March 9, 2006 PSERS An Update on the State of the Fund, the Employer Contribution Rate and Pending Legislation

March 9, 2006 www.psers.state.pa.us 1

PSERSAn Update on the State of the

Fund, the Employer Contribution Rate and Pending Legislation


AgendaState of the Fund

Investment UpdateActuarial ProcessFunded Status

The Employer Contribution RatePending LegislationCurrent IssuesQuestionsNew Pension Administration System (NPAS) Update




Audited Market Value of the Fund as of June 30,

2005:

$52.7 billion


Unaudited Market Value of the Fund as of December

31, 2005:

$54.8 billion


Unaudited Market Value of the Fund as of March 3,

2006:

$56.7 billion

Market Value % of Target PolicyAsset Class (in millions) Total Allocation Ranges

Domestic Equity $ 22,830.1 41.7% 40.0% 37.0% - 43.0% International Equity 12,354.3 22.5% 20.0% 17.0% - 23.0%

Private Equity 3,629.1 6.6% Private Debt 1,035.4 1.9% Venture Capital 498.5 0.9% Subtotal Alt. Investments 5,163.0 9.4% 11.0% 8.0% - 14.0%

Real Estate 3,283.3 6.0% 7.0% 5.0% - 9.0%

Total Equity 43,630.7 79.6% 78.0% 75.0% - 81.0%

Domestic Fixed Income 7,929.2 14.5% Global Fixed Income 1,689.9 3.1% Cash & Cash Equivalents * 1,555.7 2.8% Total Fixed Income 11,174.8 20.4% 22.0% 19.0% - 25.0% TOTAL FUND $ 54,805.5 100.0% 100.0%

* - includes Cash, Cash Equivalents, and net asset value accounting adjustments

PSERS’ Investment Market Values

as of December 31, 2005 (Unaudited)

PSERS’ Net Pension Assets (in billions)

54.851.8

48.3

42.343.548.148.9

53.4

19.1

44.839.3

25.825.5

0.84.9

2.1

17.322.3

28.833.7

$0

$10

$20

$30

$40

$50

$60

6/60 6/70 6/80 6/90 6/91 6/92 6/93 6/94 6/95 6/96 6/97 6/98 6/99 6/00 6/01 6/02 6/03 6/04 6/05 12/05

Month/Year

PSERS’ Annualized Performance (Net of Fees) As of December 31,

2005

Asset Class QuarterFiscal Year

to Date*1 Year 3 Years 5 Years

Equities

U.S. Issues 2.03% 6.22% 6.25% 16.53% 3.46%

International 5.16 18.39 19.03 26.13 7.53

Fixed Income

U.S. Issues 0.51 0.47 3.17 6.29 7.21

Global -1.22 -1.20 -3.96 6.65 7.42

Real Estate 8.42 16.20 29.62 23.50 16.31

Private Equity/Venture Capital/ Private Debt

8.52 11.08 27.27 19.23 4.80

TOTAL ASSETS 3.39% 8.58% 11.45% 17.01% 6.50%

*PSERS’ Fiscal Year ends on June 30

PSERS Performance Comparison

Total Returns of Total Fund Public Plans Periods Ended 12/31/05

Q

FYTD

YEAR

2 YEARS

3 YEARS

5 YEARS

10

YEARS

PSERS (Rank) 3.39 (1) 8.58 (1) 11.45 (1) 13.16 (1) 17.01 (2) 6.50 (12) 9.36 (23)

Policy Index (Rank) 2.42 (14) 7.00 (11) 9.01 (12) 10.51 (11) 14.42 (15) 4.99 (50) NA

Bp Difference 97 158 244 265 259 151 NA

Median 1.80 5.18 6.45 8.23 12.26 5.03 8.29

Bp Difference 159 340 500 493 475 147 107

# of Funds 138 138 133 129 123 111 66

(1) – per Wilshire’s public sponsors database

2.8%

9.4%6.0%3.1%

14.5%

22.5%41.7%

Domestic Equity

InternationalEquity

Domestic FixedIncome

Global FixedIncome

Real Estate

AlternativeInvestments

Cash & CashEquivalents

PSERS’ Portfolio Distributionas of December 31, 2005

(Unaudited)


Actuarial Process


Actuarial ValuationAlthough the annual actuarial valuation to determine PSERS’ employer contribution rate is fairly complex, its goal is relatively simple, i.e. to ensure that PSERS has sufficient funds to meet all benefit and expense requirements of the plan

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Actuarial ValuationThe actuarial valuation ensures adequate funding of the pension plan by determining:

The liabilities of the Fund, based on:• Membership data• Benefits provisions• Certain actuarial assumptions• Actual experience

The assets of the Fund, based on:• Market value of the assets• Actuarial value of the assets• Certain actuarial assumptions• Actual experience

The funding sources make up any “shortfall” between the assets and liabilities


Plan Funding

PSERS funding sourcesKnown Variable - Employer Contribution Rate

• (4.23% for FY 2004-2005)• (4.69% for FY 2005-2006) • (6.46% for FY 2006-2007)• Generally split between the Commonwealth

and School Employers

Unknown Variable - Investment Earnings • (Assumed Rate of return 8.5%)

Fixed - Employee Contribution Rate• (5.25%/6.25%/6.50%/7.50%)

PSERS’ Sources of Funding Ten Year History (1996 to

2005)

Investment Earnings78%

$37.6 Billion

Employee Contributions12%

$6.0 Billion

Employer Contributions10%

$4.7 Billion

PSERS’ Sources of FundingTwenty Five Year History (1981 to

2005)

Investment Earnings

68%

$57.5 Billion

Employee Contributions

12%

$10.3 Billion

Employer Contributions

20%

$17.1 Billion


Experience Study

An experience study reviews and compares actual demographic and actuarial experience with the Fund’s actuarial assumptions

An experience study is conducted every five years

An experience study was completed in 2005


Experience StudyAs a result slight revisions were made to the Fund’s demographic and actuarial assumptions and were reflected in the employer contribution rate

Examples:• Salary growth rate was decreased from 6.25% to

6.00%• Updated postretirement mortality tables • Modified disability, death in service, and non-

vested withdrawal rates to reflect experience• Decreased assumed inflation from 3.5% to 3.25%• Increased assumed real rate of return on assets

from 5% to 5.25%


Actuarial Assumptions

DemographicService retirementDisabilityDeath in active serviceWithdrawalDeath after retirement

EconomicRate of return on assetsSalary increase


Actuarial Assumptions

EconomicRate of return on assets 8½%Active member salary increases 4¼% to 12%

6% average

Components of active member salary increases

Inflation 3.25%Real wage growth 1.00%Career scale 1.75%

6.00%


Funded Status

PSERS’ Funded Ratio: 1991 – 2005 (in millions)

June 30

Date

Accrued Liability

Valuation

Assets

(Overfunded) Unfunded Accrued Liability

Funded Ratio

2005 $61,227 $51,219 $10,007 83.7% 2004 57,124 52,095 5,029 91.2 2003 54,443 52,900 1,543 97.2 2002 51,796 54,296 (2,500) 104.8 2001 47,917 54,830 (6,913) 114.4 2000 39,823 49,293 (9,470) 123.8 1999 37,499 44,606 (7,107) 119.0 1998 36,136 39,969 (3,833) 110.6 1997 33,210 34,873 (1,663) 105.0 1996 31,630 30,171 1,459 95.4 1995 30,073 26,971 3,102 89.7 1994 28,348 24,552 3,796 86.6 1993 25,947 22,644 3,303 87.3 1992 24,570 20,068 4,502 81.7 1991 22,574 17,962 4,612 79.6



The RateOn December 9, 2005, the Retirement Board certified the employer contribution rate for FY 2006-2007The rate for FY 2006-2007 is 6.46% (0.74% for premium assistance and 5.72% for the pension rate)The pension rate of 5.72% is 0.90% below the employer normal cost of 6.62%The “employer normal cost” is the annual cost of the benefits earned by the members of the System payable by the employers

In other words, if PSERS met all of its actuarial assumptions, the annual employer contribution rate would be 6.62% plus the premium assistance rate


Valuation Date: June 2004 June 2005Rate Components (FY 2005/2006) (FY 2006/2007)

Employer Contribution Rate

Normal Cost Rate 14.77%

13.83%

Member Rate (Average) (7.16%)

(7.21%)

Employer Normal Cost Rate 7.61%

6.62%

Unfunded Accrued Liability Rate (4.28)% (0.95)%

Preliminary Pension Rate 3.33% 5.72%

Pension Rate Floor 4.00% N/A

Health Insurance Rate .69% .74%

Final Pension Rate 4.00% 5.72%

Final Total Rate 4.69%

6.46%


Total Contribution RateFiscal Year

Employer Employee Total Contribution Rate

06-07 6.46% 7.21% 13.67% 05-06 4.69 7.16 11.85 04-05 4.23 7.12 11.35 03-04 3.77 7.08 10.85 02-03 1.15 7.10 8.25 01-02 1.09 5.80 6.89 00-01 1.94 5.77 7.71 99-00 4.61 5.72 10.33 98-99 6.04 5.69 11.73 97-98 8.76 5.65 14.41 96-97 10.60 5.62 16.22 95-96 11.72 5.59 17.31 94-95 11.06 5.55 16.61 93-94 13.17 5.51 18.68 92-93 14.24 5.48 19.72 91-92 14.90 5.46 20.36 90-91 19.18 5.69 24.87

Member TotalFiscal Normal Accrued Health Care Total Contribution ContributionYear Cost Liability Contribution Employer (Average) Rate

89/90 8.44 11.24 19.68 5.53 25.2190/91 8.28 10.9 19.18 5.69 24.8791/92 8.00 6.40 .50 14.90 5.46 20.3692/93 7.90 5.84 .50 14.24 5.48 19.7293/94 7.34 5.58 .25 13.17 5.51 18.6894/95 6.43 4.18 .45 11.06 5.55 16.6195/96 6.43 4.67 .62 11.72 5.59 17.3196/97 6.44 3.56 .60 10.60 5.62 16.2297/98 6.44 2.17 .15 8.76 5.65 14.4198/99 6.33 (.44) .15 6.04 5.69 11.7399/00 6.40 (2.04) .25 4.61 5.72 10.3300/01 6.29 (4.65) .30 1.94 5.77 7.7101/02 5.63 (6.05) 1.09 1.09 5.80 6.89

02/03 7.20 (10.03) .97 1.15* 7.10 8.2503/04 7.25 (4.27) .79 3.77 7.08 10.8504/05 7.48 (7.10) .23 4.23** 7.12 11.3505/06 7.16 (4.28) .69 4.69** 7.16 11.8506/07 6.62 (0.95) .74 6.46 7.21 13.67

Detailed Total Contribution Rate

*1% floor & 1.15% cap per Act 38 **4% floor per Act 40



Act 38 and the RateAct 2002-38, in addition to granting a phased COLA, required PSERS to use a five-year smoothing methodology for recognizing investment gains and losses, instead of PSERS’ former (Pre-Act 38) three-year smoothing methodology

Pre-Act 38, the selection of the smoothing methodology was within the Retirement Board’s discretion

Once recognized, the gains or losses, at the time of Act 38, were to be amortized over 10 years at level dollars

The 10 year amortization schedule for gains and losses was subsequently modified by Act 2003-40

Act 38 also provided for an employer contribution rate floor of 1%, exclusive of the premium assistance rate


Act 38 and the Rate

One purpose of the smoothing methodology is to reduce the volatility of the employer contribution rateThe longer the smoothing period the greater the smoothing effectThe subsequent amortization of the recognized gains and losses further mitigates the volatility of the employer contribution rate


Act 38 and the RateAct 38 also provided a transition rule for implementing the new five-year smoothing methodology

Essentially PSERS was directed to immediately recognize the investment gains and losses still unrecognized for actuarial purposes under the former smoothing methodology for FY 98-99 and FY 99-2000The impact of this immediate recognition was to be reflected in calculating the employer contribution rate for Fiscal Year 2002-2003The resulting reduction in the rate was attributable to the fact that there were no unrecognized losses for FY 98-99 and FY 99-2000, only gains, whose recognition was accelerated, plus the fact that the losses from FY 2000-2001 were to be recognized over 5 years not 3 years



Act 40 and the RateEnacted December 10, 2003 Increased the statutory minimum employer rate floor from 1.00% to 4.00% plus premium assistance rate, for the PSERS’ employer contribution rate beginning July 2004 Also beginning in July 2004, Act 2003-40 changed the amortization period for the increased liabilities of Act 9 of 2001, for the outstanding balances of the net actuarial losses incurred in FY 2000/2001 and FY 2001/2002, and for the future gains and losses experienced in all future years from 10-year level dollars to 30-year level dollars


Act 40 and the RateAct 40 retained the current 10-year level dollar amortization period for all pre-Act 9 of 2001 unfunded liabilities, the Act 38 of 2002 asset valuation method change, and for future benefit changes and COLASThe net impact of Act 40 was to reduce the employer contribution rate for FY 2004-2005 from the projected rate of 9.69% (including premium assistance) to 4.23% (including premium assistance)If the rate floor was not in place, the employer contribution rate would have been .61% (including premium assistance)


Pre Act 2003-40June 30, 2003 Valuation Rate

Projection

Fiscal Year Ending Pre-Act 40 Retirement Code

Proposed 30-Year Amortization Schedule with

0% Floor on Pension Rate

June 30 Annual Payroll Employer Rate Contribution Employer Rate

2003/2004 10,554,969$ 3.77 % 397,922$ 2004/2005 11,059,845 9.69 1,071,699 2005/2006 11,411,594 15.87 1,811,020 2006/2007 11,748,838 21.41 2,515,426 2007/2008 12,076,340 24.43 2,950,250

2008/2009 12,396,057 25.45 3,154,797 2009/2010 12,709,943 25.52 3,243,577 2010/2011 13,021,185 25.38 3,304,777 2011/2012 13,350,084 25.05 3,344,196 2012/2013 13,704,746 32.11 4,400,594

2013/2014 14,091,010 27.34 3,852,482 2014/2015 14,512,093 22.12 3,210,075 2015/2016 14,973,250 17.27 2,585,880


Post Act 2003-40June 30, 2003 Valuation Rate

Projection

Fiscal Year Ending Pre-Act 40 Retirement Code

Act 40 30-Year Amortization Schedule with

4% Floor on Pension Rate

June 30 Annual Payroll Employer Rate Contribution Employer Rate Contribution

2003/2004 10,554,969$ 3.77 % 397,922$ 3.77 % 397,922$ 2004/2005 11,059,845 9.69 1,071,699 4.23 467,831 2005/2006 11,411,594 15.87 1,811,020 4.82 550,039 2006/2007 11,748,838 21.41 2,515,426 8.07 948,131 2007/2008 12,076,340 24.43 2,950,250 10.11 1,220,918

2008/2009 12,396,057 25.45 3,154,797 10.93 1,354,889 2009/2010 12,709,943 25.52 3,243,577 11.15 1,417,159 2010/2011 13,021,185 25.38 3,304,777 11.23 1,462,279 2011/2012 13,350,084 25.05 3,344,196 11.20 1,495,209 2012/2013 13,704,746 32.11 4,400,594 27.73 3,800,326

2013/2014 14,091,010 27.34 3,852,482 26.61 3,749,618 2014/2015 14,512,093 22.12 3,210,075 25.08 3,639,633 2015/2016 14,973,250 17.27 2,585,880 24.53 3,672,938

10 Year Employer Contribution Rate Projection based on June 30, 2004 Valuation

Fiscal Year Ending June Employee

Employer Normal Cost

Unfunded Liability Rate

Preliminary Employer

Pension RateHealth Care Contribution

Total Employer

Rate2004/2005 7.12 7.48 (7.10) 4.00 0.23 4.232005/2006 7.16 7.61 (4.28) 4.00 0.69 4.69

2006/2007 7.19 7.51 (1.86) 5.65 0.73 6.382007/2008 7.21 7.44 (0.68) 6.76 0.73 7.492008/2009 7.24 7.36 (0.65) 6.71 0.71 7.422009/2010 7.27 7.29 (1.17) 6.12 0.72 6.842010/2011 7.29 7.24 (1.09) 6.15 0.71 6.86

2011/2012 7.32 7.19 (1.06) 6.13 0.70 6.832012/2013 7.35 7.17 14.61 21.78 0.68 22.462013/2014 7.37 7.15 13.61 20.76 0.68 21.442014/2015 7.39 7.13 12.27 19.40 0.66 20.062015/2016 7.41 7.11 11.82 18.93 0.64 19.57

The projection of contribution rates is based on the assumption that there are no changes in demographics or economic assumptions, no changes in benefit provisions, and no actuarial gains or losses other than gains or losses on the actuarial value of assets that result from recognizing currently deferred gains or losses on the market value of assets.

Post Act 40 June 30, 2004 Valuation

Prior Proj.

4.23 4.82

8.07 10.11 10.93 11.15 11.23

11.20 27.73 26.61 25.08 24.53

June 30, 2003

valuation


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10 Year Employer Contribution Rate Projection based on June 30, 2005 Valuation

Fiscal Year Ending June Employee

Employer Normal Cost

Unfunded Liability Rate

Preliminary Employer

Pension RateHealth Care Contribution

Total Employer

Rate

2005/2006 7.16 7.61 (4.28) 4.00 0.69 4.69

2006/2007 7.21 6.62 (0.95) 5.72 0.74 6.46**2007/2008 7.23 6.60 (0.21) 6.39 0.76 7.152008/2009 7.25 6.58 (0.57) 6.01 0.77 6.782009/2010 7.27 6.57 (1.51) 5.06 0.77 5.832010/2011 7.30 6.54 (1.82) 4.72 0.78 5.50

2011/2012 7.32 6.53 (1.85) 4.68 0.78 5.462012/2013 7.35 6.51 15.24 21.75 0.77 22.522013/2014 7.37 6.49 14.31 20.80 0.77 21.572014/2015 7.39 6.48 13.00 19.48 0.76 20.242015/2016 7.41 6.46 12.67 19.13 0.76 19.892016/2017 7.43 6.45 12.33 18.78 0.74 19.52

** 6.46% total employer contribution rate for fiscal year 2006/2007 adopted by the Board of Directors on December 9, 2005.

The projection of contribution rates is based on the assumption that there are no changes in demographics or

economic assumptions, no changes in benefit provisions, and no actuarial gains or losses other than gains or

losses on the actuarial value of assets that result from recognizing currently deferred gains or losses on the

market value of assets.

The Future?


Legislative Process

45

Legislation: PSERS’ Role

Assists in drafting legislation Assists in editing legislation Provides cost estimates

Example: Act 2002-38 Occasionally “lobbies” for legislation:

Prudent person investment authorityAmendments to retain qualified plan status under the Internal Revenue CodeProtection of investment information under the Right-to-Know LawThese occasional efforts are at the direction of the PSERB


Legislation: Adopted during 2005-2006

sessionHouse Resolution 299 was adopted by the House of Representatives on June 29, 2005

The proposal directed the Legislative Budget and Finance Committee (LB&FC) to perform a comprehensive study involving a fiscal analysis, actuarial analysis, and policy analysis of various alternative proposals set forth in House Bill 130 and House Bill 131

HB 130 proposes a “30 & Out” early retirement incentive window, and a “rule of 80” retirement benefit

HB 131 proposes the institution of a permanent, automatic, annual COLA

The report has not yet been finalized and its release is expected during March 2006


Legislation: Enacted during 2005-2006

sessionAct 5 of 2006- Governor Rendell signed into law on February 2, 2006

Act 5 provides an exemption for retirees from the continuing education requirements of Act 48 of 1999

Retired teachers are now permitted to be employed for a total of 180 days, during which time they would be exempt from the continuing education requirements and maintain active teacher’s certification

A large number of bills have been introduced that impact PSERS (COLAS, 30 and Out, etc.)

You can track the progress of a bill via the Internet by accessing the Session Information section of the Pennsylvania General Assembly website at: http://www.legis.state.pa.us/cfdocs/legis/home/session.cfm

http://www.legis.state.pa.us/cfdocs/legis/home/session.cfm









Current Issues


Current IssuesRising employer contribution rate

Impact of Act 2001-9 (1/3)Impact of investment performance - 2001-2003 (2/3)Impact of Act 2003-40 - balloon payment in FY 2012/2013

Relationship with annuitantsRight-to-Know-Law (RTKL) dispute with PASR

Increased public scrutiny/transparencyBoard Education Policy

DB vs. DC debate Commonwealth Foundation Report



Update on New Pension

Administration System (NPAS)


NPAS Update

Recap of the first 20 months of operationStatus of Member Statements of AccountStatus of Employer Statements of AccountPlanned Improvements

Employer Statement of Accounts

Employer Reporting

Questions and Answers

Documents

March 9, 2006 PSERS An Update on the State of the Fund, the Employer Contribution Rate and Pending Legislation