(S): Alaska Permanent Fund Corporation
The following overview was taken in log note format. Tapes and
handouts will be on file with the Senate Finance Committee through
the 22nd Legislative Session, contact 465-4935. After the 22nd
Legislative session they will be available through the Legislative
Library at 465-3808.
Time Meeting Convened: 9:04 a.m.
Tape(s): SFC-01 # 2, SIDE A & B
PRESENT:
X Senator Donley
X Senator Kelly
Senator Austerman
X Senator Green
X Senator Hoffman
X Senator Leman
X Senator Olsen
X Senator Ward
X Senator Wilken
ALSO PRESENT:
CLARK GRUENING, CHAIR, BOARD OF TRUSTEES, ALASKA PERMANENT FUND
CORPORATION
ROBERT D. STORER, EXECUTIVE DIRECTOR, ALASKA PERMANENT FUND
CORPORATION
JIM KELLY, DIRECTOR OF COMMUNICATION, ALASKA PERMANENT FUND
CORPORATION
LOG SPEAKER DISCUSSION
001 Co-Chair Donley Introductions
Purpose: Overview from Alaska Permanent
Fund
Schedule for the House Finance Committee
Suggested that those seeking to Chair
subcommittees should attend House meetings.
034 Clark Gruening, Introduced Robert Storer, Executive
Chair, Board of Director and Jim Kelly, Director of
Trustees, Alaska Communication.
Permanent Fund What we are going to do today is follow
Corporation through on the handouts. Jim Kelly is
going to talk about the mechanics and
Robert Storer is going to touch on
investment principles and performance.
067 Jim Kelly, Director Good idea to revisit the fundamentals.
of Communication, Hit the fundamentals of how the fund works.
Alaska Permanent Page 2: Permanent Fund Market Value
Fund Corporation Two parts to the permanent fund: the
principle and the income.
Total fund: $26.7 billion
Principle has three parts. The principle
is a number that represents the
appropriations and deposits into that
account. Dedicated oil revenues, inflation
proofing and the special deposits. The
principle cannot be spent.
Page 3: Permanent Fund Income. There are
two parts: realized and unrealized. As
provided by law all the income from the
permanent fund investments is deposited
into the earnings reserve account. The
interests that are earned on the bonds, the
dividends that Alaskans reserve from the
stock investments, cash flow that permanent
fund generates and the appreciation or
depreciation in the value of all those
assets. There has been $23.5 billion
generated since the inception of the fund.
In simple terms the fund is here for
current and future generations. The
legislature put in two provisions for
dividends and inflation proofing: one to
pay dividends and second the amount to
offset the effect of inflation, which is to
be transferred.
The dividend calculation. Formula set in
law by the legislature. The formula says
that we are to figure out what is one-half
of 21 percent of the net income of the fund
over the last five years. If that number
is larger than what is in the earnings
reserve account the formula says that we
will pay out half of what is in the
earnings reserve account.
Page 5: Income paid out for dividends.
Interesting, the dramatic increase in the
amount of money that has been transferred,
because of the booming stock markets.
Eight or nine years before, 4 to 6 million
dollars were paid out for almost a decade.
We are a little bit above the trend line.
Inflation proofing the board has cared
about for a long time. There is a formula.
It is set up by statute. Only applies to
the principle. What we are saying is that
the fund lost $675 million in value in the
last year to rising prices. To combat that
the legislature has transferred that money
from the earnings reserve account to the
principle.
Page 6: Chart shows statutory income vs.
state oil reserve. History: oil has a lot
of volatility although the direction is
plain and some volatility, but less in the
fund income. Looking forward: the gold
bars represent 63 billion dollars of income
that the permanent fund will produce over
the next 20 years. Permanent Fund
Projections Chart pointed out the current
year, FY 2001, and the total fund balance.
We are actually going to have to draw down
money from the earnings reserve account to
meet the two statutory requirements this
year.
255 Page 7: One caveat about the future. $63
billion of income that you can expect the
fund to earn over the next 20 years may be
more and may be less.
261 Robert Storer, Principle #1: Diversification
Executive Director, When we create a portfolio it is well
Alaska Permanent diversified. We want to meet a goal of
Fund Corporation investing for the long-term while
maximizing that return within the levels of
risk tolerance. To do that we spend a lot
of time on due diligence. Spend a lot of
time evaluating the market. We are now a
mature fund. We invest for the long-term
and it is important to be patient. We are
experiencing short-term volatility. We
must balance the income between current and
future generations. We do have a
significant payout to current generations.
Page 8: Time series; Holding Period vs.
Average Annual Return. Know short-term
volatility is a part of the process.
He referenced to different financial
analysts publications with regards to
short-term and long-term risk. We
recognize that there is interim volatility,
but construct a portfolio with long-term.
Risk tolerance chart comparing different
portfolios: bold, somewhat bold, somewhat
timid and timid. The permanent fund
portfolio is in the middle ground with 53
percent in equities, 38 percent bonds and
the rest in real estate. Important point
is staying power. Short-term is going to
have volatility. Have to have a well
thought out portfolio construction and
recognize that you will be challenged, but
you must stay the course.
367 Mr. Gruening We recently discussed the idea of value and
growth. Stocks are booming want to chase
that return. We have taken good advice on
keeping a balance.
371 Mr. Storer We not only diversify among asset classes,
but among styles. In equity there are two;
one is growth and the other is value.
Growth manager will have a more aggressive
portfolio. Value manager will have lower
volatility, older companies that are
slightly out of favor. Growth out
performed value by 20 percent. Tendency is
to gravitate to the current higher
earnings. Trying to diversify styles,
because sometimes growth does better and
sometimes value does better. In the
calendar 2000 we are finding that value is
doing significantly better than growth in
the .com stocks. Discipline within the
asset class has assisted the permanent fund
through this period of increased
volatility.
395 Senator Hoffman In the stocks do you differentiate between
the .com stocks and the NASDAQ stocks.
398 Mr. Storer We do evaluate the more aggressive stocks.
Part of the balance in constructing the
permanent fund portfolio is the recognition
that we want more protection on the down
side. Reducing volatility as much as
possible. Will not find permanent fund
investing in .com stocks. Managers are
instructed to invest with quality companies
with proven earnings. While our returns
have not been great we also have not
suffered, because we have not chased those
speculative stocks.
Page 9: Year 2000 capital market
assumptions. We look at the respective
asset classes that were invested in and the
expected return over a five-year time
horizon. We know there is volatility, so
what you see here is a median expected
return of each asset class. Smaller
companies are a bit more volatile. We
define risk as volatility. It is well
diversified. The chances of losing money
in a specific company are really non-
existent. We measure volatility by
standard deviation. One other piece; how
do they correlate. How do they interact in
the different financial markets. Then we
start a portfolio. We have about a 25
percent chance of a negative return in a
single year, but over longer term, if we
are disciplined, we will make higher
return. Don't want to abandon that
discipline.
455 Co-chair Kelly What would a more aggressive portfolio
anticipate for their overall return.
459 Mr. Storer On average most of the funds our size
probably have an asset allocation of 60 to
70 percent in the equity market, so they
are accepting far more interim volatility.
Most of our piers are retirement plans with
a funding ratio that they be under funded,
imbedded in that is probably an expected
return are 8 or 9 percent. There chances
of a negative return in a single year
probably, conceptual number, 30 to 35
percent.
Page 10: Target Asset Allocation
Domestic Equities and International
Equities. We want to have a discipline
that tells us when to rebalance in some
systematic way. We don't want high
turnover. Domestic equities and
international equities make up the total
equities, domestic bonds and non-dollar
bonds make up the total bonds and then
there is total real estate. We don't
invest in "junk bonds". 38 percent of the
portfolio is in fixed income, non-U.S.
fixed income is 2 percent, U.S. equities is
33 percent, non-U.S. equities is 16
percent, real estate is 10 percent, Alaska
CDs 1 percent.
503 Senator Hoffman The legislature gave the fund the authority
to invest in international equities. How
has that been according to what you have
projected the earnings to be.
506 Mr. Storer It has gone very well. Over that time
period 11.5 percent has been earned on
international equities. It has paled in
comparison to the U.S. equity market,
although we have earned well above what
expected. Very diversified.
Page 11: Fund's long-term average annual
total returns; chart comparison. Changes
in the Fund's annual market value.
Page 12: Volatility. Drop in October is
due to dividend payout. The second chart
is on permanent fund's total return (actual
and projected).
549 Senator Wilken Talk about how you have used the basket
provision.
Co-Chair Kelly Re-explain basket provision
553 Mr. Storer We have a statutory list of what we may
invest in. The legislature approved HB
156, Basket clause, which allowed the fund
to use 5 percent of the portfolio following
the prudent investor rule to invest in
asset classes that do not fall within the
statutory list. Noted early that we are a
very mature fund and due diligence is a
very important part of what we do. The
board did a very thorough study
investigating private equity. It is really
a clause to help us look at sophisticated
investment vehicles and those take time.
572 Co-Chair Donley Overview of why you are introducing that
legislation.
576 Mr. Gruening Page 13: Three objectives. See that the
fund's purchasing power is preserved. If
you are going to maximize distributions
over the long-term you have to have
inflation proofing. Minimizing
fluctuations in annual payouts.
589 SIDE B
589 Mr. Gruening QUOTE "Inflation is like a thief in the
night. It steals from you silently and
nobody knows what's being done." Inflation
proofing came about. Looking at the long-
term we've been blessed by healthy markets
and high oil revenues, but looking down the
road the best approach was a limit based on
long-term research of a payout of market
value. Our proposal is to limit a five
percent of a five-year average of the
market value of the fund. It does not
require any changes in the statutes and it
would not affect the payout of the
dividend, but it establishes a limit on the
payouts, which gives strength to the term
"permanent".
Page 14: Allowing the trustees to be
removed only for cause. It is a provision
that exists in the statutes that relate to
the pension fund. It gives the kind of
continuity that is necessary for preserving
the course in investments and allowing the
board to function well.
564 Mr. Storer Something I've observed and an important
issue. This is a very mature and
sophisticated fund and takes a while to
educate you on those responsibilities. A
very important issue is ensuring the
continuity in how decisions are being made.
Long-term investment issue. Very important
that something is in place that ensures the
continuity of the education and
institutional memory of the decisions that
have been made.
552 Co-Chair Donley Current cycle of turnover? There are
staggered terms?
548 Mr. Gruening It is one every year. The board consists
of six members. Two are commissioners and
the other four are public and they serve a
staggered term. Essentially any Governor
has the opportunity to replace half the
board within the first year. Our desire is
to put ourselves on par with pension funds.
You still have rollover, but it was not
until recently that we have such large
rollovers. Something we think the
legislature should look at.
539 Co-Chair Donley This year ballot measure 3: New Governor
would have to have a reason to replace
someone on the board.
535 Senator Wilken Comment: Sometimes there are folks that
want to make you feel guilty that you have
$$$ in the bank. Only state in the nation
that have this discussion. Others would
long to be seated at this table. Humble by
the responsibility. Proud of this report.
525 Senator Hoffman Back to Page 6. In the past the most
important figure to the public was the
amount of the dividend. Why is that figure
not put under the projections today?
517 Mr. Gruening One comment. Different division deal with
the dividend. Revenue calculated based on
population.
512 Mr. Kelly We have provided that number, but as a
general rule we don't. The millions of
dollars that are transferred that we know
about. We assume a number.
508 Senator Hoffman But to the average Alaskan that is the most
important figure of all.
Mr. Gruening Get asked about it a lot.
505 Co-Chair Donley Follow up on Senator Wilken's remark. Page
2 of the handout. It is quite phenomenal
that 66 percent of the current principle of
the dividend has been by special
appropriation action of the legislature.
497 Mr. Kelly We ought to invite the politicians from
Washington up here, because it is not
necessary to spend every dime that is on
the table and here in Alaska we have done a
good job of not doing that.
491 Co-Chair Donley Thank you for joining us today. Adjourned
at 10:00 a.m.
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