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HomeMy WebLinkAboutApproved Minutes - November 14, 2019Finance Committee Meeting Minutes November 14, 2019 Page 1 of 7 CITY OF NEWPORT BEACH FINANCE COMMITTEE NOVEMBER 14, 2019 MEETING MINUTES I. CALL MEETING TO ORDER The meeting was called to order at 3:03 p.m. in the Crystal Cove Conference Room, Bay 2D, 100 Civic Center Drive, Newport Beach, California 92660. II. ROLL CALL PRESENT: Mayor Pro Tem/Chair Will O’Neill, Council Member Diane Dixon, Council Member Joy Brenner, Committee Member William Collopy, Committee Member John Reed, Committee Member Joe Stapleton and Committee Member Larry Tucker ABSENT: None STAFF PRESENT: City Manager Grace K. Leung, Finance Director/Treasurer Dan Matusiewicz, Deputy Director/Finance Steve Montano, Budget Analyst Amy Mayfield, Administrative Manager Angela Crespi, and Theresa Schweitzer Senior Accountant OTHER ENTITIES: Jayson Schmitt, Chandler Asset Management MEMBERS OF THE PUBLIC: Jim Mosher and Michael Manniello III. PUBLIC COMMENTS None IV. CONSENT CALENDAR MINUTES OF OCTOBER 10, 2019 Recommended Action: Approve and file. Committee Member Collopy corrected the minutes of October 10, 2019, Page 6, Section F which states “Committee Member Collopy would like to review the Reserve Policy (F-2).” should read “Committee Member Collopy requested a review and rationalization of the reserves”. Chair O’Neill reported Jim Mosher had modifications requested for his comments. MOTION: Committee Member Collopy moved to approve the modification to the minutes and Committee Member Tucker seconded. The motion carried 7 ayes – 0 noes. V. CURRENT BUSINESS A. PRELIMINARY PENSION FUNDING RECOMMENDATION – FISCAL YEAR 2020-21 Summary: Staff will update the committee with the latest information regarding pension actuarial valuations and CalPERS capital market assumptions. Recommended Action: Receive and file. Finance Committee Meeting Minutes November 14, 2019 Page 2 of 7 Chair O’Neill noted that Huntington Beach has a new City Manager and in a recent meeting projected that their unfunded liability payments will double by the end of the next decade. Finance Director/Treasurer Dan Matusiewicz presented the preliminary pension funding recommendation. He advised the discount rate is being phased in over three (3) years from 2016 through 2018 and as the discount rate goes down, the accrued and unfunded liability goes up. The City’s unfunded liability did increase but assets also increased at a slightly higher rate so the overall funded status improved. In response to Council Member Dixon’s inquiry, Finance Director/Treasurer Matusiewicz clarified that the new unfunded liability number as of 2018 is $333 million but that number will start to come down with the additional discretionary payments (ADPs) through 2020. In response to Committee Member Tucker’s inquiry, Finance Director/Treasurer Matusiewicz was unable to advise how many other cities are making ADP payments. In response to Committee Member Collopy’s inquiry, Finance Director/Treasurer Matusiewicz advised that for some local agencies, the Unfunded Accrued Liability (UAL) is on their balance sheet with Orange County and only a line item of pension expense will show in the local agencies’ operating budget. He cited an example of when another City contracts with the Sherriff’s Department, their UAL appears low. Chair O’Neill suggested the committee look at each City and review what they pay for public safety out of their General Fund budget for comparison. He further explained that some of the cities are using approximately 50% of their General Fund budget to pay for public safety due to the UAL. Finance Director/Treasurer Matusiewicz reported that Newport Beach is paying the least amount of interest in comparison with other cities. He expressed concern that accrued liability is increasing at a rate of 6.6% and the General Fund has only grown by 3.4% and is becoming more leveraged against the City’s pension plan and expects that to widen over the years. In response to Chair O’Neill’s inquiry, Finance Director/Treasurer Matusiewicz advised the accrued liability is increasing rapidly due to the reduction in the discount rate. He also stated the maturity of the plan is another reason since there are more people in retirement than in the actual workforce. Committee Member Collopy advised that new city's actuals appear to be increasing. Finance Director/Treasurer Matusiewicz noted the accrued liability trend since 2007 has not deviated much from 6.5% - 6.7% through this year, but he anticipates it will taper. In response to Chair O’Neill’s inquiry, Finance Director/Treasurer Matusiewicz advised accrued liability does not reflect of employee contribution offsets. He expressed concern for other cities whose accrued liability is increasing at a high rate relative to their ability to fund the liability. Finance Director/Treasurer Matusiewicz reported that the City’s accrued liability grew at the lowest rate of 4% from 2017 to 2018. He reported the accrued liability is almost five (5) times the City’s annual revenue stream so if a 10% loss of the portfolio occurs, it will represent 50% of annual revenues. He advised that 72% of the accrued liability is associated with retirees and currently active employees are supporting a larger portion of the retirees. In response to Council Member Dixon’s inquiry, Finance Director/Treasurer Matusiewicz advised that a mature plan will have an active support ratio above 60-65%. He noted the average plan has an active support ratio of 125% of active employees to retirees. Chair O’Neill clarified that the normal costs are supposed to offset active employee’s future liabilities. Finance Director/Treasurer Matusiewicz stated that some City employees are paying more than 100% of the normal cost of their benefit. Finance Committee Meeting Minutes November 14, 2019 Page 3 of 7 In response to Chair Collopy’s inquiry, City Manager Leung advised all of CalPERS earnings are assumed at a 7% discount rate. In response to Chair Collopy’s inquiry, City Manager Leung advised when CalPERS brings the discount rate down to 6%, the contribution will grow. Council Member Dixon suggests adding the impact and effects of AB 5 as it will mitigate outsourcing. City Manager Leung advised staff is currently analyzing the City’s contracts to determine the impacts of AB 5. Finance Director/Treasurer Matusiewicz reported that pension tiers are averaging 5% turnover per year from classics to PEPRA. He advised that there is a plan to pay down the losses of 2008, assuming all future actuarial assumptions are being met, but there still is a lot of catching up to do. Finance Director/Treasurer Matusiewicz presented the CalPERS Expected Risk and Return Estimates prepared by Wilshire Consulting in which they suggest an expected return of 5.9% for ten years with the subsequent projected at 7.23%, which will average out. He advised that 68% of all investment results can vary 11.51% from the mean expected return of 7% in any one year resulting in an experience loss of approximately $83 million and the City will need to develop a plan to deal with those potential loses. Finance Director/Treasurer Matusiewicz advised that with CalPERS’ target asset allocation of 50% to Global Equity, 13% to Real Assets, 28% to Fixed Income, 8% to Private Equity and 1% to Liquidity, it is hard to imagine a path forward that would produce an investment return that meets the 7% target return. In response to Finance Director/Treasurer Matusiewicz’s inquiry, Jayson Schmitt, Executive Vice President, Portfolio Manager at Chandler Asset Management advised there were some optimistic forecasts within the next five (5) years and provided several scenarios of asset blends. He feels that Global Equity could do better than Private Equity and the big hole in this scenario is the interest rate. Finance Director/Treasurer Matusiewicz advised that CalPERS’ capital market assumptions reported that Private Equity is the only class they are assuming will earn more than 7%. In response to Council Member Dixon’s inquiry, Finance Director/Treasurer Matusiewicz advised that CalPERS’s investment in Private Equity is limited to 8% of their portfolio. Chair O’Neill noted there is a path forward but it is difficult to see in the near term. Finance Director/Treasurer Matusiewicz reported that if CalPERS changed their discount rates altogether, the City would incur a UAL of $134 million based on the sensitivity analysis, which would be approximately an additional $14 million per year over 20 years. He presented a worksheet that provided scenarios of prefunding the losses including repayment terms. Committee Member Tucker noted the concession here is that the rates of returns are a different world than the late 1990s and suggested operating on an assumption of a 6.1% discount rate and contributing at a fixed number to provide a buffer. Finance Director/Treasurer Matusiewicz suggested operating on an assumption of a 6.1% discount rate for the next five (5) years. In response to Committee Member Tucker, Finance Director/Treasurer Matusiewicz advised the City is not bound to that timeframe and it is self-imposed. Finance Director/Treasurer Matusiewicz noted that one of the problems is that the UAL will start to accumulate which would put the City back to square one in ten years. In response to Committee Member Tucker’s inquiry, Finance Director/Treasurer Matusiewicz stated the $35 million of annual payments takes care of the UAL that has already accrued but the City needs to plan for future losses. Council Member Dixon stated that it is an insurance policy and if it is not needed, it is money in the bank. Finance Committee Meeting Minutes November 14, 2019 Page 4 of 7 Finance Director/Treasurer Matusiewicz noted that $5 million to add to the budget is no small feat and there is a $5 million surplus available this year, but the City would have to start pulling revenue off the table that might otherwise go to community projects or community programs. In response to Chair O’Neill’s inquiry, Finance Director/Treasurer Matusiewicz confirmed there is a $10 million surplus this year. Chair O’Neill explained his thought process is that the City would pay the $35 million and an additional $2 million per year to cover the UAL and the 1% loss within this coming year would be covered by the $5 million surplus. He would rather put the $5 million into a restricted fund reserve and use that to pay the $2 million for this year and future years. He explained that he is concerned about not knowing what future budgets will look like and what the needs of the City will be in those years and beyond. Committee Member Stapleton stated that by putting $5 million in reserves, it is 7% that is not being paid. In response to Committee Member Stapleton’s inquiry, Finance Director/Treasurer Matusiewicz confirmed it would be dollar-cost averaging and would not start until July 2020. In response to Committee Member Tucker’s inquiry, Finance Director/Treasurer Matusiewicz clarified the payment would be applied against the loss basis. He further clarified this process sets aside funding for future obligations and pays off past UALs going forward. In response to Committee Member Tucker’s inquiry, Finance Director/Treasurer Matusiewicz confirmed this scenario will reset the minimum payment. He advised the payment could be applied to the longest base that will give the most bang for the buck and the shortest base that brings down the minimum payment. He also clarified for Committee Member Tucker that the minimum payment will come down quicker and the City will pay less down the road. Finance Director/Treasurer Matusiewicz reported that CalPERS finished 2019 with 6.7% investment return and there will likely be some liability gains since inflation was less than assumed. He referenced the amortization schedule in the staff report for a review of the various Anticipatory Prefunding Options (APOs). He also clarified the payment would re-amortize every year. He also noted it would be cheaper to start paying now than to wait. Committee Member Collopy stated it is right to review this item before the budget discussion. He feels that allocating $9 million in ADPs each year is fundable and gets the City back to 14 years at 6.1%. Chair O’Neill stated it is a critical balance between the short term and the long term. He expressed concern that the City has already made a commitment to pay past UALs and does not want to make another commitment to hedge against future costs when the City has ongoing expenses. Committee Member Stapleton stated that if the City does not have the money next year don’t make the discretionary payment. Committee Member Tucker stated there is no scientific reason to take this approach. Council Member Dixon stated there is $1 million in homeless related expenses this year for which the City did not budget for last year. Chair O’Neill noted that $5 million does go along way for those expenses and there is an unbudgeted amount in the current budget. Finance Director/Treasurer Matusiewicz just does not want to lose sight of UAL. Chair O’Neill recommends this item be evaluated year after year. Finance Director/Treasurer Matusiewicz reminded the Finance Committee this is preliminary. Council Member Dixon stated the City needs to balance long-term obligations and for the last five (5) years the City has been on a solid path forward to pay the UAL down. Committee Member Stapleton clarified for the record that the ADP will remain at $35 million and an additional $5 million may be included this year. Finance Committee Meeting Minutes November 14, 2019 Page 5 of 7 In response to Committee Member Stapleton’s inquiry, Finance Director/Treasurer Matusiewicz advised that new development would incur development fees and property taxes that will assist with the surplus. Finance Director/Treasurer Matusiewicz would consider using some contingency reserves if necessary to keep up on the ADPs but recommends the Committee review the payment strategy annually. Chair O’Neill called for public comments and hearing none, closed the public comments. MOTION: Chair O’Neill moved to approve the recommendation that the surplus $5 million be used to pay Unfunded Pension Liabilities in the next fiscal year budget and Committee Member Collopy seconded. The motion carried 7 ayes – 0 noes. At 4:04 p.m., Committee Member Stapleton stepped out of the meeting. B. INVESTMENT POLICY REVIEW Summary: Staff and/or one or more investment advisors will discuss the City’s investment policy’s conformance to the overall objectives of preservation of principal, liquidity and return, and its relevance to current law and financial and economic trends. Recommended Action: Receive and file. In response to Council Member Dixon’s inquiry, Deputy Director/Finance Steve Montano advised that a glossary was not previously included in the policy. In response to Committee Member Tucker’s inquiry, Deputy Director/Finance Montano clarified that there are additional terms in the recommended glossary of investment terms than are in the policy. Committee Member Tucker suggested the glossary should be for overall financial policies. At 4:07 p.m., Committee Member Stapleton returned to the meeting. Finance Director/Treasurer Matusiewicz noted that if the policy were to be reviewed for certification, a glossary would be required. City Manager Leung suggested the glossary be reviewed and terms that were not needed be removed. In response to Chair O’Neill’s inquiry, Deputy Director/Finance Montano clarified the recommendation to remove the restriction on purchasing securities rated A1 and/or A+ that are on negative watch is needed because it does not allow for investing in a security with a credit rating that is lower than what is currently allowed by government code. Additionally, he advised there could be high quality securities that have a strong prognosis for recovery and gives investment advisors greater flexibility to invest. Committee Member Collopy clarified it could be a situation where an A security drops to a BBB which is still high quality and suggested that if that should happen, the City’s investment advisors should be obligated to communicate that immediately. In response to Committee Member Tucker’s inquiry, Mr. Schmitt, Chandler Asset Management, advised the maximum position that can be taken on any security is 5%. In response to Committee Member Tucker’s inquiry, Mr. Schmitt cited the example of purchasing IBM securities while it is acquiring another company as a reason to purchase securities that are on a negative credit watch. Committee Member Tucker suggested that a negative credit watch be defined more clearly. Mr. Schmitt clarified that being on a negative credit watch indicates the rating agencies have determined the security is going to have a different credit profile. City Manager Leung feels that the subsequent paragraph to this term Finance Committee Meeting Minutes November 14, 2019 Page 6 of 7 helps explain the change. Chair O’Neill noted that it needs to be clear when it is being forwarded to City Council to explain the change. Chair O’Neill called for public comments and hearing none, closed the public comments. MOTION: Committee Member Stapleton moved to approve the recommendation for City Council approval and Committee Member Collopy seconded. The motion carried 7 ayes – 0 noes. C. INVESTMENT PERFORMANCE REVIEW Summary: Staff and/or one or more investment advisors will describe the performance of the City's investment portfolio. Recommended Action: Receive and file. Mr. Schmitt provided an overview of the performance of the City’s investment portfolio. He noted that Chandler Asset Management’s standards for the portfolio are safety, liquidity, and yield with the benchmark being the 1-3 year U.S. Treasury benchmark. Additionally, he noted they purchase high-quality fixed income securities that conform to City policies and California Government Code (CGC). He also noted the maximum maturity of any security in the portfolio is five (5) years. Mr. Schmitt reported the average maturity of the portfolio is two (2) years, the average purchase yield of the portfolio is 2.23% and the average market yield is 1.69%. He clarified that as of July 31, the average yield to maturity of the portfolio was at 2.09% due to falling interest rates. He reported the portfolio has an AA+ rating with a value of $220.1 million and has increased in value. Mr. Schmitt presented an overview of the portfolio by security type and noted the majority of the portfolio is in U.S. Government Securities. In response to Committee Member Tucker’s inquiry, Mr. Schmitt advised that none of the securities in the portfolio dropped below an A credit rating. He also clarified that Chandler uses a compliant system that looks at the portfolio’s securities on an ongoing basis and if a specific security falls below the minimum criteria set in the policy, they are required to call the client and inform them in writing. At 4:17 p.m., Council Member Dixon left the meeting. Mr. Schmitt reported on the quality and duration distribution and noted the portfolio earned 1.1% versus the benchmark of 1.03%. In response to Committee Member Tucker’s inquiry, Mr. Schmitt clarified that modified duration is the duration of the portfolio and the portfolio’s sensitivity to interest rates. He also clarified there is Macaulay duration, modified duration, and effective duration. He explained that modified duration takes into account the compounding on a semi-annual basis whereas the Macaulay duration doesn’t take that into account. Lastly, he reported that on October 31 the total portfolio was valued at $225.4 million. In response to Committee Member Stapleton’s inquiry, Mr. Schmitt clarified that consolidating to one asset manager helps Chandler understand the total portfolio and helps segment the cash portion to ensure it is allocated properly. He also noted consolidation brought the fees down. Finance Director/Treasurer Matusiewicz noted it also helps with managing the liquidity and staff time in doing so. In response to Committee Member Stapleton’s inquiry, Mr. Schmitt clarified that Chandler is managing approximately $19 billion within California with 80% being government agencies and other large hospital systems.