HomeMy WebLinkAboutClosed Session Emailed Comment from Robert GoldbergDear Councilmembers,
With Jill’s evaluation perhaps winding down, I wanted to share with you what I think is
the most financially consequential failure of her tenure.
At the Strategic Objectives meeting on March 5, 2020, three of you may recall that
Bruce Bennett and I pleaded with Council and staff to take urgent action to reap a
potentially low risk windfall from the issuance of pension obligation bonds (POBs) to
pay-down our CalPERS unfunded pension liability (see attached). At the meeting,
POBs were discussed, and my recollection is that the Council gave Jill a directive to
come back to the Council with an analysis ASAP. This is consistent with what was
reported in the Sun (see attached). To my knowledge, that never happened, at least at
a public meeting.
Three weeks after the meeting, the retired Chief Investment Officer for the O.C.
Employees Retirement System, Girard Miller, expressed similar pleadings to all
municipal finance officers: "The pension obligation bond...could never be more timely--
and vital to the future health of states and municipalities." His article published in
"Pensions & Investments" (attached) explained very clearly what Bruce and I were
trying to convey-- that the perfect time to buy POBs is when there is a rare concordance
of generationally low interest rates and a bear stock market.
Borrowing at a low rate and investing with CalPERS after a major market decline makes
it highly likely that future multi-year CalPERS investment returns will be at a higher rate
than the interest rate paid on the POBs. The difference in these rates creates a net
“arbitrage profit” for the municipality resulting in a lower unfunded pension liability and
lower annual payments to CalPERS related to this liability.
Now, four years later, it is possible to assess the potential cost of our failure to issue
POBs. If the City had acted expeditiously after the March meeting, POBs could have
likely been issued by the end of June 2020. In the ensuing four years from July 2020
through June 2024, the annual average gain of CalPERS investments was 7.1%.The
difference between this rate of return and the City's likely borrowing costs of
approximately 4.3% for a 25-year bond would have yielded a net "arbitrage profit" of
approximately 2.8% a year. With an unfunded pension liability at the time of $42 million,
we could have issued a POB in the range of $10-$40 million, with $30 million being a
reasonable amount to avoid potentially “over-funding” of our long-term liability. Our
average net “arbitrage profit” on investing the proceeds of a $30 million bond with
CalPERS would have been about $840,000 per year over the first four years.
While the City sat on this opportunity, other cities were moving forward. For example,
the City of Montebello (S&P rated A+), issued $153 million in POBs on June 10, 2020,
including $30 million in 25-year bonds (CUSIP 612285AP1) with an interest rate of
4.26%. A week later the City of Carson (S&P rated AA-) issued $45 million in POBs with
$30 million in 24-year bonds (CUSIP 14574AAM6) with an interest rate of 3.70%. In
September 2020, the City of Azuza (S&P rated AA-) issued $70 million in POBs
including $22 million in 20-year bonds (CUSIP055022AR8) with an interest rate of
3.62%. (For reference, the City’s S&P rating was “A” at the time.)
The above examples are just the cities whose POB's I purchased for my investment
portfolio. I suspect they were not the only POB issuers in 2020. Other cities followed in
2021, including Huntington Beach which issued a $436 million POB after approval by a
4-3 vote (3/21/21) with Councilman Dan Kalmick joining the majority.
So how did all of these other cities know to "strike when the iron was hot?" Maybe there
are more "Goldbergs" and "Bennetts" speaking up there. More likely, they had City
Managers with a higher financial IQ than we do, and one that consistently follows up on
commitments to bring analyses back to the Council and public for consideration.
With looming future budget deficits and a sales tax increase on the November ballot, I
think now would be an opportune and appropriate time to rectify these deficiencies by
seeking new management leadership.
Thank you for consideration and service,
Robert Goldberg, MD
July 22, 2024
Dear Council and Staff,
For your Strategic Objectives meeting this Thursday, I urge adoption of the following Objective
to further the Three-Year Goal of “Achieve Short-and Long-Term Fiscal Sustainability:”
Present an analysis and action plan for the immediate issuance of Pension Obligation Bonds
Background:
Interest rates have recently fallen very rapidly to all-time record lows. Since the beginning of
the year, the yield on the 30-year Treasury bond has dropped from 2.3% to 1.6%. Much of this
drop has been just within the last three weeks due to the corona virus.
This has created a unique opportunity to borrow money “on the cheap” to make a one-time
pay-down of our $42 million unfunded pension liability (see table below). However, rates could
go back up just as quickly as they have fallen if the economic fear of the corona virus abates, or
as other cities rush to issue bonds. Per Bond Buyer, the amount of municipal bonds issued in
February hit a 34-year high.
CalPERS Plans
Unfunded Actuarial
Liability as of 6/30/20
per CalPERS (Millions)
Safety $24.5
Fire $3.7
Miscellaneous $14.2
Total $42.4
At the current amortization (i.e., “pay-off”) rate, this debt will be paid off in 25 years, assuming
CalPERS investments make an average of 7% per year. If we were to issue a 25-year “pension
obligation” bond to borrow at the current market rate (my best estimate is approximately
3.75% for an A-rated city such as Seal Beach), this borrowed money would then be added to our
current asset total invested by CalPERS.
So as a rough example for illustration purposes only, we could theoretically issue a $14.2 million
bond with a 25 year term and an interest rate of approximately 3.75% to pay off the unfunded
liability in our Miscellaneous Plan. The difference between what we would pay annually for
principal and interest on the bond vs. what we are projected to pay CalPERS adds up to a
potential net gain over the bond term of $4.9 million (see attached spreadsheet).
The risk involved in issuing a pension obligation bond depends on the difference between the
interest rate of the bond and CalPERS’ long-term investment returns. If CalPERS’ investments
were to average less than the assumed 7% return over the next 25 years, our net gain would be
less than $4.9 million in the example above. The worst case scenario would be If CalPERS’
investment returns averaged less than the interest rate we are paying on the bond over the 25-
year bond term. In this case, we could end up with a net loss at end of the 25-year bond term.
While not impossible, such sustained poor investment returns would be “historic.” In looking at
the attached graph of “rolling” 20-year returns on the S&P 500 stock index over the last 100
years, this index has had a 20-year average return of less than 3.75% in only one year (1949-
3.1%). Furthermore, only two years have been less than 5%. With CalPERS’ investment portfolio
being much broader and more diversified than the S&P 500, I would think it is at even a lower
risk of a sustained poor performance.
Ideally, we would not send our borrowed millions to CalPERS to invest at the next stock market
top. However, such unlucky timing would be unlikely to significantly reduce the total return of
our investment over the next 25 years. So bottom line is that our “return on investment”
depends primarily on the interest rate at the time we borrow the money.
If the Council were to give direction to staff today to start analyzing and working on a potential
bond, the final decision whether as to issue a bond would be made at a later date when “all of
our ducks are lined up.” If rates are still as low as they are now, the bonds would then be
marketed within days.
If our financial staff need assistance to more forward immediately with this project, there are
local consultants with expertise in pension bonds. About a year ago, Bruce Bennett and I
attended a presentation by Urban Financial Solutions (Tustin) that discussed pension bonds and
other possible approaches to the management of pension liabilities. I am sure there are other
consultants as well.
Finally, as a point of reference, the City previously issued pension bonds in June 2008. A $2.2
million 5-year bond was issued at 4.3% to pay down the Fire Plan’s unfunded liability. A
separate $8.8 million 11-year bond was issued at 5.2% to pay down the Safety Plan’s.
With current interest rates being lower than in 2008, the potential return on investment is
greater than it was before. At the same time, the risk of an underperforming CalPERS portfolio
during the life of the bond is also less due to a potentially longer bond term (25 years vs 5-11
years).
However, time is of the essence, and the current window of opportunity could close if the
evaluation process is delayed for even a month or two.
Thank you for your consideration and service,
Robert Goldberg
March 3, 2020
March 25, 2020 01:00 PM
Girard Miller