RETIREMENT PLANS’ TOTAL EXPENSE RATIO
Office of Retirement Services
Investment Program
November 8th, 2022
1 Investment Policy Statement on Investment Fees
2 “The Plan will seek alignment of interests when negotiating fees while pursuing the best net of fees performance results. Investment costs shall be monitored, controlled, and whenever possible negotiated to ensure cost effectiveness. The Board shall give consideration to the impact of administrative expenses, external management fees and performance fees when establishing the asset mix policy of the Plan. The Board will be provided reports on investment costs of the Plan at least annually.”
Understanding Total Expense Ratio
3 • Complex topic
• Declining return expectations → Increased focus
• Net returns = Gross returns – Total expense ratio
• A function of asset allocation and asset class structuring • Higher complexity = higher fees
• ORS comprehensive annual fee reporting started 2015
• Includes embedded or unobserved fees/expenses (e.g., fees not reported on statements) • Few public plans have comprehensive fee reporting (CalPERS, CalSTRS, LACERA, OCERS) • No public-sector standard methodology for comprehensive fee reporting • Complies with California Government Code §7514.7
Understanding Total Expense Ratio
4 Net returns = Gross returns – Total expense ratio
Fee type Description Examples
Management fees Fees paid to investment management firms Incentive fees Performance-based fees paid to investment management firms
Operating expenses Costs of administering individual investment vehicles
Audit, tax, legal, custodian
Other expenses Costs incurred at the plan level Staff salaries and benefits, consultants, third party
vendors
Calendar Year 2021 Fees
5 Source: ORS 2021 Fee Report
Values show are in $ millions
Source: ORS 2021 Fee Report
Values show are in $ millions
Total Expense Ratio (Comprehensive) Peer Comparison (ACFR’ s) 6 0.78% 0.68% 0.58% 0.52% 0.51%
0.39%
0.31%
0.35% 0.44%
0.94%
0.12%
0.14% 0.16% 0.15%
0.10%
1.29%
1.13% 1.09% 1.11%
1.55%
-0.10%
0.10%
0.30%
0.50%
0.70%
0.90%
1.10%
1.30%
1.50%
1.70%
2017 2018 2019 2020 2021
Total Fees and OpEx
Management Fees Incentive Fees Operating Expenses Total 2017 2018 2019 2020 2021
11.6% -3.2% 14.1% 14.3% 14.9%
ORS Annual Fee Reports (Comprehensive)
Calendar Year Basis
All 4 ORS plans aggregated
(Federated and Police & Fire Pension and Health Care Trusts) 2017 2018 2019 2020 2021
8.8% 6.4% 4.3% 3.2% 27.2%
Public Plans Database (from ACFRs)
Fiscal Year Basis
46 diversified U.S. Public Plans $3-10 B & CA Public Plans All 4 ORS plans aggregated
San Jose
Plan Return
Source
Time Period
Data Points
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
2017 2018 2019 2020 2021
Reported Expense Ratio Over 5 Years
ACERA
ACERA
ACERA
CalPERS
CalSTRS
CalPERS
ORS
ORS
CCERA
ORS
OCERS
CCERA
ACERA
CalPERS
CalSTRS
CCERA
CalPERS
CalSTRS
OCERS
ORS
CalSTRS
OCERS
CCERA
CalSTRS
CalPERS
ACERA
OCERS
CCERA
ORS
OCERS
Calendar Year 2021 Management and Incentive Fee Ratios
7 Fed Pension P&F Pension Combined Pensions
Source: ORS 2021 Fee Reports
Indirect fund operating expenses not shown (Fed Pension: 0.11%, P&F Pension: 0.10%, Combined: 0.10%)
0.54%
1.02%
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
1.60%
1.80%Fee Ratio
Management Fees Incentive Fees
0.53%
1.03%
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
1.60%
1.80%Fee Ratio
Management Fees Incentive Fees
0.53%
1.02%
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
1.60%
1.80%Fee Ratio
Management Fees Incentive Fees
Active vs. Passive average allocations in 2021
8 Source: ORS 2021 Fee Reports
Active includes all non-passive investments (active, hedged, private) Fed Pension P&F Pension Combined
Active
53%
Passive
47% Active
56%
Passive
44% Active
55%
Passive
45%
Active vs. Passive Management Fees
9 Combined
Source: ORS 2021 Fee Reports
Active includes all non-passive investments (long only active, hedged, private) Charts only represent fund management fees, not incentive or fund operating expenses
Management Fee Ratio Trend*
10 Source: ORS, State Street, BNY Mellon
* Projections are based on many assumptions with a wide margin of error. Actual fund management fees will vary as the composition of underlying funds and fund types changes over time Projections calculated by multiplying the calendar year 2021 fee ratios for each fund type within an asset class by actual December 31, 2021 allocations Charts only represent fund management fees, not incentive or fund operating expenses Fed Pension P&F Pension Combined
Asset Allocation Targets
11 As of September 30th, 2022
Police & Fire PensionFederated Pension
Source: ORS
Allocation to investment fund types
12 As of September 30th, 2022
Police & Fire PensionFederated Pension
Source: ORS, BNY Mellon
Appendix
13 Glossary of Terms
14 • Active strategies: Funds that attempt to outperform an index • Asset allocation: Distribution of assets across a number of asset classes that each exhibit a unique combination of risk and expected return. Asset allocation is the most important determinant of long-term plan performance
• Hedged strategies: Investments that generally seek to achieve a return regardless of market direction • Gross returns: Returns before the deduction of expenses • Incentive fees: Performance-based fees paid to individual investment management firms. Incentive fees are a form of shared economics. Also known as “carried interest” • Management fees: Asset-based fees paid to individual investment management firms • Net returns: Returns after the deduction of management fees, incentive fees, and operating expenses • Operating expenses: Costs of administering individual investment vehicles (not the retirement plans) • Other expenses: Costs incurred at the plan level (staff, consultants, third party vendors, etc.) • Passive strategies: Investments that intend to match the return of an index • Private strategies: Investments in illiquid assets such as privately held companies or real estate • Total expense ratio: Total expenses (sum of management fees, incentive fees, and operating expenses) divided by average plan assets
Source: Meketa InvestmentGroup
1 Expected return assumptions for 1) Bonds equals the yield of the ten-year Treasury plus 100 basis points, and 2) Equities equals the dividend yield plus the earnings yield of the S&P 500 index (using the inflation-adjusted trailing 10-year earnings). Probability calculation is for the subsequent tenyears.
Asset Allocation Considerations
15 Asset Allocation Considerations
16 Fed Current P&F Current 60/40
(%) (%) (%)
Expected Return 20 years1 8.3 8.1 7.0
Standard Deviation 1 14.1 13.3 11.0
Probabilityof Achievingat leasta 6.625%Return
1 Year 54.7 54.3 51.1
3 Years 58.1 57.4 51.9
5 Years 60.4 59.5 52.5
10 Years 64.5 63.2 53.5
20 Years 70.1 68.4 55.0
Worst Case Returns2
1 Years -19.8 -18.6 -15.7
3 Years -8.9 -8.3 -6.8
5 Years -5.3 -4.8 -3.9
10 Years -1.5 -1.2 -0.8
20 Years 1.2 1.4 1.4
U.S. Equities decline 25% -18.6 -17.0 -14.9
U.S. Equities decline 40% -28.5 -26.1 -25.3
1 Expected return and standard deviation are based on Meketa Investment Group’s Interim 2022 Annual Asset Study and reflect our 20-year expectations. Returns for periods longer than one year are annualized. 2 “WorstCase” return projections encompass 99% of all possibleoutcomes.
Source: Meketa InvestmentGroup
Plan Return History
17 Source: Meketa InvestmentGroup
10years 10 years 10 years 10 years 10 years 10 years 10 years 10 years 20 years 20 years 20 years 20 years 20 years ending ending ending ending ending ending ending ending ending ending ending ending ending 1/31/94- 6/30/22 12/31/21 6/30/21 12/31/20 6/30/20 12/31/19 6/30/19 12/31/18 6/30/22 12/31/21 6/30/21 12/31/20 6/30/20 6/30/22 San Jose Federated City Employees'
Retirement System
6.3% 7.6% 6.4% 5.9% 5.5% 5.5% 6.5% 6.0% 6.2% 6.6% 6.3% 5.7 % 4.9% 6.8% Federated Policy Benchmark
Federated Investable Benchmark Portfolio
6.6%
6.0%
8.1%
7.5%
6.9%
6.3%
6.2%
5.7%
6.4%
5.4%
6.3%
5.4%
7.2%
6.3%
6.7%
6.0%
6.4% 6.8% 6.7% 6.0% 5.0% 7.0%
San Jose Police & Fire Department
Retirement Plan
6.4% 7.9% 6.9% 6.3% 6.2% 6.3% 7.2% 6.8% 6.4% 6.8% 6.6% 6.0% 5.3% 8.3% Police & Fire Policy Benchmark 6.4% 8.0% 7.1% 6.7% 6.7% 6.8% 7.7% 7.2% 6.4% 6.8% 6.6% 6.1% 5.3% Police & Fire Investable Benchmark Portfolio 6.2% 7.8% 6.9% 6.9% 6.3% 6.5% 7.3% 6.9% 6.4% 6.8% 6.4% 5.7% 5.3% DB Plans >$1 Billion Net Peer Universe 7.6% 9.7% 8.2% 7.9% 7.8% 8.1% 9.0% 8.2% 6.8% 7.4% 6.8% 6.2% 5.4% 7.3% Number of Plans 57 68 72 73 64 59 65 151 42 50 56 53 48 22