by Tyler Durden
Mar 31, 2017 7:19 PM
Chicago's pension funds, along with several other large public pensions around the country, are in serious trouble (we recently discussed the destruction awaiting our financial markets here: "Are Collapsing Pensions "About To Bring Hell To America"?").
The problem is that the pending doom surrounding these massive public pension obligations often get clouded over by complicated actuarial math with a plan's funded status heavily influenced by discount rates applied to future liability streams.
Take Chicago's largest pension fund, the Municipal Employees Annuity and Benefit Fund of Chicago (MEABF), as an example. Most people focus on a funds 'net funded status', which for the MEABF is a paltry 20.3%. But the problem with focusing on 'funded status' is that it can be easily manipulated by pension administrators who get to simply pick the rate at which they discount future liabilities out of thin air.
So, rather than lend any credence to some made up pension math, we prefer to focus on actual pension cash flows which can't be manipulated quite so easily.
And a quick look at MEABF's cash flows quickly reveals the ponzi-ish nature of the fund. In both 2015 and 2014, the fund didn't even come close to generating enough cash flow from investment returns and contributions to cover it's $800mm in annual benefit payments...which basically means they're slowing liquidating assets to pay out liabilities.
Of course, like all ponzi schemes, liquidating assets to pay current claims can only go on for so long before you simply run out of assets.
So we decided to take a look at when Chicago's largest pension fund would likely run out of money.
On the expense side, annual benefit payments are currently just over $800 million and are growing at a fairly consistent pace due to an increasing number of retirees and inflation adjustments guaranteed to workers. Assuming payouts continue to grow at the same pace observed over the past 15 years, the fund will be making annual cash payments to retirees of around $1.3 billion by 2023.
Investment returns, on the other hand, are much more volatile but have averaged 5.5% over the past 15 years. That said, the fund took big hits in 2002 (-9.3%) and 2008 (-27.1%) following the dotcom and housing bubble crashes.
But, just to keep it simple, lets assume that today's market is not a massive fed-induced bubble and that the MEABF is able to produce consistent 5.5% (their 15-year average) returns every year in perpetuity. Even then, the fund will only generate roughly $500mm per year in income compared to benefit payments growing to $1.3 billion...see the problem?
Which, of course, means that the fund has likely just entered a period of perpetual cash outflows which will not stop until either (i) the city decides to cut back retiree payments or (ii) the fund runs out of money.
And, putting it all together, even if Chicago's largest pension generates consistent positive returns for the foreseeable future, it will literally run out of cash in roughly 6 years.
And while we hate to be pessimistic, lets just take a look at what happens if, by some small chance, today's market gets exposed as a massive bubble and we have another big correction in 2018.
Such a correction would force the fund to liquidate over $1.5 billion in assets in 2018 alone....
....and the system would run out of cash completely within 4 years.
The risk associated with America's pension ponzi schemes have largely been overlooked by investors to date because so long as they can meet annual benefit payments then plan administrators can just continue to 'kick the can down the road' and pretend that nothing is wrong.
Of course, that strategy ceases to work when the pensions actually run out of cash...which could happen sooner than you think...and when it does, America's retirees will suddenly find themselves about $5 trillion poorer than they thought they were.