Legislature(2019 - 2020)Anch LIO Lg Conf Rm
06/28/2019 10:00 AM House BICAMERAL PERMANENT FUND WORKING GROUP
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| Audio | Topic |
|---|---|
| Start | |
| Bicameral Permanent Fund Working Group Presentations | |
| Permanent Fund Corporation Mission and History | |
| Fiscal Models | |
| Revenue Models | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
ALASKA STATE LEGISLATURE
BICAMERAL PERMANENT FUND WORKING GROUP
ANCHORAGE LIO
June 28, 2019
10:07 a.m.
MEMBERS PRESENT
Representative Jennifer Johnston, Co-Chair
Senator Shelley Hughes
Senator Donald Olson
Representative Adam Wool
Representative Jonathan Kreiss-Tomkins
Representative Kelly Merrick
MEMBERS ABSENT
Senator Click Bishop, Co-Chair
Senator Bert Stedman
OTHER LEGISLATORS PRESENT
Senator Cathy Gissel
Senator Chris Birch
Senator Jesse Kiehl
Representative Matt Claman
Representative Bryce Edgmon
Representative Sara Hannan
Representative Louise Stutes
Representative Geran Tarr
COMMITTEE CALENDAR
BICAMERAL PERMANENT FUND WORKING GROUP PRESENTATIONS
- Permanent Fund Corporation Mission and History - Angela Rodell
- Fiscal Models - David Teal
- Revenue Models - Bruce Tangeman
- HEARD
PREVIOUS COMMITTEE ACTION
No previous action to record
WITNESS REGISTER
ANGELA RODELL, Executive Director
Alaska Permanent Fund Corporation
Department of Revenue (DOR)
Juneau, Alaska
POSITION STATEMENT: Discussed the mission, history, roles and
responsibilities of the trustees of the Permanent Fund.
DAVID TEAL, Legislative Fiscal Analyst
Legislative Finance Division
Alaska State Legislature
Juneau, Alaska
POSITION STATEMENT: Presented fiscal models for the permanent
fund.
BRUCE TANGEMAN, Commissioner
Department of Revenue (DOR)
Anchorage, Alaska
POSITION STATEMENT: Presented revenue models for the permanent
fund.
ACTION NARRATIVE
10:07:35 AM
CO-CHAIR JENNIFER JOHNSTON called the Bicameral Permanent Fund
Working Group meeting to order at 10:07 a.m. Present at the call
to order were Senators Olson and Hughes; and Representatives
Merrick, Wool, Kreiss-Tomkins, and Co-Chair Johnston. Co-Chair
Johnston announced that Co-Chair Bishop had a family emergency
and would not be in attendance and Senator Stedman would
participate via teleconference.
^Bicameral Permanent Fund Working Group Presentations
Bicameral Permanent Fund Working Group Presentations
10:09:10 AM
CO-CHAIR JOHNSTON reviewed the agenda for the Bicameral
Permanent Fund Working Group (PFG). She said that Angela Rodell,
Executive Director, Alaska Permanent Fund Corporation will give
a PowerPoint, followed by fiscal and revenue model presentations
by David Teal, Legislative Fiscal Analyst, Legislative Finance
Division, and Bruce Tangeman, Commissioner, Department of
Revenue. She advised that she had conferred with Co-Chair Bishop
and the presentations by the three working group teams would be
removed from today's agenda. [The three teams were assigned to
evaluate the impacts of a $3,000 dividend, a $1,600 dividend
and, a surplus permanent fund dividend amount.]
10:09:41 AM
SENATOR HUGHES said that a substantial amount of work went into
the working group team reports. She asked that the working group
reports be published and available even if the teams would
continue to work towards reaching agreement.
CO-CHAIR JOHNSTON said she would discuss her request with Co-
Chair Bishop. She envisioned the three working group teams would
work similar to the legislative conference committee process.
She related her understanding that the conference committee
process takes considerable time and the committee does a
substantial amount of work before it can come to any agreement.
Although she offered to speak to Co-Chair Bishop, she
anticipated that as co-chairs, they would expect the working
group teams to produce reports similar to ones that a conference
committee would prepare.
SENATOR HUGHES said that as the Chair of the Senate Judiciary
Standing Committee, she would make her report available to the
public. The committee heard [SJR 5, proposing amendments to the
Constitution of the State of Alaska relating to the Alaska
permanent fund and the permanent fund dividend], so she planned
on uploading her report and would also make it available
electronically.
^Permanent Fund Corporation Mission and History
Permanent Fund Corporation Mission and History
10:12:15 AM
ANGELA RODELL, Executive Director, Alaska Permanent Fund
Corporation, Department of Revenue (DOR), Juneau, stated that
she would begin by referring to the Constitution of the State of
Alaska, which is how she begins every presentation. She read:
In 1976, Alaskans voted 75,588 to 38,518 in favor to
amend the Constitution of the State of Alaska and
created the Alaska Permanent Fund.
Alaska Constitution Article IX Section 15. Alaska
Permanent Fund:
At least twenty-five percent of all mineral lease
rentals, royalties, royalty sale proceeds, federal
mineral revenue sharing payments and bonuses received
by the state shall be placed in a permanent fund, the
principal of which shall be used only for those
income-producing investments specifically designated
by law as eligible for permanent fund investments. All
income from the permanent fund shall be deposited in
the general fund unless otherwise provided by law.
She noted that the Constitution of the State of Alaska has
simple, straight-forward language.
10:13:45 AM
MS. RODELL turned to slide 3, "Legislative Findings 37.13.020."
The people of the state, by constitutional
amendment, have required the placement of at
least 25% of all mineral royalties received by
the state into a permanent fund. The legislature
finds with respect to the fund that:
• The Fund should provide a means of conserving a
portion of the state's revenue from mineral
resources to benefit all generations of
Alaskans.
• The Fund's goal should be to maintain safety of
principal while maximizing total return.
• The Fund should be used as a savings device
managed to allow the maximum use of disposable
income from the Fund for the purposes
designated by law.
She said that once the decision to establish the permanent fund
was passed by initiative, it took another four years before the
Alaska Permanent Fund Corporation (PFC) was created. This
created the foundation for how the PFC manages and invests the
fund. The permanent fund was originally managed in 1977 by the
Department of Revenue. In 1980, when the Alaska Permanent Fund
Corporation was established, it took over that role.
10:15:21 AM
MS. RODELL turned to slide 4, "1980 The Corporation AS
37.13.040."
The Alaska State Legislature passed SB 161 in 1980
establishing the Alaska Permanent Fund Corporation.
The purpose of the Corporation is to manage and invest
the assets of the permanent fund and other funds
designated by law in accordance with AS 37.13.010-
37.13.190.
APFC operates as a separate state entity under the
oversight of an independent Board of Trustees who
serve as fiduciaries of the Alaska Permanent Fund.
A fiduciary responsibility is a legal obligation
of one party to act in the best interest of
another.
When a party knowingly accepts the fiduciary duty
on behalf of another party, they are required to
act in the best interest of the principal, the
party whose assets they are managing.
MS. RODELL said that [the above] statement captures the Alaska
Permanent Fund Corporation's mission. It is what the PFC has
been set up to do and all that it does. She also included
several definitions [shown in italics above.]
MS. RODELL said that it is the job of the Board of Trustees to
act in this manner, in the best interest of the principal of the
fund.
10:16:32 AM
MS. RODELL turned to slide 5, "The Board of Trustees AS
37.13.050."
The Board consists of six members appointed by the
governor.
Two of the members must be heads of principal
departments, one seat is designated for the
Commissioner of Revenue.
The four public members of the board must have
recognized competence and wide experience in
finance, investments, or other business
management-related fields.
The Board sets investment policy, reviews the
portfolio's performance, and works together with
management to determine the Corporation's strategic
direction.
As fiduciaries, the Trustees have a duty to Alaskans
in assuring that the Permanent Fund is managed and
invested in a manner consistent with legislative
findings.
10:17:31 AM
MS. RODELL turned to slide 6, "History" and "Investment
Responsibilities." One of the things members will notice as we
review the statutory changes is that over the course of the 39
years of the corporation's existence is that the process has
been one of allowing the corporation the time to take on more
risk, being very prudent in taking on that risk, and having more
and more direct management of the fund.
10:18:12 AM
MS. RODELL turned to slide 7, "1980 Original Language AS
27.13.120."
(a) The prudent-man rule shall be applied by the board
in the management and investment of Alaska permanent
fund assets. The prudent-man rule as applied to
investments of the corporation means that in making
investments the board shall exercise the judgment and
care under the circumstances then prevailing which an
institutional investor of ordinary prudence,
discretion, and intelligence exercises in the
management of large investments entrusted to it, not
in regard to speculation but in regard to the
permanent disposition of funds, considering probable
safety of capital as well as probable income.
(b) The corporation assets shall only be used for
income-producing investments.
(c) The board shall maintain a reasonable
diversification among investments unless, under the
circumstances, it is clearly prudent not to do so.
(d) The board shall submit long-range and quarterly
investment reports to the Legislative Budget and Audit
Committee.
(e) The corporation may not borrow funds or guarantee
from principal of the Alaska permanent fund the
obligations of others.
(f) The board may enter into and enforce all contracts
necessary, convenient or desirable for purposes of the
corporation.
MS. RODELL said it was interesting to note that the prudent-man
rule has been in existence since the [fund's] inception. She
noted that some people thought it was a newer version of the
investment responsibility. She added that the Permanent Fund
Corporation also still complies with the rule to submit
quarterly investment reports to the Legislative Budget and Audit
Committee.
10:19:18 AM
REPRESENTATIVE KREISS-TOMKINS referenced her statement that the
PFC has taken on more direct management of assets in recent
times. He asked her to elaborate on how the percentage of assets
managed directly by the PFC has changed in recent years and her
goals.
MS. RODELL responded that slide 8 will address that question.
10:19:51 AM
MS. RODELL turned to slide 8, "1980 Original Investment
Vehicles." She said that considering the original investment
vehicles at the time, members might notice that it was a very
conservative list of vehicles. She reviewed the list.
AS 37.13.120 (g) (i)
• Obligations insured or guaranteed by the United
States
• Certificates of Deposit (CDs) issued by US Banks
• Shares & CDs issued by chartered savings and loans
in Alaska
• CDs issued by Alaska banks
• Corporate debt and notes rated AA or higher
• Residential mortgages and commercial loans,
containing federal guarantees
• Futures contracts for the purpose of hedging
• Asset allocation limits:
25% corporate debt, 15% residential mortgages
MS. RODELL said that a balance of 60 percent of the portfolio
needed to be in obligations that were insured or guaranteed by
the United States, Alaska bank CDs and similar items, which was
a very conservative allocation. She noted that this point is the
first mention of investing in Alaska.
AS 37.13.120 (l)
• The board shall invest the assets of the corporation
in in-state investments to the extent in-state
investments are available if the in-state
investments
1. Have a risk level and expected yield
comparable to alternate investment opportunities;
and
2. Are included in the list of permissible
investments in (g) of this section.
10:21:43 AM
REPRESENTATIVE WOOL asked whether the interest rates at the two
Alaskan banks were preferential. He recalled reading material in
members' binders that Governor Hammond had mentioned one of the
incentives to create the permanent fund dividend in the
beginning was because only a few people were benefitting from
certain loan programs in the state, so he wanted to spread that
benefit to the average person who did not receive any loan. He
asked whether any of the investments received preferential
loans.
MS. RODELL answered no. She said the Permanent Fund Corporation
does not believe that any of the investments were subsidized or
given preferential treatment. She pointed out that what happened
in the banking community at the time with lots of building
occurring, resulted in the need for a lot of liquidity. This was
an effort to keep a robust banking system in the state, she
said.
10:23:03 AM
REPRESENTATIVE WOOL asked what the balance and average earnings
of the Alaska Permanent Fund were at that time.
MS. RODELL answered that in 1980 the balance was about $1
billion and interest rates were in the high teens.
10:23:29 AM
SENATOR OLSON, in reviewing the portfolio, recognized that
investing in CDs may be safe, but they currently do not bring a
significant return. He assumed it was the same in the 1980s. He
asked whether the reason the Alaska Permanent Fund balance is so
robust is that the fund was free from the shackles of placing
too much emphasis on security.
MS. RODELL responded that he raises a really good point. When
the fund was new, the state was focused on ensuring that the
permanent fund was going to be available for generations. She
referred to the findings, which stated that the permanent fund
needed to be present for all future generations of Alaskans. It
needed to be available in 2019 and beyond, she said. As with
most new things, [the corporation] tended to be risk averse
until it got comfortable with how the investments would work. In
addition, size matters so once [the fund] reached a certain size
[the managers] realized they could afford to take on more risk.
Over time, the stability of the fund was maintained in terms of
constitutional protection, since annual royalty deposits were
made, as required, and the oil continued to flow through the
Trans-Alaska Pipeline System (TAPS). This gave comfort to a lot
of people that this could continue over time, she said. She said
that as she walks through the timeline, members can notice that
changes were made on a regular, robust basis, because it was
important to Alaskans to make sure that the permanent fund
continued to do all the things it needed to do.
10:25:55 AM
CO-CHAIR JOHNSTON stated that Senator Kiehl had joined the
meeting.
REPRESENTATIVE WOOL asked for further clarification on her
earlier comment that the permanent fund balance was $1 billion
and the interest rate in 1980 was in the high teens. He asked
whether she was speaking to the returns and if the interest
rates were in the high teens.
MS. RODELL responded that in 1980 or 1982, the interest rates
were in excess of 15 percent due to high inflation.
10:26:41 AM
MS. RODELL turned to slide 9, "Changes Over Time." She said that
the changes came on a fairly regular basis. In 1982, the savings
and loan crisis started to work its way through the country. She
added that in 1982, the types of stocks that could be invested
in are called "value stocks" today rather than "growth stocks"
that generate regular payments and income. She reviewed the
remaining 1982 statutory changes, adding that there was not a
recognition between debt and equity at the time, just exposure
to U.S. Corporations, in general.
1982 Amended Allowable Investments:
• Added collateral requirements for illiquid CDs
• Added dividend yielding equities (foreign &
domestic)
• Changed definitions of federal guarantees to
match revised security requirements
• Changed asset allocation limits to 15% mortgages;
15% real estate; 10% foreign equities; 20%
foreign CDs; 50% US corporate debt & equities
1986 Added rating requirement of "A" to collateral for
illiquid CDs 1989
1989 Added language:
• Allowing for foreign corporate debt rated "AA" or
better
• Allowing for foreign government debt and CDs
• Broadening the definition of allowable foreign
stocks
• Broadening the definition of allowable future
contracts
Repealed and replaced asset allocation limits to:
15% mortgages
15% real estate
20% CDs and 50% corporate stocks & debt
securities (foreign & domestic)
MS. RODELL said that in 1986, there was a recognition that the
corporation could take more risk and as a result, increase
returns. She turned to 1989.
MS. RODELL said removing the 10 percent limit on foreign equity
and the 20 percent for foreign CDs by changing it to 20 percent
CDs of U.S. and foreign combined made things much simpler. The
Board of Trustees and the PFC would determine the optional mix
of foreign and U.S. stocks so long as it did not exceed 50
percent of the fund, she said.
10:29:38 AM
REPRESENTATIVE WOOL referred to the 1982 allowable investments.
He said the asset allocations adds up to 110 percent.
MS. RODELL clarified that these refer to limits and not an
allocation pie. The board was still entrusted to create the
actual allocation, but limits were placed on specific exposures,
so if the board went in one direction, it would need to cut it
from another.
10:30:15 AM
MS. RODELL turned to slide 10, "Changes Over Time 1992." She
said that the changes in statute in 1992 made some bigger
changes. She said these changes redefined CDs and also removed
the secondary market liquidity requirements, so the corporation
no longer had to hold the collateral.
Changes Over Time 1992 ?
• Redefined CDs, removing secondary market
liquidity requirements
• Reduced rating requirement for corporate debt to
rom "AA"
• Removed certain mortgage insurance requirements
• Added permission for Board to establish/modify
investment guidelines, subject to review and
comment by Legislative Budget and Audit Committee
prior to adoption
• Amended collateral requirements
• Changed asset allocation limits to 15% mortgages,
15% real estate, 20% CDs, 50% equities, 5%
corporate, domestic, foreign and taxable
municipal debt
She said she mentioned earlier that the corporation could only
invest in mortgages on the portion that had federal guarantees,
and this removed some of those limits. She emphasized that it
added permission for the board to actually establish its own
investment guidelines. This was the first time that a real
relinquishing of some of the investment responsibilities to the
Board of Trustees occurred, she said.
10:32:05 AM
MS. RODELL turned to slide 10, "Changes Over Time."
1994 Amended real estate limits, raising
investment amount from $20,000,000 to $150,000,000
• Total value of investment can exceed $150,000,000
if 33% of investment property is owned by other
institutional investors
1996 Rating requirements changed to "investment
grade"
Asset allocation limits changed to:
55% Stocks, 15% Real Estate, 20% CDs, 15% Mortgages,
5% other types of investments, subject to prudent
investor rule
• Recognized 'other' may cause aggregate investment
to exceed applicable limits
MS. RODELL said that prior to 1994, the PFC was limited to $20
million for investment amount and the total value of the
investments could not exceed $150 million. This meant that the
PFC could only be a partner in an investment if 33 percent was
owned by other institutional investors. This also limited the
PFC to a majority owner, but not a 100 percent owner, she said.
The rating requirements changed to investment grade, the asset
allocation limits changed, and public equities were raised from
50 to 55 percent.
She said that another big change was to add a new category,
"other types of investment," which allowed the corporation to
invest in other types of investments so long as they were
subject to the prudent-investor rule. This meant that as long as
other institutional investors of similar type and quality of the
permanent fund made investments, that the corporation could also
invest. There was the recognition that this other vehicle may
look for another type of allocation limit. For example, with a
Real Estate Investment Trust (REIT), some institutional
investors group those investments with their public equity
portfolio because it would be listed in a public equity
exchange. In those instances, [the corporation] could exceed the
55 percent limitation on its stocks. There was a recognition
that some of those limits might be exceeded, which was fine, so
long as the corporation was in compliance with the 55 percent
stocks or five percent of "other" investments, she said.
10:34:18 AM
MS. RODELL reviewed slide 12, "Changes Over Time ?"
1999 Amendments:
• Allowed to borrow money with respect to real
property investments provided no recourse to APFC
or Fund
• Updated collateral and rating thresholds for debt
investments
• Added real estate investment trusts (REITs) to
allowable investments list
• Allowed the Fund to wholly own institutional
sized real estate (no longer limited to 67%
ownership)
• Changed asset allocation limits: 55% Stocks, 15%
Real Estate, 20% CDs, 15% Mortgages 5% Other
types of investments, subject to prudent investor
rule 2004 Amended Language:
• Borrowing for any investment vehicle (not just
real estate) nonrecourse to APFC or the Fund
• Increased asset allocation limit for the "Other"
category from 5% to 10%
10:35:25 AM
REPRESENTATIVE WOOL asked her to elaborate on the reason the
Permanent Fund Corporation (PFC) can borrow money.
MS. RODELL responded that when the Permanent Fund Corporation
invests in real estate, it sometimes makes sense to leverage the
investment to allow for capital improvements rather than to hold
it with cash. For example, the corporation has held some real
estate holdings since 1985 but these properties have increased
in value. In order to capture some of that value to make
additional real estate investments, the PFC can borrow against
the value of that property and take cash out of the underlying
value. However, the Alaska PFC limits the amount of leverage on
its individual real estate to 50 percent of the value. Further,
the corporation cannot do multiples of the value, especially in
joint venture properties. Sometimes it is important for the PFC
to allow its partner to use the value for cash, as well, thereby
using it as a partnership tool. It is limited because the
vehicle that is buying the property is a "limited special
purpose vehicle" that the corporation invests in, which only has
rights to the property itself. Thus, the lender can only
foreclose on the underlying property and cannot come after the
permanent fund or the Permanent Fund Corporation for repayment
of any kind.
10:37:33 AM
REPRESENTATIVE KREISS-TOMKINS referred to the 1999 statutory
changes [slide 12]. He asked how many wholly owned real estate
properties the corporation owned at that point.
MS. RODELL pointed out that the listings are posted to the
corporation's website. She did not recall offhand but offered to
report back to the group with the figures.
10:38:08 AM
REPRESENTATIVE KREISS-TOMKINS referred to the phrase
"nonrecourse to APFC" on the same slide. He asked whether that
term was also the one she just explained to Representative Wool,
that when leveraging a real estate investment, the lender cannot
come after the APFC for repayment.
MS. RODELL said yes.
10:38:45 AM
SENATOR HUGHES asked whether the amendments to statutes [on
slides 9-12] were recommended by the board or if some changes
were initiated by the legislature.
MS. RODELL offered to double check, but it was her understanding
that they came from the Board of Trustees. She reminded members
that the board's recommendations also go through the Legislative
Budget and Audit Committee, so it was possible that some changes
came from the committee. She was unsure of the specifics.
SENATOR HUGHES related her understanding that the Board of
Trustees was intimately involved in the process. She asked
whether there were any cases in which the board was not
comfortable with something that was adopted.
MS. RODELL answered no, not to her knowledge.
10:40:00 AM
MS. RODELL reviewed slide 13, "2005 Current Language Adopted AS
37.13.120." She said this is law the Permanent Fund Corporation
currently uses to manage the permanent fund. She said she has
included the language in its entirety for the working group's
benefit. Members will notice that many of the provisions are
very similar to the language adopted in 1980. For example,
subsection (a) still has the prudent investor rule. In 1980, it
was the prudent man rule, but it has the same meaning and power
as the prudent investor rule.
(a) The board shall adopt regulations specifically
designating the types of income-producing investments
eligible for investment of fund assets. When adopting
regulations authorized by this section or managing and
investing fund assets, the prudent-investor rule shall
be applied by the corporation. The prudent-investor
rule as applied to investment activity of the fund
means that the corporation shall exercise the judgment
and care under the circumstances then prevailing that
an institutional investor of ordinary prudence,
discretion, and intelligence exercises in the
designation and management of large investments
entrusted to it, not in regard to speculation, but in
regard to the permanent disposition of funds,
considering preservation of the purchasing power of
the fund over time while maximizing the expected total
return from both income and the appreciation of
capital.
b) The corporation may not borrow money or guarantee
from principal of the fund the obligations of others,
except as provided in this subsection. With respect to
investments of the fund, the corporation may, either
directly or through an entity in which the investment
is made, borrow money if the borrowing is nonrecourse
to the corporation and the fund.
(c) The board shall maintain a reasonable
diversification among investments unless, under the
circumstances, it is clearly prudent not to do so. The
board shall invest the assets of the fund in in-state
investments to the extent that in-state investments
are available and if the in-state investments
(1) have a risk level and expected return comparable
to alternate investment opportunities; and (2) are
eligible for investment of fund assets under (a) of
this section
(d) The corporation may enter into and enforce all
contracts necessary, convenient, or desirable for
managing the fund's assets and corporate operations,
including contracts for future delivery to implement
asset allocation strategies or to hedge an existing
equivalent ownership position in an investment.
(e) Before adoption of a regulation under (a) of this
section, the regulation, in electronic format, shall
be provided to the Legislative Budget and Audit
Committee for review and comment. The board shall
submit investment reports to the committee at least
quarterly.
MS. RODELL referred to subsection (e). She noted that the
language is still included, but now the "allowable permissible
list" is not used, only the prudent-investor rule. The allowable
investments are done through the regulatory process and prior to
adoption of a regulation, it goes before the LB&A for review and
comment, she said.
10:41:29 AM
SENATOR OLSON pointed out the U.S. has been enjoying a bull
market that has outlasted what many people had anticipated. He
asked whether the PFC has any plan in place to protect its
assets if a financial crisis occurs, like the one in 2008.
MS. RODELL said she would talk about risk and how the
corporation manages its risk later in the presentation, but the
diversification of the portfolio helps to protect the fund and
the corporation is always monitoring how the market is changing.
The PFC works to identify any concerns and makes decisions on
where it needs to be more prudent or take measured risk.
10:42:39 AM
MS. RODELL turned to slide 14, "Historical Asset Allocation,"
that consists of a series of pie charts based on the actual
portfolio, including bonds, stocks, real estate, private equity,
absolute return, infrastructure, and asset allocation. She said
she included this slide to visually demonstrate how broad the
allocation has become since 1980. This allows the corporation to
manage its risk through diversification, which Senator Olson
asked about earlier.
10:43:25 AM
REPRESENTATIVE WOOL asked for further clarification on the
meaning of "absolute return" and if "infrastructure" differs
from real estate.
MS. RODELL answered that "absolute return" relates to hedge
funds that use a specific non-correlation in their design to
counter what one thinks the market might be in order to provide
risk diversification. Infrastructure includes investments in
assets that have term contracts or take-or-pay contracts, such
as utilities, toll roads, airports, fee-for-service types of
large assets.
10:44:21 AM
REPRESENTATIVE KREISS-TOMKINS asked about the portfolio's
current real estate holdings. He wondered which of those asset
classes are predominantly managed in-house by the corporation
and those that are primarily managed externally.
MS. RODELL reviewed the list on the left side of slide 14:
Bonds have been almost 100 percent managed internally since
1980, and currently less than five percent is externally
managed. The Department of Revenue managed the bond
portfolio in house before it was moved over to the
corporation.
Stocks are almost exclusively managed externally. The PFC
has approximately a $2 billion portfolio that is being
managed internally, she said.
Real estate is internally managed, with the assistance of
external managers.
Private Equity has both internal and external management.
They make some direct investments but also perform
substantial due diligence.
The PFC defines internal management as the responsibility
for performing due diligence, by using an investment
decision rather than using a fund to make that investment
decision.
Absolute Return is externally managed. The PFC selects the
funds, but the funds do the investing.
Infrastructure is both internal and external.
Asset Allocation is the treasury function of the funds, so
it means managing the daily cash and working with fixed
income. The corporation uses a cash overlay program to keep
the money invested until cash is needed. It also includes a
Risk Parity Program. These are multi assets that invest in
the same assets that the PFC does, but differently than the
corporation in order to generate a different type of
return. They also have a foreign currency overlay program
to help manage the foreign currency exposure. She
characterized Asset Allocation as a strange catch-all
grouping that has a treasury function. It is internally
managed, but also has some pieces that are externally
managed.
10:47:54 AM
REPRESENTATIVE KREISS-TOMKINS recapped the asset classes that
the PFC internally manages include bonds, real estate, some
private equity and infrastructure. The PFC externally manages
most of its stocks, some private equity, some infrastructure and
hedge funds. He said maybe it is in the quarterly reports of the
LB&A, but he recalled that line item in the operating budget for
the PFC is approximately $15 million. He remarked that this is
an incredible value given the massive wealth her team has
control over. Given the current division of internal and
external management, he asked whether she is interested in
bringing more assets into internal management and also to
identify any limiting factors.
MS. RODELL answered that it continues to be a priority to build
up the PFC's internal management capability. The corporation
would never want to internally manage 100 percent of its
portfolio given the sophistication and change of the assets, but
having internal managers touch every asset class, as the PFC
currently does, creates a much better alignment of goals with
its investments.
She said that in terms of private equity, real estate, or
investing in a real estate fund, there is often a need to turn
investments on a much tighter timeframe, perhaps a five to
seven-year timeframe due to the need for liquidity. However, the
PFC can also hold its investments for a longer time period. For
example, as previously mentioned, the PFC has owned some of its
real estate since 1985, which has allowed the corporation to
continue to generate income from those assets. The desire to
hold these assets is, in part, because the PFC is not forced to
sell its assets when the investors have other demands. However,
she acknowledged that creating that alignment is really
important to the overall success of the corporation. Secondly,
it is less costly to manage internally than externally. If the
bond portfolio were externally managed, fees would easily exceed
$15 million per year, which is about the same as the entire
PFC's budget of $17 million for FY2020.
She identified the biggest challenge as the uncertainty of the
annual budget and obtaining sufficient salaries for staff. Just
like the rest of state government, the PFC's employees do not
receive any merit or retention increases. She reported that
about 85 percent of public funds in the U.S. pay incentive
compensation to their investment personnel. The PFC does not
have an incentive compensation program, which is a limiting
factor to recruiting and retaining talent. Based on surveys she
has reviewed the number one reason people turn down offers at
the PFC is due to inadequate compensation.
10:51:43 AM
REPRESENTATIVE KREISS-TOMKINS asked how much the PFC pays for
external management including net of fee payments.
MS. RODELL answered that including the net of fee arrangements,
the cost is in excess of $350 million on a $65 billion
portfolio.
REPRESENTATIVE KREISS-TOMKINS offered his belief that this
represents a huge opportunity for Alaska, given that the PFC has
done an incredible job managing the state's assets. He
acknowledged that the PFC continues to explore ways to reduce
costs in a prudent manner, in consultation with the Board of
Trustees, so its assets can be managed in-house. He identified
the benefits of in-house management, such that when the payroll
stays in Alaska, it also will build a class of sophisticated
asset managers.
10:53:22 AM
REPRESENTATIVE MERRICK asked whether the fees paid to external
managers are negotiated fees based on investment returns or if
they are based on a flat rate.
MS. RODELL answered that it is both. The contracts that are
negotiated with the external managers tend to have a flat
management fee, with a fee for performance, as well. They are
obviously all different depending on the contract and when it
was entered into, but there is generally a performance-based fee
component. They must reach certain rates of return in order to
earn the fees.
10:54:12 AM
REPRESENTATIVE MERRICK asked whether external management has
ever had negative results.
MS. RODELL answered yes; at one point the PFC had to claw back
fees and trying to collect was really painful. The PFC has moved
away from that to alternative fee structures. However, during a
down market the hope is that the manager does not lose as much
as the market loses. However, negative performance will occur,
she said.
10:54:48 AM
REPRESENTATIVE WOOL asked whether all the fees in-house are
deducted from the earnings, which would be a pre-dividend
calculation.
MS. RODELL answered yes.
REPRESENTATIVE WOOL asked whether the asset allocation changes
or is shaped by any incentive, such as offering a bonus.
MS. RODELL answered that it is not affected by the size of the
fund.
REPRESENTATIVE WOOL calculated that the $350 million cost for
external managers on $65 billion results in a little more than a
half of one percent. He acknowledged that the retention and
recruitment of staff sounds challenging. It seemed to him that
people would want to work where they receive performance
compensation.
MS. RODELL answered that if the [legislature and the
administration] would like to increase in-house asset
management, they need to recognize that asset managers and other
PFC staff do not fit the traditional state employee definition.
The state needs to think about what it will take to recruit and
retain that type of talent and be willing to invest in it.
Otherwise, the state needs to recognize it is not possible "to
have it both ways." It is not possible to build up the talent
and expect people to move to Alaska when the market demand for
this talent in the Lower 48 and worldwide is high. It is not
possible to expect them to provide these services for free, she
said.
REPRESENTATIVE WOOL asked whether in-house and external managers
have a portion of assets to compare performance.
MS. RODELL answered that typically the decision to have
portfolios allocated outside is because the PFC lacks the
necessary expertise to manage it in-house.
10:57:59 AM
SENATOR HUGHES mentioned the comment that "You can't have it
both ways." She asked whether the board has considered trying to
retain some of the $350 million in fees by using more in-house
managers or if it is better to continue to use external
managers. She further asked if any internal managers are based
in New York or London or if everyone is located in Juneau.
MS. RODELL answered that the PFC has looked at it. If the
corporation is to be successful in making a change, it would
take a lot of buy-in by the legislature. It will be difficult to
change the recruitment and compensation structure as long as the
PFC's budget is subject to the annual legislative budget
appropriation process. First, uncertainty as to its overall
budget exists. Second, it becomes difficult to distinguish the
corporation's staff from those of other state agencies during
the budget process.
In 2018, the board worked very hard to build an acceptable
incentive compensation structure to bring to the legislature and
the governor. Ultimately, given the messages coming from the
governor and the legislature, the board decided it was not time
to bring that proposal forward. In fact, the FY2020 budget cut
salaries to the FY2019 level without including the standard
three percent merit increase or cost of living adjustment. In
addition, the board had requested four new positions that were
not funded.
MS. RODELL stated that its only office and 100 percent of its
staff is located in Juneau.
11:01:00 AM
REPRESENTATIVE KREISS-TOMKINS expressed interested in learning
the budget process used by other sovereign wealth funds in the
world. He would like to strike a balance and provide the
corporation with greater certainty, but still have some degree
of public accountability. He said he would defer to the Co-
Chairs to decide if considering all aspects of the fund and the
dividend is appropriate. He wondered if there was a possibility
of pursuing that question.
11:02:01 AM
MS. RODELL turned to slide 15, Fund Value and Returns in
millions.
1977 The Permanent Fund receives its first deposit of
dedicated oil revenues totaling $734,000. Initial
Legislation permitted an investment list that
included only fixed income securities such as
treasury bonds.
1983 Following changes to the statutory investment
list, the Fund makes its first investment in the
stock market, and later that year, in directly
held real estate.
1990 After the Legislature expands the statutory
investment list, the Fund begins to invest in
stock and bond markets outside the United States.
2005 The Legislature makes a significant change in how
Permanent Fund investments are determined by
removing the allowed investment list from state
law. The Trustees will make investment decisions
under the guidelines of the prudent investor
rule.
MS. RODELL directed attention to a graph on the right side of
the slide. She pointed out two red bars that illustrate that the
returns have stayed within 0.0 percent and 15 percent. There
were a couple of outliers on the graph in 2008 and 2009, during
the financial crisis and the Great Recession. The returns spiked
in 1984, she said. She emphasized that this also shows that as
the risk profile grew and the PFC was able to take on additional
asset classes, it changed limits and took more risks on the
portfolio on a measured basis. In doing so the fund was allowed
to really grow and it is now at historical highs in excess of
$60 billion in assets under management.
11:03:12 AM
CO-CHAIR JOHNSTON asked how far out the board projects its
investment returns.
MS. RODELL answered that every year Callan Associates, Inc.,
consultants provide a capital market forecast and review each of
the asset classes. The consultants set an expectation for the
average return over a ten-year period. They analyze the
deviation with a plus or minus variation on the expected ten-
year return for the fund. The consultants provide a low case and
high case benchmark, in part, at the request of the Department
of Revenue for its spring and fall revenue forecast. These
figures are on the PFC's projection worksheet on its website. It
shows how the fund is projected to grow using a high, middle,
and low case scenario. Currently, the fund is projecting an
average 10-year return of 6.65 percent. This means looking back
that the fund might earn minus 20 percent in some years and a
plus 20 percent in other years, but over the ten-year period it
will have earned an average of 6.65 percent.
11:05:12 AM
CO-CHAIR JOHNSTON asked whether 10-year projections are usually
the maximum amount or if some projections go to 20 years.
MS. RODELL said that she was not aware of any projections
greater than ten years. She said that the PFC watches the
markets move and market volatility. She said looking at the
months of May and June and observing how much markets have
swung, that the farther out the projection goes, the less
validity they have. She said that she would caution against
using any forecast beyond ten years because it would have little
to no value.
11:06:06 AM
SENATOR HUGHES asked for an estimated timeframe of when to
expect the $65 billion fund would double.
MS. RODELL asked whether this would be based on 6.5 percent
return and all things being equal, that the legislature was also
not drawing from the fund.
SENATOR HUGHES asked when she thought the fund would reach $130
billion.
MS. RODELL answered that the chart [on page 15] shows that the
fund doubles in value about every ten years. She would expect
the fund to double about 20 years from now, but she was not
certain.
CO-CHAIR JOHNSTON said she thinks it would put Ms. Rodell at a
disadvantage [to provide an accurate projection for the fund
balance] due to the structured draw in place.
MS. RODELL responded that her estimate assumed there was not any
structured draw since there is not any draw for this time
period.
11:07:57 AM
CO-CHAIR JOHNSTON asked the record to be clear that the
assumption was based on no structured draws.
11:08:13 AM
REPRESENTATIVE KREISS-TOMKINS asked how assets were managed the
first few years. He was looking at the period 1977 to 1980.
MS. RODELL answered that the Department of Revenue managed the
assets during that time.
11:08:35 AM
REPRESENTATIVE WOOL said that it was interesting to note that in
1986 and 2014 the fund did really well, but those spikes were
also ones in which the Alaska economy had a very tough time. He
said it seemed as though the fund does well when oil prices are
low.
MS. RODELL said that is correct and it speaks to the global
exposure of the portfolio and the non-Alaska concentration of
the portfolio. She described it as very counter cyclical to what
is happening in the state.
11:09:49 AM
MS. RODELL said she was not going to read slide 17, "Today:
Investment Responsibilities AS 37.13.120."
When adopting regulations or managing and investing
fund assets, the prudent investor rule shall be
applied by the corporation. The corporation shall
exercise the judgment and care that an institutional
investor of ordinary prudence, discretion, and
intelligence exercises in the designation and
management of large investments entrusted to it, not
in regard to speculation, but in regard to the
permanent disposition of funds, considering
preservation of the purchasing power of the fund over
time while maximizing the expected total return from
both income and the appreciation of capital.
The corporation may not borrow money or guarantee from
principal of the fund the obligations of others.
Except the corporation may, either directly or through
an entity in which the investment is made, borrow
money if the borrowing is nonrecourse to the
corporation and the fund.
The board shall maintain a reasonable diversification
among investments unless, under the circumstances, it
is clearly prudent not to do so. The board shall
invest the assets of the fund in in-state investments
to the extent that in-state investments are available
and if the in-state investment provides the same risk-
reward benefit as other investment opportunities.
11:09:59 AM
MS. RODELL reviewed slide 18, "Allocation Structure." She said
that the structure that the board currently has in place is
basically organized in two ways.
The asset allocation structure is organized by growth
and income strategies, as well as liquidity
objectives.
This strategic categorization provides a framework for
ensuring that investment return targets are
commensurate with the risks undertaken.
The Board of Trustees reviews the Asset Allocation
annually.
MS. RODELL reviewed the Asset Allocation Structure shown on a
table in the slide. She said that within "growth," liquid assets
are known as public equities that can be sold very easily. She
said that illiquid means it can take between three months and
two years to get the full investment back. The portfolio in
income has a very liquid allocation in terms of bonds and cash.
The illiquid assets include real estate and infrastructure. Each
asset class contributes to the total fund return and provides
quality and diversity of the portfolio's investments.
11:12:22 AM
MS. RODELL turned to slide 19, "Diversification: Benefit
Reflected in VaR Contribution." The slide contains a graph
showing the ratio of "Contribution VaR" to "Stand-alone VaR."
She said that she included some slides that the board sees on a
quarterly basis. These slides are sent to Legislative Budget and
Audit since they get the entire board packet each quarter as
part of the reporting. She said this slide relates to an earlier
question Senator Olson had.
She said that the easiest way to think about the reason to
diversify is not to have all of the eggs in one basket. The PFC
wants to ensure that if one asset class is losing, not every
asset class is losing. She emphasized that it is important to
observe how markets move, either together or apart from each
other, which is called correlation. Sometimes asset classes are
very tightly correlated. Public equity, stocks, and private
equity, which is private investment into companies, is very
highly correlated. In other words, the things in the economy
that are causing stocks to go up are also causing private equity
valuations to go up.
11:12:57 AM
MS. RODELL said, in converse though, some assets will move in
the opposite direction, so holding bonds that are not as
correlated will lose value as growth occurs because interest
rates are staying low. One way to measure the portfolio in its
entirety is to look at Value at Risk (VaR). VaR is a measure of
the risk of loss for investments. It estimates how much a set of
investments might lose, with the given probability of 97.5
percent and given normal market conditions.
• Private equity continues to have the highest
proportionate stand-alone VaR (45.1%), followed
by public equity (24.8%)
• Given the high correlation between these two,
their respective contribution to overall risk
(VaR) is also high.
• On the other hand, the fixed income and real
estate exposures increase diversification
benefit, with much lower contribution
proportions. Total Fund Asset Alloc. Absolute
Return FI Plus Infra & Pvt Crdt. Pvt Equity
Public Equity Real Estate $65.7 $3.7 $3.7 $15.5
$5.2 $8.4 $25.1 $4.0 17.4% 3.4% 4.6% 6.2% 14.3%
45.1% 24.8% 13.5% Asset Allocation $bn Standalone
VaR as % of respective portfolio NAV 40% 50% 60%
70% 80% 90% 100% Ratio of "Contribution VaR" to
"Stand-alone VaR" V
MS. RODELL said that sometimes asset classes are highly
correlated. She referred to the ratio in the chart on the left
that shows the ration of contribution to VaR to Stand-alone-
VaR. For example, with public equity the PFC can lose up to 24.8
percent of the value of the public equity portfolio based on the
risk it is taking. Private equity has the highest risk
association with it, so the PFC could lose up to 45.1 percent of
the portfolio with 97.5 confidence in normal market conditions.
These are the greatest contributors to risk in the portfolio.
That is the reason the PFC has this counter risk, which is fixed
income in real estate.
11:14:33 AM
MS. RODELL turned to slide 20, "Asset allocation & VaR:
Breakdowns" depicting two pie charts labeled "Asset Mix" and
"VaR Mix," not shown below.
Risks are more concentrated
? The Asset mix 'seems' more diversified than actual
underlying risks.
? Of the total risk pie, approximately 85% is equity
risk (private & public equity).
? Equity (related) risk is likely to exist within
Absolute Return and Asset Allocation portfolios as
well
? Diversifiers (away from equity risk), which include
interest rates/spreads and real estate, aggregate to
only about 10% - 13%, in risk terms
She referred to the Asset Mix, shown on the left pie chart,
which shows the dollar value of each of the asset classes. For
example, with public equity 38 percent of the dollar value of
the portfolio is exposed to stocks. However, if one thinks of
that same group in terms of risk, the VaR Mix, shown on the pie
chart at the right, the public equity is actually contributing
54 percent of overall risk of the portfolio. While the asset mix
looks like a highly diversified dollar mix, from a risk
perspective it is actually not as diversified as others might
want or how other portfolios might look. This is a deliberate
choice by the PFC to take on this risk because it delivers
returns, and the board is comfortable with the risk this
portfolio is generating. This analysis provides a measure to
understand exactly where the risk lies and to ensure that the
board continues to be comfortable because as markets move, as
allocations on the dollar side change, this risk mix will also
change.
11:16:03 AM
MS. RODELL turned to slide, 21, "Tail Risk: Current Portfolio
During Extreme Events."
Tail risk is the risk (or probability) of the chance of a loss
occurring due to a rare event, as predicted by a probability
distribution. Tail risks include events that have a small
probability of occurring and occur at both ends of a normal
distribution curve.
Scenario Definition
2007 Credit Crisis Credit & liquidity crisis
stemming from a severe slowdown
in the housing market causing
significant widening of credit
spreads and increased implied
volatility.
2008 Market Crash S&P 500 down 20% (2000 bps).
US Downgrade 2011 The period starts with 50%
chance US downgrade indication
from S&P standards and ends with
Operational Twist announcement
from the Fed (stock market
losses and bond market gains)
Fed Tapering Talk 2013 Equity & bond markets sold off.
EM suffered badly due to hot
money flight back to U.S.
Chinese Market Crash Chinese stock market crash
beginning with the popping of
the stock market bubble on June
12, 2015.
Rapid Deflation Oil down 60% (6000 bps); ST
Inflation down 350 bps; Mortgage
spreads tighten 25 bps.
Slow Deflation LT deflation down 200 bps; LT
Treasury Rates down 100 bps;
Mortgage spreads tighten 25 bps.
MS. RODELL reviewed a variety of historical events as if they
happen to the portfolio today.
In 2008 and 2009 the market crashed and the S&P was down 20
percent. The fund would lose a little over 20 percent, but
that's less than the benchmark that performance is measured
against. On the other hand, in a period of slow deflation the
fund would lose more than the benchmark. This is due to where
the fixed-income portfolio is invested, she said.
MS. RODELL said this gives a sense of the magnitude of losses
that the portfolio made with certain market conditions,
especially the market crises that occurred and are often
discussed.
11:17:54 AM
MS. RODELL turned to slide 22, "Performance as of March 31,
2019." She reviewed the table.
FY 19 3 Years 5
9 mos. Years
Total Fund 3.07% 9.33% 7.24%
Passive Index 2.39% 7.43%
Benchmark
(60 Stocks|20 Bonds
|10RE|10 TIPs)
Performance Benchmark 3.50% 8.31% 6.03%
Total Fund Return 4.60% 7.20% 6.47%
Objective | CPI+5%
MS. RODELL reviewed the permanent fund performance. She said
that this chart compares the performance based on the first 9
months of FY2019, over three and five-year periods. She pointed
out that FY2018 will end on Sunday, June 30, 2019. The FY2019
annual figures will be available in about a month. Thus far, the
earnings are 3.07 percent and the passive index benchmark is
2.39 percent. She said the passive benchmark considers earnings
without any active management of the fund, as if the fund was
invested in a computer-driven index model with 60 percent
allocation to stocks, 20 percent to bonds, 10 percent to real
estate, and 10 percent to TIPs [Treasury Inflation-Protected
Security]. This replicates a passive index benchmark as compared
to the PFC's asset allocation mix.
She said that the performance benchmark came in at 3.5 percent,
which is a little better than the total fund performance. The
[performance benchmark] is for the most part investable indices
that managers are held to, such as the S&P 500. She described
the calculation. The board has its long-term objective of CPI+5
percent, which is equated to 4.6 percent, she said. She said
that right now the PFC is not keeping up with the CPI+5 percent.
11:19:35 AM
REPRESENTATIVE KREISS-TOMKINS referred to slide 21, "Tail Risk."
He asked whether the board or the corporation intentionally made
a decision in allocating risk to provide more protection for an
event similar to the 2008 market crash versus a Chinese market
crash scenario in which the PFC would be more exposed.
MS. RODELL answered that it is intentional in the sense of the
board's decision to focus on creating growth. She explained that
this allocation dates back to 2016, which explains the
directionality into alternatives and private equity, in
particular. Further, this is a more U.S. weighted portfolio on a
total fund basis. This is countered by the public equity
portfolio, which consists of more of an international tilt than
the benchmark. These are tactical decisions and active
management. The board defines the risk budget and allocation, so
when the board indicates it wants 38 percent public equity, it
is by definition saying that it wants a 50 percent risk
allocation bucket. It is then within this framework that
managers are investing. For example, the director of public
equities makes the tactical tilt when Brexit happened and the
market plummeted, by leaning in to put more money in the
European markets because the director thought the market was
overreacting and would be coming back up. She cautioned that the
table shows a spot in time on March 31. However, each day will
look slightly different based on market conditions.
11:22:43 AM
REPRESENTATIVE MERRICK asked her to briefly comment on how taxes
are paid under the fund and how management takes into
consideration any changes to tax structure.
MS. RODELL responded that the permanent fund is not subject to
U.S. tax code. The PFC does not pay any taxes on U.S.
investments. Further, the corporation is not subject to any
corporate tax requirements. However, the corporation does pay
foreign taxes to foreign jurisdictions because the PFC is viewed
as a taxable entity in some foreign jurisdictions. The PFC
relies on the tax treaties that the U.S. negotiates with foreign
governments to get tax relief in various jurisdictions, which is
done country-by-country.
11:23:40 AM
REPRESENTATIVE MERRICK asked about taxes paid to foreign
entities on the portfolio's foreign assets.
MS. RODELL said that these figures are normally netted out
before the PFC sees the returns, and the returns will be net of
that payment. She offered to check with the Chief Financial
Officer and report back. She said there may be something in the
notes of financial statements that she is not recollecting.
11:24:14 AM
SENATOR OLSON referred to the performance of the fund. He
expressed concern over the lag time in changing direction. For
example, during a downturn, when it was obvious there would be
losses, there was a delay in moving money into safer investments
to incur less loss. He asked whether the PFC is still plagued by
an inability to move money faster.
MS. RODELL responded that nothing prevents the PFC from moving
money if the PFC thinks it is necessary to do so. Currently part
of the reason to hold larger cash balances than historically, is
the sense that "we're topping up on the market." The PFC wants
to have cash available to plow into the market when the market
falls, since you want to be able to buy on a downswing. When
reviewing 2009, of course we have the perfection of 20-20
hindsight, she said. If the permanent fund had ridden out the
downswing, it would be in better shape today. Unfortunately, it
was not possible to know that at the time; the PFC just uses its
best judgment and knowledge that a downturn can extend for
years. The permanent fund's purpose is to be there in
perpetuity.
11:27:37 AM
CO-CHAIR JOHNSTON commented that former PFC CEO Mike Burns said
that the fund is invested for the long term and this was a very
long day.
11:28:10 AM
REPRESENTATIVE WOOL asked for further clarification on the table
showing the CPI+5 percent equals 4.60 percent. He asked whether
that is because the year is not over.
MS. RODELL confirmed that the figure represents just 9 months.
11:28:33 AM
MS. RODELL turned to slide 23, "Awards and Accomplishments."
Marcus Frampton, CIO, named one of Private Equity
International's 40 under 40 Future Leaders of Private
Equity and Trusted Insight's Sovereign Wealth Fund CIO
of the Year for 2019.
• Jared Brimberry, Senior Portfolio Manager was
selected as one of Private Debt Investor's (PDI)
Rising Stars 2019
• Selected as North American Limited Partner of the
Year for 2018 by Private Equity International
• APFC received dual nominations for 2018
Partnership of the Year for Institutional
Investor's Allocators' Choice Awards and won the
award for our Capital Constellation Partnership:
o Private Market Partnership, Capital
Constellation - won
o Public Market Partnership, Middle East
Africa South Asia (MEASA) Fund with McKinley
Capital - nominated
• PEI's Private Debt Magazine recognized APFC in
their inaugural 30 Most Influential Investors in
Private Credit
• Recognized as North American Private Equity
Institutional Limited Partner Investor of the
Year for 2017 by Private Equity International
• Awarded Institutional Investor's Sovereign Wealth
Fund of the Year in Hedge Fund Investments in
2017
MS. RODELL characterized this as her "brag page." She said it
speaks to the internal management questions raised earlier and
the talent that the PFC has been able to retain in Juneau
because people who are very good at this and are mission
focused, yet want a lifestyle that Alaska offers.
She said it is important for Alaskans to realize that when the
PFC wins these awards, they are nice individually, but they also
raise the corporation's profile internationally. This creates a
"halo effect" and the PFC becomes a preferred partner because
the awards demonstrate skill and success. The PFC continues to
see a lot of private market flow and offers the corporation the
advantage of selecting what it wants and not what it can get.
She said the PFC can be really selective, which keeps the
returns up.
11:30:22 AM
MS. RODELL turned to slides 24-25, "Structure of the Fund" and
"The Fund."
The Fund is comprised of two accounts which are
invested together under the same asset
allocation.
• The Principal is constitutionally established
and shall only be used for income-producing
investments specifically designated by law
under AS 37.13.120.
• The Earnings Reserve Account (ERA) is
statutorily established under AS 37.13.145(a)
to hold the income of the Fund and shall be
invested in investments authorized under AS
37.13.120.
11:31:40 AM
MS. RODELL reminded members that when she reviewed the
legislative findings and mission of the corporation, she
indicated that the PFC is mandated to manage its funds and to
manage risk. She reviewed the specific language, including the
permanent fund's goal to maintain safety of principal while
maximizing total return and that the fund should be used as a
saving device managed to allow the maximum use of disposable
income from the fund for the purposes designated by law. There
is no liability attached and the corporation is not told to hit
a certain bogey of any kind and it never has been told to do so.
MS. RODELL said this explains the mechanics of how money moves
through the permanent fund, which is important to the
discussion. She said the principal of the fund is
constitutionally established and may only be used for income-
producing investments. The Earnings Reserve Account (ERA) is
statutorily established under AS 37.13.145(a) to hold the income
of the fund and may be invested in investments authorized under
the same statutes as the principal of the fund. Historically,
what the corporation has done is put the accounts side by side
and give it a pro rata piece of each investment to the ERA
holding.
11:32:24 AM
MS. RODELL turned to slide 26, "Principal as of May 31, 2019."
The Alaska Constitution articulates that the Principal
shall only be used for income producing investments.
It is permanently protected for all generations of
Alaskans.
Contributions to the Principal since Inception:
$17.2 Billion in Royalties
The State Constitution directs "at least 25% of all"
Alaska's mineral royalties be deposited into the
Principal AS 37.13.010 (a)(1). Alaska Statute AS
37.13.010 (a)(2) directs an additional 25% for leases
after 1979.
$16.2 Billion in Inflation Proofing
Protects the purchasing power of the Principal for all
generations of Alaskans. The statutory calculation, as
set forth in AS 37.13.145(c), is based on the Consumer
Price Index applied to the total Principal amount. It
is calculated at the end of each fiscal year based on
those two numbers and is subject to appropriation by
the Legislature.
$7.1 + 9.4 = $16.5 Billion in Special Legislative
Appropriations Based on legislative actions,
appropriations have been made to the Principal from
the Earnings Reserve Account $4.3B and the General
Fund $2.7B. For FY20 the 31st Alaska State Legislature
has also authorized a special appropriation of up to
$9.4 Billion from the ERA to the Principal of the Fund
to preserve these resources for generations of
Alaskans.
$4.8 Billion in Unrealized Capital Gains/Losses
The Principal holds a pro-rata share of the cumulative
unrealized gains/losses on investment assets from the
time they are purchased to present. Once an asset is
sold, the realized gains/losses from the investment
are directed to the ERA.
MS. RODELL referred to the principal of the fund. The
Constitution of the State of Alaska directs at least 25 percent
of all Alaska's mineral royalties be deposited to the principal
of the fund. As of May 31, 2019, the PFC has collected $17.2
billion in royalties over the 42-year period since inception.
She said that $7.1 billion has been added to the principal in
the form of inflation proofing. She said the legislature
authorized a special appropriation of up to $9.4 billion in the
FY2020 budget from the ERA to the principal of the fund, but she
was unsure of the status. Finally, the principal holds a share
of its unrealized capital gains and losses of $4.8 billion. She
said that summarizes the principal or corpus of the fund.
11:34:08 AM
MS. RODELL reviewed the chart on slide 27, "Contributions to
Principal in millions." This bar graph gives a sense of the
contributions over time. She noted that in 2004, a
reclassification of an appropriation is the reason for the
negative "out" of the ERA. With that exception, it shows how
royalties have been straight-forward throughout the years and
how oil prices increased the royalties even though production
was less. It also demonstrates the effects of inflation-proofing
to the principal of the fund.
11:35:08 AM
REPRESENTATIVE KREISS-TOMKINS commented that it is a great
chart. He offered his belief that the actual transfer in FY2020
is now $5 billion.
MS. RODELL thanked him for the update. She said that it is
really great that a portion of the earnings reserve is being
used for future generations of Alaskans. She offered her belief
that the chart shows how important it has been to continue to
build the principal of the account over time. It really speaks
to the care that has been given to the fund.
11:36:07 AM
MS. RODELL reviewed slide 28, "Statutory Net Income AS
37.13.140(a)."
• The Constitution requires all "income" be
deposited into the General Fund, unless
otherwise provided by law.
• AS 37.13.140(a) Statutory Net Income defines
what "income" to the General Fund is, excluding
unrealized gains and losses, and directs it to
the ERA.
• Net realized gains and investment income are
the funds in the ERA that are subject to
appropriation by a simple majority of the
Alaska Legislature.
• Net realized gains = realized gains accumulated
during the fiscal year (-) minus realized
losses accounted for during the year
MS. RODELL said the Constitution of the State of Alaska requires
all income be deposited into the general fund, unless otherwise
provided by law. AS 37.13.140(a) statutory net income defines
what "income" to the general fund is, excluding unrealized gains
and losses, and directs it to the ERA.
MS. RODELL, in speaking to statutory net income, stated that it
is really hard to spend an unrealized gain "because when the
market is moving intra-day and between days - one day you have
it, the next you don't - the third day you have three times what
you had." She said there is the sense that you can really only
spend what you have realized. The net realized gains or the
realized gains that have accumulated during the fiscal year
minus the realized losses are trued up at the end of the fiscal
year. When constitutional language was passed, income was simple
income and it was not the fair market value of an investment. In
1997, generally accepted accounting principles changed, and the
definition of accounting income was changed to require
investments be the value of all of the PFC's investments at fair
market value. The change in value year after year would be seen
as net income, she said. That is how the concept of having
unrealized losses was embedded in the definition of income,
requiring the legislature to back that out and create the
definition of statutory net income.
11:38:00 AM
MS. RODELL reviewed slide 29, "Accounting Net Income."
• Accounting Net Income includes unrealized gains
and thus differs from Statutory Net Income which
does not.
• In 1997, Generally Accepted Accounting Principals
(GAAP) changed the definition of accounting
income, thus requiring APFC to value all
investments at fair market value.
• Fund values must include unrealized gains and
losses based on this GAAP rule. This information
is provided on our monthly financial statements
and in the Annual Report.
• Unrealized gains earned by Principal are part of
Principal, upon realization the gains are
transferred to the ERA adding to the amount
"realized for future appropriation."
11:38:51 AM
MS. RODELL reviewed the chart on slide 30, "Net Income and
Return [chart not shown]."
MS. RODELL said that looking over the last ten fiscal years as
how that income has reflected versus the returns shows that they
tend to trend in the same direction, but they can diverge
wildly. In 2011, the accounting net income was very big, but
statutory net income was not. In 2018, it was just the reverse,
with more statutory net income than accounting net income.
Statutory net income reflects the investment activity and
investment decisions being made by staff and it is not being
driven by any particular return objective. She said, "It's
really being driven by it's time to sell and if there's a gain
we have to recognize it into the Earnings Reserve Account;
therefore, it increases statutory net income." Those decisions
are investment in nature and not driven by a particular agenda,
she said.
11:39:16 AM
REPRESENTATIVE WOOL related his understanding that statutory net
income is the actual realized gains, which determines the value
of the permanent fund dividend. He said if the PFC holds on to
stocks, but they do not cash them in, there would be no realized
gain and it would not affect the statutory net income.
MS. RODELL answered that is correct.
REPRESENTATIVE WOOL asked for further clarification on the
returns.
MS. RODELL answered that the return is the percent. She referred
to the chart [on slide 22 related to performance], in which 3.07
percent was the 9-month return. This would be the annual return
for each of those years shown on the right axis.
11:40:22 AM
REPRESENTATIVE KREISS-TOMKINS, continuing where Representative
Wool was going, said statutory net income does not seem entirely
divorced from what the market is doing, but it seems like a
quasi-arbitrary metric on which to base dividends.
MS. RODELL answered that the other thing to note about statutory
net income is that it is the regularized cash flow, including
bond interest payments or rentals from real estate. Asset
allocation in 1980 was clipping coupons and collecting rent,
which was cash income to be deposited into the ERA. She said
that made sense in 1982 because the concept of fair market value
did not exist to affect income. Over time the concept of
dividend based on earnings never changed but everything around
it did since the accounting rules and investments changed.
REPRESENTATIVE KREISS-TOMKINS asked whether it was fair to say
that as the permanent fund has invested in more and different
assets, including private equities and other conservative and
traditional assets in 1982, that it widened the gap or potential
gap between how the market is doing, the value of the fund, what
savings and interest is, and the size of the PFD.
MS. RODELL answered that is a fair assessment
11:42:33 AM
REPRESENTATIVE WOOL said she previously mentioned rent and real
estate. He asked if rent would be a realized gain, since she
previously mentioned rent coming in during the 80s was cash
deposited to the ERA. He also asked if rent typically would be
used to pay off the loan. He wondered if the property would be
devalued or if the rent coming in would still be a cash gain.
MS. RODELL related a scenario, if she had a real estate mall
valued at $10 million, and collected $1,000 in rent, net of all
the expenses for mall operations, that $1,000 would be
considered income deposited to the ERA. At the end of the year,
she receives an annual appraisal and the mall is now appraised
at $11 million. According to GAAP [Generally Accepted Accounting
Principles], the $1 million increase is an unrealized gain and
is income. However, since she cannot pay anything on it, it is
allocated to the principal and the ERA pro rata as an unrealized
gain. If she kept collecting rent and sells the mall for $11
million, the cost basis was $10 million so the $1 million in
gain becomes realized gain in its entirety in the ERA.
REPRESENTATIVE WOOL said the owner is always going to get rent
on the property even if it not a gain. He was unsure if the rent
automatically would go into ?.
MS. RODELL interjected that regular cash flow dividends on
stocks results in $1.2 million per year in regularized cash
income.
11:45:08 AM
MS. RODELL turned to slide 31, "POMV AS 37.13.140(b)."
The Board of Trustees has long supported the
percent of market value (POMV) concept, including
a constitutional amendment that would ensure no
more than a sustainable amount was taken from the
annual earnings of the Permanent Fund.
• Resolutions 18-04, 04-09, 03-05 and 00-13.
This methodology is designed to create a known
and manageable withdrawal structure from the Fund
to provide benefits for both current and future
generations of Alaskans.
In 2018, the POMV structure was created in
statute (SB 26, CH16 SLA 18) it allows for an
annual draw from the Fund of 5.25% (stepping down
to 5% in FY22) based on the average market value
of the Fund for the first five of the preceding
six fiscal years.
• This draw is subject to annual appropriation
by the Legislature and can be used for any
state government service or program,
including the dividend program.
• The POMV draw for FY19 was $2.7 billion and
for FY20 is $2.9 billion. It is estimated to
be $3.1 billion for FY21.
MS. RODELL said that in 2018 the legislature passed AS
37.13.140(b).
11:45:29 AM
SENATOR HUGHES asked if the $2 billion she said comes in
annually is affected by the market since it is from rentals
MS. RODELL responded that the PFC would reinvest that cash
rather than sit on it. It is used for new investments, to pay
for operating expenses, or to transfer to the state for the
draws. She said that it can be affected by the market.
SENATOR HUGHES clarified that the $2 billion coming in is fairly
reliable.
MS. RODELL agreed it was fairly reliable.
11:46:18 AM
REPRESENTATIVE WOOL clarified that it is $1.2 billion not $2
billion.
MS. RODELL agreed.
CO-CHAIR JOHNSTON related her understanding that permanent fund
dividends can be affected by the market.
MS. RODELL agreed they can be. She explained that the figure is
between $1.2 and $1.4 billion, that interest rates go up over
time and the market rises, but it is a pretty regularized cash
flow.
SENATOR HUGHES asked for further clarification on the amount for
rentals. She asked whether that was $2 billion.
MS. RODELL said the figure was $1.2 billion. In further response
to Senator Hughes, she said she was unsure of what Senator von
Imhof had mentioned.
11:47:30 AM
MS. RODELL reviewed slide 31. She said that the Board of
Trustees has supported the percent of market value (POMV)
concept since 2003 when the board passed its first set of
resolutions. In fact, the board had a resolution dating back to
2000 related to POMV. The board is very supportive because this
methodology is designed to create a known and manageable
withdrawal structure from the fund to provide benefits for both
current and future generations of Alaskans.
She said that in 2018, the POMV structure was created in statute
that allows for an annual draw from the fund of 5.25 percent,
stepping down to 5 percent in FY2022, based on the average
market value of the fund for the first five of the preceding six
fiscal years. There is a lag in the calculation and a known draw
amount prior to the appropriation of this amount and it is not
an estimated amount that is to be included in a budget.
MS. RODELL said that in FY2019 the amount was $2.7 million, for
FY2020 it is $2.9 million, and the PFC is currently estimating a
$3.1 billion draw for FY2021.
11:48:43 AM
REPRESENTATIVE MERRICK referred to the 5.25 percent and 5
percent POMV, based on market value for five of the preceding
fiscal years. She asked whether there would be any benefit to
reducing the five years to three years to reduce the lag.
MS. RODELL answered that the reason for the longer timeframe is
to smooth out volatility in the market. If the timeframe is
shortened it could create more volatility in that time period.
She referred to the chart on slide 30, for net income and
return, to the three years from 2009 to 2011, versus the five
years between 2009 and 2013. The loss would have had a much
bigger impact on the draw in three years, but it tends to smooth
out with a five year period. She said it would result in much
more volatility in the draws by shortening the time period.
11:50:18 AM
MS. RODELL reviewed the chart on slide 32, "Illustrative POMV
Calculation & Distribution" [not shown here].
MS. RODELL said the PFD did a look back to illustrate the two
different calculations since they are based on different things.
One is based on the percent of market value (POMV) and the other
is based on earnings [or net income]. She wondered what that
would look like in previous years. She pointed out that in 2009
the permanent fund dividend transfer under the earnings
calculation and time period caused the low dividend. She said
members may recall an $800 and $900 PFD in 2012 and 2013,
respectively reflected the reduced earnings in 2009. However,
the lag time in the POMV creates a smoother and steadier
increase over the time period, she said.
11:51:34 AM
MS. RODELL reviewed slide 33, "POMV Draws."
Fund Nominal POMV Effective
Value POMV
FY $64.9B 5.25 percent 4.20 percent
2019
FY $66.1 5.25 percent 4.44 percent
2020
FY $67.6 5.25 percent 4.57 percent
2021
POMV is calculated on the average market value of the
Fund for the first five of the preceding six fiscal
years.
Effective value is based on the projected fiscal year
six Fund value at the time of the draw.
MS. RODELL said looking forward, the nominal POMV draw of 5.25
percent is an effective draw of 4.20 percent, but it will
increase over time due to the slower increase of the total
permanent fund value. She said that if fund values are flat or
declining, the effective percent of market draw of that is
closer to the actual nominal POMV draw, or it could exceed in
some years.
11:52:21 AM
REPRESENTATIVE WOOL related his understanding that the POMV is
calculated on the first five of the preceding six fiscal years.
MS. RODELL referred to the chart on slide [32], and said the
POMV calculation in 2015, would be based on 2013, 2012, 2011,
2010, and 2009. She clarified that for the FY2021 amount, the
PFC will close out FY2019, and will know the fund value by the
end of the year. The corporation will consider fiscal years
2019, 2018, 2017, 2016, and 2015 to calculate the amount
available for FY2021. When the legislature convenes in January,
legislators will know exactly how much is available. The
earnings are for five years so the fifth year is an estimated
amount since the final year is not available at the time the
appropriation happens for a dividend transfer.
REPRESENTATIVE WOOL asked whether the POMV is calculated
differently than the earnings. He asked whether earnings could
also be calculated in that way by using a sixth gap year.
MS. RODELL explained that the year gap creates certainty for the
PFC. If the state did not need cash from the permanent fund
until the last quarter of the fiscal year, arguably it would
provide a couple of years to plan and allow investing more
fully. But with the earnings you don't know, and it would
require a statutory change to remedy it, she said. In 2016, the
legislature estimated the amount to be transferred.
11:55:23 AM
MS. RODELL turned to slide 34, "Earnings Reserve Account."
The ERA is established under AS 37.13.145(a) as an
account to hold the net realized earnings from the
Permanent Fund's investment portfolio.
This includes monthly income such as stock
dividends, interest from bond holdings, real
estate rental fees, as well as realized
gains/losses from investments that have been
sold.
Monthly financial statements posted on APFC's website
provide information as to the value of the Fund and
the ERA at the end of each month.
As of May 31, 2019, the value of the ERA totals
$19.0 billion. This includes $17.0 billion of
accumulated realized earnings of which $3.9
billion is recognized as being
committed/appropriated to the FY20 POMV draw and
to Inflation Proofing the Principal. There are
also $2.0 billion in unrealized gains attributed
to the ERA's pro-rata share of Fund investments
that have not been sold.
On June 30, at the end of each fiscal year, Fund
values are "trued up" and closed in conjunction with
the completion of an annual, independent financial
audit.
The ERA does not have its own investment mandate.
The ERA is subject to legislative appropriation.
MS. RODELL sad the ERA was established to hold the net realized
earnings from the permanent fund's investment portfolio, which
includes monthly income. It is posted every month as unaudited
monthly financial statements. This gives a sense of how both the
principal and ERA are doing. She reviewed the figures as of May
31, 2019, as reported on the slide.
She emphasized that the ERA does not have its own investment
mandate or set of trust principles that it has deemed the board
to consider when investing the ERA. It is subject to legislative
appropriation.
11:56:52 AM
MS. RODELL reviewed slide 35, "Use of Fund Earnings from ERA
Since Inception."
Paid out of ERA = $30.8 B
• Dividend Transfers = $24.4B
• POMV (FY19-20) & GF Appropriations = $6.1B
• Alaska Capital Income Transfers = $367.9 m
• Transfers from ERA to Principal = $21.4 B
• Inflation Proofing
• Special Appropriations
• Unspent Realized Earnings in ERA = $13.7 B
MS. RODELL said the capital income transfers of $367.9 million
is money associated with State v. Amerada Hess.
She then reviewed the chart on the right.
Total $66.1 billion
Transfers to
Principal- Saved
Paid out to for Future Unspent Realized
current Generations Earnings
generations
Earnings Spent $30.8 Billion
Earnings Saved 35.8 Billion
11:57:48 AM
REPRESENTATIVE WOOL asked for the definition of unspent realized
earnings since he assumed all of the funds in the ERA were
unspent.
MS. RODELL answered that the balance of $13.7 billion recognizes
these transfers that are expected to happen, so the legislature
has spent portions of it, the POMV. It also does not include the
unrealized earnings, only the realized earnings.
11:58:51 AM
MS. RODELL reviewed slide 36, "Annual Use of ERA."
• POMV rules-based structure for Fund withdrawals
maintains the long term sustainability of the
Fund.
• Inflation Proofing AS 37.13.145(c) protects the
future value of the Principal.
• APFC's operations and investment management of
the Fund's assets are supported by the ERA.
• Agencies working on the collection of royalties
also receive appropriations from the ERA.
Operating Budget FY 2019 FY 2020
Appropriation
Percent of Market Value - 2,722,600,000 2,933,084,100
POMV
Inflation Proofing the 942,000,000 943,000,000
Principal
APFC Operations 18,074,600 17,800,400
APFC Investment Management 150,498,700 155,795,000
Fees
Department of Law 2,619,100 2,617,700
Department of Natural 6,044,800 6,132,600
Resources
Department of Revenue 94,500 97,900
She pointed out that the investment management fees are tied to
the performance of the fund, so the corporation has an
expectation of fund growth in calculating the class IV
management investment fees. The corporation also pays fees to
the departments of Law, Natural Resources, and Revenue for
services, mostly for collection of royalty on behalf of the
fund.
11:59:47 AM
REPRESENTATIVE WOOL related his understanding that the POMV
model would only take a set percentage every year and inflation
proofing was not necessary. He recalled the investment
management fees were $350 million, but these figures are about
half that amount. He asked if these figures were for in-house
investment management fees.
12:00:08 PM
MS. RODELL said the $350 million also referred to their net fee
arrangements. For example, property managers receive a fee prior
to remitting rentals. The $155 million refers to the PFC
actually writing a check and they need an appropriation to write
the check. Many of the external public equity managers are paid
in this manner for gross performance. In terms of POMV and
inflation-proofing, she said so long as there are two accounts
exist and the principal account does not get any benefit other
than through appropriation from the investments that it makes,
it will not keep pace with inflation. This is because there is
no way for the principal account to capture that benefit, she
said. The corporation still needs inflation-proofing, even under
the statutory POMV, in order to ensure that the principal
maintains its purchasing power for future generations.
12:01:33 PM
CO-CHAIR JOHNSTON related her understanding that the investment
management fees are negotiated fees for outside management. She
asked whether the fund has control of them as they go from
FY2019 to FY2020, since this represents an estimate of $5.3
[million].
MS. RODELL agreed the $5.3 million is an estimate. She said that
in some years, such as in 2017, the PFC requested a supplemental
appropriation because the market was really booming, and the PFC
needed to be certain it had enough authority to expend these
funds.
CO-CHAIR JOHNSTON asked whether the PFC would ask for a
supplemental appropriation if the amount in the budget for the
next fiscal year does not contain the PFC's estimated amount.
MS. RODELL answered yes.
12:02:58 PM
REPRESENTATIVE KREISS-TOMKINS referred [to slide 36] to the APFC
Operations of $17,800,400 and asked what percentage of assets in
value are managed internally versus externally.
MS. RODELL answered that approximately 40 percent are managed
internally, and 60 percent are managed externally.
REPRESENTATIVE KREISS-TOMKINS estimated the ratio is
approximately 90/10 or 85/15 in terms of cost of management of
corporate investment assets. He asked the reason why external
portfolio management is proportionately more expensive as
compared to internal management.
MS. RODELL responded that it is important to recognize all of
the resources an external manager brings to bear on managing the
portfolio. She said that the corporation expects its investment
managers to have expertise and to understand the markets. For
example, if the PFC has an investment in an emerging market,
such as China, the public equity managers must be experts on the
Chinese stock market. That expertise has an expense, including
the overhead, data, and technology necessary to stay on top of
the market, so it requires investment in infrastructure. The
external managers' basic compensation structure is commensurate
with the expertise being provided, she said.
12:05:02 PM
REPRESENTATIVE WOOL said outside investment managers handle
approximately 60 percent of the assets. He asked for further
clarification on the percent of return attributed to outside
managers and whether they bring in more than 60 percent of the
earnings.
MS. RODELL answered that she did not wish to over or under
characterize one group. She offered to research it and report
back to the committee.
12:05:46 PM
MS. RODELL turned to the pie chart on slide 37, "FY 20 Fund
Appropriations HB 39 Language." She said that when she left
Juneau this morning [prior to Governor Dunleavy's operating
budget vetoes], the FY2020 appropriation from the ERA to the
general fund was $2.9 billion based on the POMV. An additional
$27 million was directed to the Capital Income Fund for the
Amerada HESS portion, with $943 million for inflation proofing.
She related her understanding that the $9.4 billion special
appropriation post-veto amount is now $5 billion. She said that
the appropriation designated to the principal to meet the
constitutional mandate for royalties was $329.2 million with
$251 million for prepayment for statutory royalties.
MS. RODELL reminded members that by statute, 25 percent of the
royalties from leases entered into after 1979 are to go to the
principal of the fund. However, that has not been appropriated
in the last few years. It has been capped at the constitutional
requirement of 25 percent. This year's operating budget tried to
restore this difference by depositing an additional $251 million
into the principal.
MS. RODELL said that this allows the PFC to use best practices.
12:07:28 PM
MS. RODELL turned to slide 38, "The Fund: Alaska's
Renewable Resource."
Board of Trustees Resolutions 18-01 and 18-04
Affirm the Importance of a Rules Based System
Structure and Predictability
Ability to Plan
Investment Management Best Practice.
The Math
More Drawn = Less Available for Future Expenditures
and Generation of Investment Income.
Spend Today or Invest for Tomorrow.
She emphasized the importance of the POMV and the rules-based
system since it provides structure and predictability, an
ability to plan, and allows the corporation to use investment
management best practices. She said, "It's quite simple. It's
not magic."
12:08:11 PM
REPRESENTATIVE KREISS-TOMKINS referred to slide 23. He said the
Alaska Permanent Fund Corporation is one of the best things
Alaska has going for it right now and it's important to set it
up for success in the future. He expressed appreciation for Ms.
Rodell's work and the corporation employees.
12:08:43 PM
REPRESENTATIVE WOOL thanked Ms. Rodell for the presentation. He
said there is a lot of talk about a $3,000 PFD, concern about
overdrawing the POMV, and if it occurred once or in multiple
years. He referred to the statutory PFD. He asked whether this
would mean the ERA will be depleted. He surmised that the PFC
has modeled this. He wondered if saying the permanent fund
dividend is not sustainable means that the ERA gets drawn down.
MS. RODELL said what's important is to recognize there is a
limit to how much can be spent. The PFC was encouraged by the
POMV because it recognizes that limits were necessary and
manageable. It created a rule that the PFC could use as long-
term investors and the legislature can use as it looks towards
revenue sources for many different types of things. How the
legislature wants to use that amount is the reason the group is
here today, and it is a really challenging debate. The PFC has
talked at length about the 5.25 percent versus stepping down to
5 percent being reasonable. She said the PFC would strongly
encourage everyone to maintain those requirements. However, how
the legislature spends $2.9 billion or $3 billion is the job of
the legislature and not the corporation, she said. Further, the
corporation believes that the 5.25 percent of POMV stepping down
to 5 percent was a reasonable set of rules that everyone could
live with, which is why it is so important to maintain it, she
said.
12:12:08 PM
CO-CHAIR JOHNSTON made announcements before the break for lunch.
12:12:50 PM
CO-CHAIR JOHNSTON recessed the meeting.
^Fiscal Models
Fiscal Models
12:59:08 PM
CO-CHAIR JOHNSTON reconvened the meeting and announced that Mr.
Teal would provide modeling scenarios for the permanent fund
dividend (PFD).
12:59:33 PM
DAVID TEAL, Director, Legislative Fiscal Analyst, Division of
Finance, Alaska State Legislature, Juneau, said he was asked to
present the long-term projections for the three different
scenarios that were assigned to the working group teams.
MR. TEAL explained that Scenario A is the statutory dividend
that happens to be $3,000 this year, Scenario B is a repeat of
2018 for a $1,600 dividend, and Scenario C is a dividend without
deficit, which simply matches the available revenue. He said he
would start with the FY2020 fiscal situation and how the cost of
dividends is computed.
He directed attention to slide 2, the 6/11/19 Conference
Committee calculations for a PFD that maintains a balanced
budget. It shows the traditional revenue, primarily from oil,
from the Department of Revenue (DOR) projection for price and
production forecasts. That amount is $2.304 billion. He noted
that underneath the revenue forecast is the percentage of market
value (POMV) payout, which is $2.933 billion. The total revenue
projected in FY2020 is approximately $5.2 billion.
He explained that the next calculation is the unrestricted
general fund (UGF) appropriations that are operating
appropriations from the Conference Committee Budget. The capital
budget was funded primarily with constitutional budget reserve
(CBR) funds, which failed, so there is very little capital
budget in the reserve funds. The capital amount noted in the
analysis is primarily mental health funds with some transfers.
He said the total spending is approximately $4.4 billion,
leaving a surplus of $800 million.
1:02:21 PM
REPRESENTATIVE WOOL asked, if the PFD was funded in a more
traditional way through general funds, could the $4.4 billion go
up another $170 million to $200 million.
MR. TEAL replied that an additional $200 million should cover
both the fiscal notes that were funded from the Power Cost
Equalization (PCE), a little more than $30 million, and then
$170 million with the capital projects that were funded with the
CBR. Add those to the general funds and the surplus drops to
$600 million.
He explained that a surplus of $800 million can pay a PFD of
$1,178 per person. With an assumed budget surplus, PFDs larger
than the affordable $1,178 will require the budget to be
balanced with cuts, new revenue, or by taking money from
reserves. Increasing the budget surplus by $100 million to $900
million will result in a $1,334 PFD. A $1,600 PFD will need new
revenue, cuts, or reserves totaling $270 million. Similarly, to
pay the statutory PFD of $3,000, $1.1 billion would be required
from reserves, budget reduction, or increased revenue.
MR. TEAL explained that the remainder of the chart on slide 2 is
a POMV split where the model computation shows how to get to the
dividend with cost calculations. The model simply repeats the
computations for several years into the future. The computations
are not complicated to forecast with various options.
He turned to slide 3, "Scenario A: Current Dividend Statute." It
shows the full statutory dividend model using the Department of
Revenue (DOR) spring forecast for price and production. This is
about half of the state's revenue. Revenue is the base with
limited options for the forecast. The DOR forecast provides the
best numbers. If there is concern about how risky the model
might be, then a lower price or lower production scenario can be
used.
1:08:22 PM
REPRESENTATIVE WOOL asked if the spring forecast means the
forecast was made in the spring of 2019 for a future time or
that the forecast has already been realized.
MR. TEAL replied these are projected numbers through FY2028.
Even the numbers for FY2019 won't be known for another month or
two, he said.
SENATOR HUGHES directed attention to the assumptions in the
middle column that list a 2.25 inflation rate as well as the
population growth rate. She asked if both those assumptions are
plugged into the growth of the budget. She offered her
understanding that factoring in both those assumptions was one
of the reasons the existing constitutional spending cap was too
high.
MR. TEAL answered yes, and he would address that later in the
presentation.
He explained that the starting point of the operating budget is
the 6/11/2019 Conference Committee budget. Now that the vetoes
are known, downward adjustments will be made to the model. The
growth rate that Senator Hughes noted in Scenario A is
inflation. The budget starts with the FY2020 budget and is
increased by the rate of inflation. The budget is not increased
for population. As previously noted, the population growth rate
is used to calculate dividends.
He said the rate of inflation is used in a base scenario. He
emphasized that regardless of the scenario, the same assumptions
must be used. He described the problems that occur when all
scenarios are not run under the same set of assumptions.
He continued with Scenario A noting that the model shows school
debt reimbursement at 100 percent. The capital budget in
Scenario A is the House budget, except all the CBR
appropriations are replaced with unrestricted general funds
(UGF). The UGF budget is approximately $175 million to $180
million, a calculation that also grows at the rate of inflation.
The model also assumes a $50 million supplemental budget. He
said these budgets are unpredictable but should not be left out
because they are an annual fact of life.
1:13:48 PM
He pointed to the revenue variables in Scenario A and noted that
the calculation has no sales taxes, income taxes, and other
taxation options. No additional revenue is in the model. The
inflation rate is 2.25 percent, which is the number the
permanent fund and its advisor, Callan, uses. The model also
uses an investment return of 6.55 percent. The population growth
rate comes from Department of Labor statistics, which is
approximately 0.5 percent per year. CBR earnings are not
critical for Scenario A; the minimum CBR balance is just an
option within the model. The model does not allow unplanned
draws from the earnings reserve account (ERA). He said he would
explain why that's so critical in a moment.
MR. TEAL said the plan under Senate Bill 26 (2018) is for a 5.25
percent payout to the general fund through FY2021 with a 5
percent payout thereafter. He said the modeling has nothing to
do with statutory net income so that variable will not be used.
The calculation for the dividend program is the existing law. It
is not based on the POMV and there is no cap on a minimum
dividend. The model is inflation proofed and it uses some of the
$5.4 billion that will be appropriated from the earnings reserve
to the corpus, which will pay for the inflation proofing a few
years in advance.
1:16:18 PM
He described the output for the dividends. The upper right area
for Scenario A shows the graph for dividends. The statutory
dividend is roughly $3,000 that will be increasing under the
assumptions in the model. The bar graph in Scenario A shows
whether the permanent fund is keeping pace with inflation. The
first bar for each fiscal year shows the permanent fund growing
at the rate of inflation. The second bar for each fiscal year
shows what the permanent fund is doing under the model and the
bars show that the permanent fund is basically maintaining its
current value. The reason the bar graph shows that the permanent
fund does not completely maintain its current value is because
the payout is too big. He explained, "We've got 6.5 percent
earnings and 2.25 percent goes out, leaving 4.75 percent
available for a payout and we are paying out 5.0 percent, or
close to it. So, we don't quite keep pace with inflation."
REPRESENTATIVE WOOL referred to the PFD graph on the upper right
and asked why the graph shows a dip in the payout between FY2023
and FY2024.
MR. TEAL explained that it reflects the drop in payout from 5.25
percent to 5.0 percent beginning in FY2021. He noted that the
dip ultimately recovers.
REPRESENTATIVE WOOL summarized his understanding that the PFD
shown in the Scenario A graph is based on the statutory net
income, which is independent of POMV, so the decreased draw
would keep the permanent fund a little bit larger. He conceded
that he does not understand all the factors going into the
analysis.
1:19:06 PM
MR. TEAL explained that FY2018 was big year with returns of some
10.7 percent. That return factors in for 5 years. Going forward
that large return fades away and is ultimately replaced with a
constant 6.5 percent.
He pointed to the table at the bottom right of Scenario A that
shows the dividend payout and what's left for the general fund
after the dividend is paid each year. In FY2020 it shows $1.944
billion, then it goes up $2 billion, and finally near $2.3
billion a year. The general fund gets whatever is left after
paying dividends. This table also shows what is left for the
general fund after the dividend is paid.
1:22:55 PM
MR. TEAL directed attention to the table at the lower left that
shows deficits up to $1.8 billion a year, noting that the money
to fill that gap must come from somewhere. In this version there
are no unplanned ERA draws so the CBR is used up rather quickly
and will be gone after FY2020. The bar graph on the upper left
shows expenditures and revenue with the dark line indicating
expenditures without PFDs and the dotted line with PFDs. A
balanced budget means the bars must reach the dotted line. The
white space means the scenario is not valid because, "You are
spending money that you don't have." Having white space means
the option cannot be considered, he said. The way the model
addresses this situation is to first assume the white spaces are
filled from the CBR.
This scenario shows the budget is filled from the CBR through
FY2020, but it fails in FY2021 because the balance in the CBR is
insufficient. If there isn't any money in the CBR and there are
no taxes, the only alternative is to fill deficits from the ERA.
Such ad hoc or unplanned draws are beyond the 5 percent POMV and
this causes the ERA balance to decline which results in lower
returns and declining dividends in the future. By FY2028 the ERA
is almost depleted.
MR. TEAL said the conclusion from Scenario A is that a statutory
PFD is unsustainable at projected revenue, expenditures, and
earnings. The $3,000 dividend works if $1.6 billion is cut from
spending or revenue is increased by that amount. It is not
possible to continue to pull $1.6 billion from reserves so there
are two options instead of three, he said.
1:26:59 PM
REPRESENTATIVE WOOL speculated that when the earnings reserve
runs out in FY2028, the POMV draw would also go down because the
overall value of the permanent fund is depleted. He noted that
Ms. Rodell previously said the permanent fund is receiving cash
from rent and other realized gains. He asked if the cash could
immediately be dispersed in PFDs if nothing else were to change.
MR. TEAL replied that works if earnings are 10 percent as in
2018, but they are unpredictable from year to year. The earnings
this year are closer to 3 percent, which means earnings of only
$1.8 billion. A $3 billion payout is unsustainable with those
earnings. Depleting the ERA puts the state in the serious
position of not only being unable to pay dividends but also
having to cut the budget. This will affect state hiring because
career employees can't be expected to accept jobs when there is
risk of layoffs every year. He said it's not that the statutory
dividend formula is unsustainable, it's that approximately $1.6
billion will have to be permanently cut from the budget to make
the formula sustainable.
1:32:32 PM
CO-CHAIR JOHNSTON asked if the budget will be static for 10
years if $1.6 billion is cut from the budget and there isn't
inflation.
MR. TEAL agreed that cutting $1.6 billion and paying a dividend
results in a CBR that is relatively steady and an ERA that keeps
pace with inflation. He said the Budget Reserve chart on the
middle left shows whether or not a scenario is viable. If the
budget reserve looks good, the permanent fund also looks good.
Deficits of $200 million to $300 million turn to surpluses in
the out years.
CO-CHAIR JOHNSTON explained that the modeling scenario she
requested was suggested by Senator Hughes. She conceded that a
couple of large "ifs" would be involved with $1.6 billion in
cuts, and inflation is always changing as well.
SENATOR HUGHES clarified that her intent was to ensure that both
inflation and population growth weren't used. She reiterated
that is why the existing constitutional spending cap doesn't
work; only one or the other is needed.
CO-CHAIR JOHNSTON said population growth is not being used and
she would guess that inflation is used.
1:36:47 PM
MR. TEAL responded that he plugged in the $400 million UGF
vetoes that were made today. The draws are the same and there
are still deficits of $1.5 billion that decline to $1.3 billion.
CO-CHAIR JOHNSTON remarked that with the current vetoes the
state still has deficits.
MR. TEAL answered yes.
REPRESENTATIVE WOOL asked if the assumption is that the current
vetoes would be extended to budgets in future years.
MR. TEAL answered yes; there's a $400 million reduction every
year. The assumption is that vetoes are repeatable so that is
the new level of spending. He added that dividends start to fall
because the ERA is being used at more than a five-percent payout
in order to fill the deficits.
SENATOR OLSON asked about the school debt reimbursement.
MR. TEAL explained that the $400 million in vetoes already
includes a veto of some of the school debt. He noted that the
school debt reimbursement was used early in the session to
create a legislative budget, but the vetoes are done and it
should be left at 100 percent. However, there is about $50
million of the $400 million that is counted in the school debt
reimbursement line.
1:39:13 PM
SENATOR HUGHES offered her understanding that the governor's
plan is to continue reducing the budget next year. She asked if
he could show that the $400 million is left in this year and the
additional unknown amount is added for next year.
MR. TEAL replied he could do that but the purpose of this
modeling is to look at the scenarios for the $3,000 dividend,
the $1,600 dividend, and the deficit. He said the easiest way to
do that is to use negative 1 percent for a growth rate, which
shows that the budget falls. The CBR is not recovering, but it's
not as bad and deficits are $500 million, falling to almost
zero. He continued as follows:
With continued cuts you can get there, it doesn't have
to happen all in one year. You've got $400 million
this year; you can see that that isn't going to give
you a sustainable plan. If there are continued
reductions it will, but then you are looking at
budgets that are falling - and if that's your intent
it works. You can see that while you are using the ERA
in an unplanned way for a while, you stop, and that
means things will look even better as you extend
beyond FY2028.
MR. TEAL said he agrees with Ms. Rodell that the legislature is
fooling itself by looking beyond FY2028. He said just projecting
three years in advance is hard. He emphasized that the model
does projections, not predictions, and projections change when
assumptions are changes.
1:42:15 PM
REPRESENTATIVE WOOL commented that the biggest variables are oil
pricing and oil production projections and that is basically
two-fifths of the state's income.
MR. TEAL reiterated that the object of the model is not to try
to make things look good by making some optimistic assumptions.
The object of the model is to look at expectations of what can
realistically be achieved. He cited the previous modeling on
continued budget reductions as an example. Some people might say
the governor is committed to continued budget reductions while
others might say that the legislature has been trying to cut the
budget for several years and the capital budget cannot be cut
further. The question is whether or not additional cuts from the
operating budget continue. Once these programs are eliminated,
departments will be eliminated at some point. That's fine, it's
just a matter of how much goes to dividends and how much goes to
government, he said.
MR. TEAL moved to slide 4 titled, "Scenario B: $1,600 Dividend."
He explained that under this scenario there are continued
unplanned ERA draws and the CBR is extended but ultimately
vanishes. The $1,600 dividend is probably workable. The model
shows the ERA is growing but there are still deficits on the
order of $400 million to $600 million. He said a balanced budget
will probably occur in the mid-2030s. However, having no CBR is
risky because there is no easy place to turn to for balancing
the budget if oil prices plummet. The state will have to pull
from the ERA which leads to declining real value of the
permanent fund.
1:46:46 PM
REPRESENTATIVE WOOL speculated that because the CBR has a higher
threshold, it's more likely that the ERA would be depleted
first.
MR. TEAL replied that one option in the model says to not pull
from the CBR, but it doesn't make that much difference. That
would address the risk factor but the problem has not been
fixed. That just provides some time to fix the problem.
CO-CHAIR JOHNSTON asked him to model no draws from the CBR.
MR. TEAL replied that he would model a CBR minimum balance of $2
billion with draws strictly from the ERA. That shows slightly
larger deficits than before. He reiterated the warning that
running multiple scenarios tends to get confusing.
1:49:44 PM
REPRESENTATIVE KREISS-TOMKINS asked how much larger the CBR is
getting as a result of the governor's budget not having a
reverse sweep.
MR. TEAL answered that he couldn't answer because he does not
know precisely what is being swept. He explained that without a
reverse sweep, the $172 million in the Statutory Budget Reserve
(SBR) gets swept as well as several hundred million in standard
sweepable things like the worker safety and hazard waste funds.
He said the big controversy revolves around the Power Cost
Equalization (PCE) Fund and the Education Endowment Fund being
swept. If the two funds are swept, then the PCE endowment is
gone as of June 30 and there will be no money for PCE benefits
in FY2020. He noted that the crime bill was funded with PCE
funds so if the PCE fund is swept, the crime bill will not have
money to back it. If the Education Endowment Fund is swept, then
there would be no funding for things ranging from scholarships;
grants to the university; funds for the Washington, Wyoming,
Alaska, Montana, and Idaho (WWAMI) School of Medical Education;
and the Homework Help program for libraries.
1:53:00 PM
He reiterated that until there is a list of actual funds that
are swept, he does not know what is going to happen. He said the
sweep gets confusing on something like the Vaccine Assessment
Fund, a fund established from a bill sponsored by the Senate
president. That is a $21 million fund that essentially consists
of voluntary contributions from healthcare and insurance
providers. He said if the reverse sweep does not occur for the
Vaccine Assessment Fund, chances are low that healthcare and
insurance providers will continue to contribute to that program.
He remarked that trying to predict what is going to happen in a
special session and whether the governor vetoes a reverse sweep
is beyond his capabilities.
1:54:48 PM
MR. TEAL moved to slide 5 titled, "Scenario C: 'Surplus'
Dividend," a scenario for what happens if dividends are based on
what remains after spending. In this scenario, dividends drop
substantially and then go back up as a result of revenue and the
POMV payout increasing in the future. As revenue goes up faster
than expenditures are climbing, then PFDs will go back up. The
CBR grows steadily, meaning there are surpluses. The ERA grows,
keeping pace with inflation. There are no deficits because
whatever is left after spending on the budget is spend on
dividends.
He opined that Scenario C is not as trouble-free as it may
appear. On the positive side, if PFDs depend on spending then
the people would be interested in what is spent and there would
be pressure to move the budget downward. Right now there is no
income tax and no link between spending, the dividend, or what
people pay for government, but there would be a link in Scenario
C. Oil is a very volatile commodity and spending during surplus
years will be chaotic without rules governing the dividend. He
observed that that wouldn't be any worse than the current
situation. He suggested it would be a lot easier to settle the
question of the dividend right now with a set of rules to follow
that are sustainable and affordable. He acknowledged that the
legislature would spend a lot of time and effort to get to that
point.
1:59:11 PM
REPRESENTATIVE MERRICK remarked that spending during surplus
years requires a conversation about a spending cap. She opined
that government cannot help itself and will spend to the point
that there is no surplus and no dividend.
REPRESENTATIVE KREISS-TOMKINS asked him to comment on the spring
revenue and production forecasts for North Slope oil.
MR. TEAL suggested he hold his question for Commissioner
Tangeman from the Department of Revenue.
REPRESENTATIVE KREISS-TOMKINS asked if the model reflects a
production forecast of 499,000 barrels per day.
MR. TEAL answered that the projection for FY2020 is 530,000
barrels per day and that appears to be a little optimistic. A
decline is projected and then production goes up to 500,000 by
FY2028.
2:02:44 PM
REPRESENTATIVE WOOL expressed hope that the committee would
ultimately look at the underlying PFD formula and figure out a
structure, not just pull numbers out of the hat such that the
PFD discussion continues to be reargued.
MR. TEAL explained that the model would help legislators see
what is sustainable and what is affordable. The model's big
advantage is extending things out because deciding whether the
state can afford to pay a $3,000 dividend in FY2020 is a
different question than the state being able to afford to pay a
$3,000 dividend every year. Paying a $3,000 PFD as opposed to a
$1,600 PFD costs an extra $1 billion. He remarked that he would
be willing to pay an extra $1 billion to, "Just have this
problem go away."
REPRESENTATIVE MERRICK said Mr. Teal brought up an important
point regarding the goal for the working group. She asked if the
working group's goal is to recommend an amount for this year's
PFD or to say what is sustainable into the future.
2:06:41 PM
CO-CHAIR JOHNSTON suggested that she read the resolution of how
the working group was created and she will find all of the
above. She said a short-term goal has been forced upon the
working group for the next special session. The working group
will continue to address a project that is not easy and cannot
be done quickly because great thought is required.
SENATOR HUGHES said in an ideal world knowing what is affordable
and sustainable would be helpful, but whatever is in statute the
legislature can choose to follow it or not. Also, the seats in
the legislature change over time and new legislators may have
different ideas. She opined that the PFD must be settled in the
constitution with people on board in a fair way. She pointed out
that legislators who thought the PFD should not be put into the
constitution, including herself, should reconsider because the
dividend matter must be settled. Otherwise, it is going to
continue forever.
2:11:47 PM
At-ease.
^Revenue Models
Revenue Models
2:12:32 PM
CO-CHAIR JOHNSTON reconvened the meeting.
2:22:19 PM
BRUCE TANGEMAN, Commissioner, Department of Revenue (DOR),
Anchorage, said he agrees with almost everything that Mr. Teal
just stated. He and Mr. Teal met two days ago to ensure that the
inputs to their models were the same and as a result, a lot of
the outputs are identical. One difference is that his
presentation has a 20-year projection to give a better view of
the long term. He reminded the committee that forecasts are just
a prediction from a point in time so a 10-year forecast is a bit
of a stretch. A 20-year forecast is only meant to provide some
parameters.
He said he believes he'll be able to answer members' lingering
questions as he goes through his slides. He noted that several
members asked what happens if oil prices spike, what happens if
production spikes, and what happens when there are new people in
office. He said he would not speak to the constitutional
amendments but he would address questions associated with the
spending limit. If there was a spending limit in place, it would
take care of an oil price spike and it would limit what new
legislators can and cannot do.
2:25:38 PM
COMMISSIONER TANGEMAN displayed slide 2, "A Contributing Factor
to Why the ERA is Currently at $19 billion:" He pointed out that
a big reason for the $19 billion ERA relates to the reduced PFD
distributions for FY2017, FY2018, and FY2019. The statutory PFD
for those three years totaled about $4.8 billion and the amount
paid was about $2.5 billion. The $2.3 billion that was not
distributed remained in the ERA and earned about $400 million in
interest. He emphasized that contrary to what some people think,
that money was not used for government. He said another factor
that contributed to the large ERA balance was that inflation
proofing was not paid out for 2016-2018. He estimated that
accounted for another $2 billion.
2:27:28 PM
SENATOR HUGHES said she knows that in FY2017 and FY2018 the
undistributed money was not used for government, but she thought
some was used for government in FY2019.
COMMISSIONER TANGEMAN said the POMV started in FY2019 so part of
the ERA did go to pay for some government. The undistributed
$886 million that remained in the ERA was part of the pool in
the POMV calculation, but it did not go to pay for government.
He stressed that there is no direct correlation.
SENATOR HUGHES asked if at least $886 million from the ERA was
used for government.
COMMISSIONER TANGEMAN replied the POMV calculation was $2.7
billion.
SENATOR HUGHES responded, "So there would have been at least
$886 million that went to pay for government. Correct?"
COMMISSIONER TANGEMAN answered yes.
2:29:14 PM
CO-CHAIR JOHNSTON asked if the reason for the separation was
because of the two distinctly different statutes.
COMMISSIONER TANGEMAN said not necessarily, but that brings up a
good point because there has been a lot of discussion about the
two competing statutes. He said they're both law, but the
concept that surrounds the POMV discussion is different and he
believes incomplete. He reminded the committee that the POMV
debate centered on how much the draw would be and how it would
be spent. The first part is a math equation and the decision was
to establish a 5.25 percent draw that steps down to 5 percent
over time.
The second part of the equation is how the draw will be split.
The administration's perspective is that until the legislature
makes a decision and the governor agrees, the calculation will
be the PFD calculation that is on the books. He said he believes
that everybody knew at the time that whatever the ERA draw was
going to be, there was a hole in the equation.
2:32:20 PM
CO-CHAIR JOHNSTON said she had to agree with Senator Hughes that
it could be easily argued that the undistributed 2019 amount was
used for government.
2:32:33 PM
REPRESENTATIVE MERRICK asked why the old statute wasn't repealed
when Senate Bill 26 (2018) was passed.
COMMISSIONER TANGEMAN replied everyone was under the assumption
that the split portion of the equation would be addressed the
next year. He said he imagines the old formula was left on the
books because repealing the calculation in statute would have
eliminated the function that was in place to pay the dividend.
The idea was that it could be repealed once the legislature came
to a conclusion on the calculation going forward.
2:33:30 PM
REPRESENTATIVE WOOL related his understanding that Senate Bill
26 was a heavy lift and the Senate and the House came to
different conclusions on the split. The conference committee
solution was to make the draw one year and address the split
later. To that point, he said there is nothing that says that
the formula has to have anything to do with the POMV because
other revenue sources could be used for the PFD.
He referenced the $2.3 billion that was not distributed over the
last three years and said one could argue that the FY2019 5.25
percent POMV draw was used for budgetary purposes. He asked if
that was what he said.
COMMISSIONER TANGEMAN said yes, but he didn't want to get
wrapped around the axle on the amount that was spent. The point
was that if the statutory PFD formula had been followed those
three years, there would be $2.3 billion less in the ERA right
now.
2:35:43 PM
SENATOR HUGHES asked him to comment on Representative Wool's
statement that revenue sources other than the POMV could be used
to pay the PFD. She offered her perspective that the PFD is
supposed to come from the ERA, not from other revenue sources.
COMMISSIONER TANGEMAN said he understands what Representative
Wool is saying, but he agrees more with Senator Hughes and the
way it's been done for several decades. That is that the statute
gives the formula and calculation and says that the money will
be drawn from the ERA and go into the permanent fund dividend
fund.
REPRESENTATIVE WOOL commented that the way it has been done is
not working. He said he suggested other revenue sources because
the question of paying a dividend remains if and when oil prices
drop to zero. "If there's no oil revenue, do we need all the
permanent fund revenue to keep the lights on or is there enough
revenue to give out a check?" He suggested everyone think about
that before committing to a large check in perpetuity.
2:38:08 PM
COMMISSIONER TANGEMAN told members that he waited to release his
presentation until after the governor's vetoes came out at 11:00
this morning. He noted that Mr. Teal did not have the
opportunity to present that scenario.
He continued the presentation reviewing the following
assumptions:
? FY20 Budget (UGF Only):
? Legislature's - $4.4B Op & $150mm Cap
? Governor's - $4.0B Op & $150mm Cap
? $4B ERA transfer to Corpus (after
inflation Proofing and POMV)
? Base Revenue Forecast: Spring 2019 Revenue Sources
Book page 10
? Extrapolated beyond 2028
? Production Scenarios: Fall 2018 RSB page 63
? Declining at 3% after 2028
? Inflation: 2.25% (from Callan)
? Agency Operations and Capital Items Grow with
Inflation
? Population Growth: 0.5% (Department of Labor)
? Permanent Fund Returns:
? FY20-FY29: 6.55%
? FY30+: 5% + inflation
? CBR Balance at End of FY19: $1.77 billion (Treasury)
? Recommended Minimum CBR Balance: $1 billion
COMMISSIONER TANGEMAN clarified that for consistency he used the
legislature's $4.4 billion operating budget and $150 million
capital budget. For the governor's budget he used the $4 billion
operating budget that was released at 11:00 a.m. and the
additional $4 billion ERA transfer to the corpus.
He explained that the fall forecast is the official forecast for
the next fiscal year and the price is updated the next spring.
The production forecast is made only in the fall. He noted that
his graphs go out 20 years and the official forecast is for 10
years. The assumptions he made for the next 10 years include a
production decline of 3 percent. He acknowledged that there was
no science behind that number; it was that he didn't want to
show an overly optimistic number.
COMMISSIONER TANGEMAN referenced an article in the paper today
and confirmed that the numbers were coming in under forecast for
the year. He highlighted that the Willow and Pikka oil field
plays are included in that forecast and those plays have made
him more optimistic about what the forecasts will show in the
future. That won't be clear until December, but he believes
those will come out of the heavily risked evaluation phase into
the under development phase. The production forecast for this
fall should be very different, he said. He said the forecast
shows about a 5 percent decline over 10 years and it wasn't too
long ago that the declines were 6-8 percent annually. He opined
that flat is a comfortable place for the state to be right now
with the other opportunities that are coming along.
2:42:45 PM
COMMISSIONER TANGEMAN recounted that he used 2.25 percent
inflation, 0.5 percent population growth, 6.55 percent permanent
fund returns, and 5 percent plus inflation for FY2030 to FY2040.
The CBR balance at the end of FY2019 is projected to be $1.77
billion. He acknowledged that the lack of reverse sweeps will
affect that number but the presentation does not take that into
account. He said he used the recommended minimum CBR balance of
$1 billion, whereas Mr. Teal did not set a minimum so the CBR
disappears in some of his scenarios.
2:44:04 PM
COMMISSIONER TANGEMAN displayed the bar graph on slide 4 and
read the problem statement: "Under the current projections of
revenues and investment earnings, there is not enough money to
fund the size of budget passed by the legislature and the full
PFD for more than 10 years." He said that statement still
applies despite the $400 million the governor cut to the
[operating] budget the legislature had passed.
COMMISSIONER TANGEMAN reviewed the graph. He noted that the
budget shortfall in 2028 that forces taxes was also reflected in
Mr. Teal's slides. However, unlike the CBR, the ERA does
regenerate through annual earnings. He calculated that 6.55
percent on $65 billion yields $4.5 billion. If the POMV draw is
$3 billion, more is coming in than going out, which is reflected
in subsequent years.
2:46:39 PM
REPRESENTATIVE WOOL questioned whether the ERA would regenerate
because the additional draws would reduce the balance upon which
to generate returns.
COMMISSIONER TANGEMAN agreed that the additional draws from the
ERA, which are over $1 billion in 2022 and 2023, are not
inconsequential. However, the permanent fund balance (light blue
background) is not declining. He pointed to the vertical axis on
the right of the graph. He said this is despite the 6.55 percent
forecast for 10 years, the 5 percent plus inflation draw in the
out years, and the annual 5 percent POMV draw. He acknowledged
that the draws do keep the fund from reaching triple digits.
2:48:35 PM
REPRESENTATIVE WOOL requested help interpreting the chart.
COMMISSIONER TANGEMAN explained that the light blue shaded
background is the permanent fund itself and the dark blue
tringle on the left shows the ERA going to zero [in 2028].
REPRESENTATIVE WOOL asked the value and type of tax that would
be needed in 2028.
COMMISSIONER TANGEMAN clarified that he used the word "tax" in a
general sense. It's to show that something needs to fill the
$800 million gap when the ERA drops to zero in 2028.
2:49:58 PM
REPRESENTATIVE KREISS-TOMKINS referenced the assumptions and
asked if the 5 percent plus inflation for the permanent fund
returns in FY2030 and beyond uses Callan's inflation figure of
2.25 percent.
COMMISSIONER TANGEMAN confirmed that was correct.
REPRESENTATIVE KREISS-TOMKINS said he calculated a 7.25 percent
return on a $70 billion fund for FY2030 and beyond and that
assumption equates to $0.5 billion in extra earnings each year.
He asked the commissioner to speak to the basis for the
assumption that returns would increase 0.5 percent in the out
years.
COMMISSIONER TANGEMAN responded that the permanent fund is in a
position to invest for the long term so it has the opportunity
to invest for higher returns. He said he believes that using
inflation adjusted 4.3 percent for the next 10 years and
inflation adjusted 5 percent for long returns is realistic. He
reiterated that he was showing the 10 years beyond the official
forecasts and he could have plugged in a different number that
would show a different outcome. But if he stayed with a 10 year
forecast, he'd be showing the same graph Mr. Teal showed. "I
wanted to stretch out what changes now mean over a 20-year
period potentially. So we could run it at 4 percent plus
inflation or 8 percent plus inflation and it would certainly
show different numbers," he said.
REPRESENTATIVE KREISS-TOMKINS said his initial hesitation was
the assumption that there will be increased returns starting in
FY2030. Second, given what is already known about how assets are
managed, it's more likely that returns will go down because the
ERA is going to zero. He asked the commissioner to comment.
COMMISSIONER TANGEMAN said returns over the last five years have
ranged from 1 percent to 12 percent which is why it's important
to rely on history and the experts at the permanent fund to say
what they think is a realistic expectation. And 6.65 percent is
the number that's projected for the next ten years. He agreed
that for the past 30 years the permanent fund has only had to
manage for revenue that would be spun off of dividends, but that
changed last year when the legislature passed the POMV. A lot of
widely ranging scenarios were put forward in 2017 and 2018 and
when he puts on his permanent fund trustee hat that makes him
very nervous. That is why the POMV legislation was so important.
It narrowed the sideboards for potential draws which calmed the
concerns of the permanent fund, Wall Street, and the state.
COMMISSIONER TANGEMAN said it's not the job of the permanent
fund [corporation] to suggest how to spend the money. Rather,
their job is to work with the legislature to establish an
appropriate POMV that gives them comfort for investing moving
forward. When they heard proposals to draw $8 billion to fund a
budget, they had to stay liquid to meet that potential draw. Now
that they know what the POMV looks like, they can draw in those
sideboards to a great extent as to what the liquidity needs will
be for the next 12 months.
2:57:22 PM
CO-CHAIR JOHNSTON asked how many years the department looks at
in its spring and fall forecasts.
COMMISSIONER TANGEMAN answered 10 years.
CO-CHAIR JOHNSTON asked how many years Callan looks at in its
forecasts.
COMMISSIONER TANGEMAN said he wasn't sure but it's probably 10
years.
CO-CHAIR JOHNSTON expressed concern that the model depletes the
ERA in the early years. She asked, as a permanent fund trustee,
if he would manage differently as the ERA is depleted.
COMMISSIONER TANGEMAN said he labeled slide 4 the problem
statement because it demonstrates that it's not possible to give
a full dividend and let the full budget grow. He directed
attention to the next slide that illustrates the "Surplus PFD"
Option. It's the legislature's budget and the POMV draw then
whatever is not needed for government is left for dividends. He
said that is the first option.
3:01:47 PM
SENATOR HUGHES asked if the legislature did projections during
the years that the budget was growing that might have shown that
a future legislature would need to deal with the current
situation.
COMMISSIONER TANGEMAN said he assumes there were forecasts but
he didn't really know because he wasn't around at the time.
3:02:32 PM
REPRESENTATIVE WOOL asked how accurate DOR's projections were 10
years ago in forecasting the situation today.
COMMISSIONER TANGEMAN said price and production forecasts have
been fairly accurate for the first two years but each subsequent
year is less and less accurate. Ten years ago some production
forecasts were in the 300s and it's actually 500.
REPRESENTATIVE WOOL observed that predicting the return on a $60
billion fund might be easier than predicting oil revenues in the
next 10 or 20 years. He described predicting total revenue and
how it will be dispersed as a guessing game regardless of the
assumptions that are made. He noted that unlike this
presentation, Mr. Teal's presentation did not include taxes.
COMMISSIONER TANGEMAN responded that there wasn't a workable
spending cap when there were spikes in prices and production was
up. The money was spent and therefore was not available for the
down years. That is the importance of a spending cap, he said.
He noted that there was a spending cap in the constitution right
now and the proposal was to fix the problem with the formula
which is population and inflation. Since 1982 that has exploded,
which is another reason to put a cap in place. He agreed that
forecasts are inaccurate as soon as they are printed which is
why it's important to have sidebars so you save in the up years
to pay for the down years.
REPRESENTATIVE WOOL said the legislature has saved some because
it's been using those savings the last few years to balance the
budget. "The revenue wasn't there but we pulled it out of CBR
savings," he said.
COMMISSIONER TANGEMAN said that's true and he believes that kept
people from recognizing that Alaska was in a recession. The
budget was not in line with the revenues that were coming in and
the legislature relied on savings to balance the budget. That
works for the short term but that was done several years in a
row and the fund dropped from $15 billion to where it is today.
He said the fact that spending didn't follow revenues down
caused a faster bleed on the CBR.
3:06:50 PM
SENATOR OLSON highlighted that he was first elected in 2000 when
things were fairly rough and that was followed by spikes and
subsequent declines. Mr. Teal worked in Legislative Finance
throughout that time and in 2006 he warned the Senate Finance
Committee that if the legislature didn't get a handle on things
it would get away from them. The problem was that the warning
fell on deaf ears because the state was swimming in money at the
time.
3:08:08 PM
COMMISSIONER TANGEMAN continued to review slide 5. The legend
indicates that black is base revenue, light blue is principal,
dark blue is the ERA, and green plus the checkered segment is
the POMV draw. Those two and the black represent the base
budget. The solid purple is the surplus that is left for
dividends. The checkered segment is meant to show the amount of
the calculated dividend that goes to government. It shows that
in 2022 the dividend drops to about $500 and then it starts to
grow. He reiterated that this scenario shows the imbalance in
the legislature's budget. It uses base revenue plus whatever is
needed of the POMV to balance the budget and the leftover is for
the dividend. In this scenario, the principal, the ERA, and the
CBR all go up. In 2040 it shows about $120 billion in reserves.
3:10:25 PM
COMMISSIONER TANGEMAN moved to slide 6 titled, "The Governor's
Option (Step 1): Reduce the Budget to $4.2 billion ($400 Million
in Vetoes)" that shows what the governor introduced this
morning. He noted that even with the $400 million in vetoes
above the reductions the legislature passed, it does not solve
the problem. The ERA lasts a little longer but it is still
depleted by 2028-2029. Dividends could still be paid in the
future but the savings in the ERA go away. The POMV draw would
rely on annual returns. It shows that for the first couple years
there will be extra draws from savings and the ERA. He said this
is illustrative but it's just the first of a two-step plan. Step
2 of the governor's plan is to bring revenues in line with
expenditures next year.
3:11:48 PM
COMMISSIONER TANGEMAN moved to slide 7 titled "The Governor's
Option (Step #2): Reduce the Budget to $3.6 billion (Governor's
Proposed Budget)." This proposal shows that the ERA starts to
stabilize, total reserves are over $100 billion, and the full
PFD is paid under the current formula. He said that even with
additional reductions to the FY2021 budget, additional draws
from savings and the ERA will be required through FY2027.
3:12:45 PM
REPRESENTATIVE KREISS-TOMKINS asked if the additional ERA draws
are in excess of 5 percent of the market value.
COMMISSIONER TANGEMAN agreed that the draws are in excess of the
POMV.
3:13:24 PM
REPRESENTATIVE KREISS-TOMKINS asked what the administration's
position is on draws from the ERA that are in excess of the
POMV.
COMMISSIONER TANGEMAN said the governor would have to answer
that question. He's said to follow the law but now there are two
laws that slightly contradict one another. He offered his
perspective that one law has been on the books and working for
40 years, whereas the law that has been on the books for 12
months won't be complete until it addresses how the POMV will be
split. Once the split is established, it will be clear how much
of the POMV will go to the dividend and how much will be left
for government. Under this administration that will balance
because this governor says that revenue must match expenditures.
He acknowledged that future governors and future legislatures
may make different decisions.
3:15:09 PM
REPRESENTATIVE KREISS-TOMKINS said it would be helpful to know
what the governor's position is on drawing in excess of the
POMV.
COMMISSIONER TANGEMAN said he'd ask and pass the answer along to
the group.
3:15:20 PM
REPRESENTATIVE KREISS-TOMKINS highlighted that the governor's
budget proposal was released under the pretense that revenues
would be in line with expenditures. Theoretically that was the
one year plan but those didn't align because that budget used
savings from AIDEA and other sources. He asked why the budget
proposal the governor released in February did not define
revenue.
COMMISSIONER TANGEMAN said he believes it did; the governor
presented a balanced budget.
REPRESENTATIVE KREISS-TOMKINS interjected, "Without using
savings."
COMMISSIONER TANGEMAN said he'd leave the details to the Office
of Management and Budget (OMB) because he didn't know the
details. He mentioned petroleum properties.
REPRESENTATIVE KREISS-TOMKINS said, "I'm sorry to interrupt but
that's a big detail and you're the commissioner of revenue."
COMMISSIONER TANGEMAN responded, "I'm not the OMB director
though so I can only answer to the level that I understand and I
know." He said there were large portions that required
legislative changes such as petroleum property taxes and AIDEA,
but they didn't get traction. Therefore, the budget the
legislature passed and the portions the governor vetoed are
significantly different than the budget the governor passed in
February. The governor's goal to have revenues align with
expenditures hasn't changed, which is why the one-year plan is
now a two-year plan.
3:17:27 PM
REPRESENTATIVE WOOL referenced the statement that the year-old
statute only addressed the draw and was therefore incomplete. He
asked if the governor would still cut the budget $1.3 billion in
the next two years if the legislature follows all the statutes
relevant to the draw and replaces the old formula with a
sustainable PFD formula, all of which is within the current
revenue stream. Or is the cut only to pay the full PFD, he
asked.
COMMISSIONER TANGEMAN said finishing the second part of the POMV
is just the revenue part of the equation, not the expenditure
side. Base revenue and the POMV that is on the books is a fixed
amount and if the budget isn't reduced to that level, there will
be a gap that can't be ignored. This administration proposes to
address that gap by reducing expenditures to meet whatever
revenue come in. If expenditures aren't reduced to that level or
the next governor decides to grow the budget beyond the
available revenue, that evil red slice (taxes) may perhaps come
into play, he said. He said the bottom line is whether revenue
minus expenditures balance.
REPRESENTATIVE WOOL commented that a lot of expenditures were
cut today and the tension is that the PFD formula is sacrosanct.
That's the disagreement between some legislators and the
governor and not all legislators agree.
COMMISSIONER TANGEMAN said some people believe the dividend
should be paid with the surplus, whereas the governor believes
the dividend should be paid first and expenditures should be
reduced to balance with revenue.
REPRESENTATIVE WOOL pointed out that the middle ground would
change the formula to make the purple bar smaller.
COMMISSIONER TANGEMAN acknowledged the point.
3:21:54 PM
SENATOR HUGHES referred to an earlier comment that the PFD has
not been working the last few years. She offered her belief that
it's the budget that has not been working, and that ought to be
the focus. Turning back to slide 7 she questioned the need to
have a robust ERA up to 2040 if the legislature abided by the 5
percent draw, perhaps because it was in the constitution.
COMMISSIONER TANGEMAN said it's a good point if an endowment
model is followed. This shows the current situation, but once
things are balanced and the legislature has figured out part 2
of the POMV question, the ERA isn't needed if you stick within
those parameters, he said.
3:23:52 PM
CO-CHAIR JOHNSTON related her understanding that the ERA is
necessary to pay out the structured draw.
SENATOR HUGHES highlighted that the governor's option Step 1
shows that the ERA is depleted and the dividend is still paid,
whereas the governor's option Step 2 shows that the ERA is
extra.
COMMISSIONER TANGEMAN responded that the excess ERA goes away
but the annual returns are spinning off revenue to pay for the
POMV in the particular year. The ERA is not building, but
commitments are being met.
3:24:52 PM
REPRESENTATIVE MERRICK asked if the administration supports a
change to the formula if it goes to a vote of the people.
COMMISSIONER TANGEMAN replied the governor has been very clear
that as long as it goes to a vote of the people, he will accept
any change the legislature makes.
COMMISSIONER TANGEMAN reviewed the following conclusions:
• There are many ways to address the fiscal issues
facing the state
• Cutting the PFD is the most regressive way
to solve the problem
COMMISSIONER TANGEMAN clarified that the next two bullets are
his own thoughts. The POMV is a significant change to the
revenue stream and in a perfect world it would dictate starting
over from a zero-based budget. The question is what should
Alaska's budget look like now that the revenue stream is oil
plus something else. He emphasized that continued fiscal
restraint will be critical moving forward because production is
down and there are no forecasts for oil price booms. He opined
that is why it's critical to correct the spending limit that's
currently on the books.
• Alaska's budgets have been built for decades
on one revenue stream
• We have entered a new period in Alaska's
history and "picking up where we left off"
by merely making tweaks to the existing
budget is not sufficient for the long term
• Continued fiscal restraint will be critical
moving forward
• The "fiscal crisis" we are trying to solve may
not exist
• There are a lot of good things happening on
the North Slope which may help resolve much
of the problem. The Legislature & the
Governor took an important first step in the
right direction on the FY20 budget.
• We all have more work to do in order to
right-size the government for the next
generation ["It will require more cuts."]
• We may be trying to solve a temporary problem
with a permanent solution
• It is prudent to gather more information
before making drastic changes
• We are still the envy of most other states
• Let's keep things in perspective our
financial reserves will allow us to pay the
full PFD while we all make prudent decisions
for the future of Alaska
3:29:19 PM
COMMISSIONER TANGEMAN noted that, as requested, he provided
additional information on the CBR. He also included a fairly
robust synopsis of the CBR including the Sub Account and the
investment history.
3:29:42 PM
CO-CHAIR JOHNSTON asked how the investment policy changed when
the legislature started taking draws from the CBR and how that
affected the return on investments.
COMMISSIONER TANGEMAN referred to the chart on slide 11 titled,
"CBR Return History." He said the gold bars representing the Sub
Account show that account was invested at a much more aggressive
rate than the main account. When there was up to $14 billion in
the CBR, the fund could afford some longer term investments to
earn those returns. However, more liquidity was necessary as the
CBR was drawn down. The need for more liquidity is the primary
reason that the Sub Account was zeroed out in 2015.
3:30:55 PM
CO-CHAIR JOHNSTON asked what the current rate of return is for
the CBR.
COMMISSIONER TANGEMAN answered that it's 2.38 percent.
3:31:24 PM
REPRESENTATIVE KREISS-TOMKINS asked if he would provide charts
5, 6, and 7 with a 6.55 percent assumption for FY2030 and
beyond.
COMMISSIONER TANGEMAN asked for clarification that he was asking
to have the 6.55 percent assumption that's used in the first 10
years to be mirrored in the second ten years. [Representative
Kreiss-Tomkins said yes and Commissioner Tangeman agreed to
provide the charts.]
3:31:53 PM
REPRESENTATIVE KREISS-TOMKINS asked for an explanation of the
Sub Account.
COMMISSIONER TANGEMAN explained that it was created because the
legislature wanted to invest a portion of the CBR that would
earn a higher return than 2.38 percent. He noted that the dates
when that took place were in the handout he provided.
REPRESENTATIVE KREISS-TOMKINS asked how the administration plans
to invest the cash infusion into the CBR from the sweep that
could be in the billions.
COMMISSIONER TANGEMAN said he doubts the CBR will grow by
billions because of the sweep, but he would continue to be
conservative on the CBR investments until some of the large
decisions are made.
3:34:22 PM
REPRESENTATIVE KREISS-TOMKINS questioned how the sweep would not
be in the billions when the power cost equalization endowment is
just short of a billion and that is just one of many accounts
that will be swept.
COMMISSIONER TANGEMAN said he wasn't part of the discussions
when the vetoes took place and so he'll need to catch up on the
effects of the accounts that will not be reversed.
CO-CHAIR JOHNSTON asked Ms. Rodell and Commissioner Tangeman to
discuss how the management of the ERA will change if the
structured draw isn't followed.
3:36:22 PM
MS. RODELL said the first step is to articulate the purpose of
the ERA. In the last couple of years the discussion has been
that it has turned from being a receptacle of earnings of the
fund to a budget stabilization or reserve fund. While the
characterization of how the fund is used has changed, there has
been no change to the investment mandate, she said. Secondly,
moving $4 billion from the ERA back to the corpus as a result of
the governor's vetoes will leave about $12 billion in the ERA.
When Senate Bill 26 was debated it included discussions about
lookbacks to decide whether the draws were sustainable. There
was also talk about having a regular sweep of any amounts in
excess over 4 years. That is somewhat in line with the creation
of the Sub Account and Main Account. The idea of the Sub Account
was that a portion of the budget reserve wouldn't be needed for
at least 5 years so it could have a longer outlook. If there are
4 years of POMV draws left behind and everything else is swept
into the corpus, it looks more like what was envisioned for the
CBR as well.
If that is the direction the legislature and the governor are
going to take the ERA, she said her recommendation to the board
will be about de-risking by investing on a short to medium term
basis for the purpose of funding important services of the
state. However, before doing that the trustees would like
direction from the legislature, she said.
3:40:11 PM
CO-CHAIR JOHNSTON summarized that the investment profile would
change from higher risk, higher yield to something more similar
to the original fund.
MS. RODELL said she believes so but depending on the market
environment, fixed income assets can do very well. Duration of
the investment also makes a difference because you have to time
the maturities to the expectation.
3:41:31 PM
REPRESENTATIVE KREISS-TOMKINS noted that she said she would
recommend an adjustment in the way the ERA is invested because
of the requirements for greater liquidity. That means less
investments which means all the math in all the slides is that
much uglier. He asked if that's wrong.
COMMISSIONER TANGEMAN said it's not wrong at all and that's why
it's critical to get on the same page. The first graph shows the
ERA will bottom out in 2028, which clearly demonstrates it's not
possible to go to that well again and again to support this
budget and a full dividend.
3:43:12 PM
REPRESENTATIVE KREISS-TOMKINS highlighted that even in the
governor's ideal vision, there are ERA draws in excess of the
POMV. He said per your testimony that would result in management
changes, which would mean lower investment returns. Even Step 2
of the governor's option shows ERA overdraws. He said these
don't reconcile and increasing investment returns 65 basis
points starting in 2030 further fails to reconcile.
COMMISSIONER TANGEMAN said he inserted the extra ten years to
demonstrate that the budget eventually balances after Step 2 of
the governor's plan. Once things are synced and brought in line,
it will be possible to look at the long term in a different
light, he said.
3:44:46 PM
REPRESENTATIVE KREISS-TOMKINS remarked that the talk is about a
10-20 year outlook and the administration has failed to provide
a truly balanced budget. He said it's difficult to consider this
as a serious fiscal vision when the math doesn't work.
COMMISSIONER TANGEMAN said he respectfully disagreed. When the
governor says that revenues will match expenditures, that means
there will be a balanced budget for FY2021 on December 15.
3:46:06 PM
CO-CHAIR JOHNSTON advised that when Alaskans voted for the
permanent fund in 1976, revenues went to the general fund. In
1982 after the constitutional challenge of the dividend, 50
percent of those revenues went to the dividend. The rest of the
revenues didn't go into the general fund, but a portion of the
earnings was reinvested, which grew the fund tremendously. She
described it as a partnership in which one partner reinvested
earnings to grow the company and the other partner took 50
percent. She said that would change her view of the partnership.
While it's not part of the fund's discussion, she said the
working group needs to consider the partnership, the original
mission, what the 1982 division was, and how the fund has grown.
3:48:34 PM
CO-CHAIR JOHNSTON asked Mr. Teal to briefly describe how the
governor's vetoes affect the dividend and what he's done by
taking $1 billion of the $2.9 billion out of the structured
draw.
MR. TEAL said his response would be based on the first dividend
calculator sheet he provided and the assumption that the general
fund is used. The calculation shows that with the $400 million
in vetoes, the $600 million surplus becomes $1 billion. He said
there was also a $1 billion veto of the POMV payout. As the
governor said, the budget is balanced and $1 billion is left in
the ERA. He said that money is available for the 5.25 percent
payout and there is enough for a $1,600 dividend, but he doubts
that is what the governor meant given his claims that he wants a
$3,000 dividend. He said he suspects the only solution is to use
the $1 billion that's left in the ERA and then draw an extra $1
billion, which is unstainable.
CO-CHAIR JOHNSTON asked if $1,600 would be available for the
next dividend without the additional draw.
MR. TEAL said that's correct.
3:54:53 PM
CO-CHAIR JOHNSTON noted that about a week ago there was
discussion that if Governor Hammond's dividend had gone forward,
the inflation adjusted dividend today would be $3,000. Senator
Bishop wanted it on the record that in 1980 the general fund
budget was $1.74 billion. Adjusted for inflation that budget
would be $5.14 billion in 2019.
3:56:05 PM
SENATOR HUGHES highlighted that part of the reason the PFD was
proposed was the worry that the budget was growing so quickly.
CO-CHAIR JOHNSTON pointed out that Governor Hammond's dividend
stipulated that it would be paid as funds were available.
3:56:47 PM
REPRESENTATIVE KREISS-TOMKINS said it's worth noting that a
$1,050 dividend existed in the context of the durational
residency formula. Alaskans who had not lived in Alaska for 21
years would receive a dividend that was less than $1,050.
CO-CHAIR JOHNSTON shared that her dividend would have been $200.
3:57:30 PM
MR. TEAL said the 50 percent share made sense when the
assumption was that the government would also take its 50
percent. But the government didn't do that. He referenced Ms.
Rodell's presentation that looked at the constitutionally
mandated portion of the permanent fund, which was some $17
billion. He said it could be argued that everything in excess of
the $17 billion was royalty deposits, but it was actually money
the government put into the fund. It was not royalty at all.
MR. TEAL said that if you were trying to make the argument that
the 40-year-old formula is valid, you might also say you should
get 50 percent of the earnings on all the royalty deposits. The
original concept of the permanent fund was that 25 percent or
more of mineral royalties would go into the fund. The situation
now is that only about 30 percent of the permanent fund is
royalties and the rest was added by the legislature. He said if
you follow the formula for 50 percent of earnings and get the
$3,000 dividend and you know that only 30 percent is royalty
deposits, you could say the dividend should be just 30 percent
of $3,000, which is about $900. He said that is arguably what
was envisioned when the formula was developed.
4:00:15 PM
SENATOR HUGHES maintained that the record is very clear that the
PFD was to be paid first. Government taking 50 percent was not
envisioned but the record does talk about being available when
oil revenues went down. She offered her belief that the
partnership metaphor didn't resonate, because it wasn't that
type of relationship. Rather, it's like grandparents and
grandchildren, she said. The grandparents might want to reinvest
the money for the next generation, which is what the state was
doing. The grandchildren could have some now but the dividends
would continue in the future. She reiterated her view that the
PFD isn't broken, it's the budget that's broken. She said she
also doesn't buy into the concept of living within your means in
this context. If oil were to drop to $10 per barrel, it would be
very difficult for the state to provide the most essential
services.
She said all eyes have turned to this PFD cookie jar, and she
wants all eyes back on the budget to figure out what is a right
sized budget in Alaska. She said she feels as though the
legislature has been throwing darts in the dark to get to the
right number so she asked the Office of Management and Budget
(OMB) to tease out the right size when all the factors and
Alaska's unique challenges are taken into consideration. She
said she would support a full-scale audit by someone who is
nonpartisan to understand where things could be shored up or
combined for efficiency, and what isn't meeting statutory or
constitutional obligations. She reiterated that it's been very
frustrating that the legislature has been going about this all
wrong. She maintained that the focus on the PFD has led to a
chaotic situation in the legislature the last few years and it
really needed to be settled so legislators can focus on the
budget.
4:05:35 PM
REPRESENTATIVE MERRICK asked if there was ever any discussion
about dividing the permanent fund and providing a portion for
the people and a portion for government.
CO-CHAIR JOHNSTON recalled there were many discussions about
doing different things with the permanent fund.
4:06:06 PM
REPRESENTATIVE KREISS-TOMKINS asked the record to reflect that
Cliff Groh was in the audience. He was legislative staff when
the permanent fund was established and he shared a 90 or so page
private contemporaneous history of how the sausage was made.
That blew up some of my assumptions, he said. It doesn't answer
Representative Merrick's question but it has rich detail that
may be helpful to the working group. He offered to share the
document with Mr. Groh's permission
4:07:13 PM
REPRESENTATIVE WOOL stressed that the original intent of the
permanent fund is important, but it is not the defining issue.
He said he doesn't entirely agree with Senator Hughes that the
budget is the problem. Perhaps spending could be reduced a
little less, but per capita and adjusted for inflation it's not
the highest it's ever been. There are efforts to keep the budget
in check but needs change as the population changes. He
highlighted that when about 100,000 Alaskans voted to put the
permanent fund in the constitution, the population and
composition of the voters was different than it is today. He
said most people realized that spending needed to be controlled
after the first oil money was spent so quickly. On the other
hand, infrastructure in the state at the time needed to catch
up. He said the PFD never came to the people for a vote; it just
became a statute and that worked well up until 3-4 years ago. He
acknowledged that a spending cap was not a bad idea. He said oil
has dropped from 90 percent of the state's revenue to just 40
percent and nobody knows where it's going next. He drew a
parallel to demonstrate the need to change models when it's
prudent to do so. The oil industry is aware of this and they're
getting into solar, wind, and other forms of energy, he said. He
also noted the changes in northern and western Alaska where the
ice is disappearing. He emphasized that the consumption of
hydrocarbons may change in the next 10 years because the revenue
structure the state has been relying on is changing.
REPRESENTATIVE WOOL said he did not support cutting the budget
$1.3 billion to $1.6 billion over the next two years because it
was too drastic and would cause people to leave the state. He
noted that people are already leaving the state because of the
cuts to the university. He emphasized the need for the
legislature to look at revenue, the revenue projections, the PFD
formula, and the priorities of Alaskans today.
4:11:21 PM
CO-CHAIR JOHNSTON thanked everyone for their hard work and
stated that the next meeting would be on July 8 at 9:00 a.m. in
Juneau.
4:12:12 PM
There being no further business to come before the Bicameral
Permanent Fund Working Group, Co-Chair Johnston adjourned the
meeting at 4:12 p.m.
| Document Name | Date/Time | Subjects |
|---|---|---|
| 01 - Alaska Permanent Fund Presentation for June 28, 2019, meeting.pdf |
JPFG 6/28/2019 10:00:00 AM |
Bicameral Permanent Fund Working Group |
| 02 - Legislative Finance Presentation to Permanent Fund Working Group, 28 June 2019.pdf |
JPFG 6/28/2019 10:00:00 AM |
Bicameral Permanent Fund Working Group |
| 03 - DOR Presentation to Permanent Fund Working Group, 28 June 2019.pdf |
JPFG 6/28/2019 10:00:00 AM |
Bicameral Permanent Fund Working Group |
| 04 - Angela Rodell response to June 28 working group questions, 2 July 2019.pdf |
JPFG 6/28/2019 10:00:00 AM |
Bicameral Permanent Fund Working Group |