HomeMy Public PortalAboutDeferred Comp 2008 4th Quarter ReportMetropolitan St. Louis Sewer District
457 Deferred Compensation Plan
NEPC, LLC
One Main Street, Cambridge, MA
02142
Tel: 617-374-1300 Fax: 617-374-
1313
www.nepc.com
CAMBRIDGE I CHARLOTTE I
DETROIT
LAS VEGAS I SAN FRANCISCO
Registered Investment Advisors
4th Quarter 2008
Investment Performance Analysis
February 2009
Doris Ewing, CAIADoris Ewing, CAIA
PartnerPartner
Michael J. ValchineMichael J. Valchine
ConsultantConsultant
Dion StevensDion Stevens
Consultant Consultant
Carrie JohnstonCarrie Johnston
Analyst Analyst
11
Industry Headlines
• The Investment Company Institute (ICI) reports that only 3 percent of participants stopped
contributions in 2008.
• They also report that fewer than one in seven participants changed the asset allocation of
their account balances, and fewer than one in ten changed their deferral elections.
• In other news, suspended payments to 401(k) plans were announced by Sears, GM, Ford,
FedEx, Denver Post, Motorola, Unisys, Saks and others.
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A Year to Remember…or Forget?
2008 Notable Events
• Economic Stimulus Act of 2008
• Bear Stearns bailout
• Oil prices hit record highs ($147.30/barrel)
• Freddie and Fannie taken into conservatorship
• Lehman files for bankruptcy; Merrill acquired by Bank of America
• AIG taken over by government
• WaMu enters receivership, taken over by JP Morgan
• $700 Billion Troubled Asset Relief Program
• Federal Funds Target Rate lowered to a range of 0.00% - 0.25%
• Presidential Election
• Oil prices end year at $43.55/barrel
• Almost 2.6 million jobs were lost in 2008, with 1.9 million disappearing in the
past 4 months (7.2% unemployment rate nationally)
Source: NEPC
Source:Bloomberg
2008 Domestic Stock Market:
The S&P 500 Index
33
2008: The Year in Review
44
• Global recession persists into 2009
– Deleveraging process will continue
– Recovery may not follow past patterns
• Just like the recession, we may not recognize the upturn until some time
has passed
– There is a small but credible risk of a long-term deflationary spiral
• Volatility will continue
– Markets need to assess the emerging financial capital and governance
landscape
– Low short term inflation expectations, with risk of deflation
– Longer term risks of high inflation
• Unprecedented global central banks’ actions to generate liquidity
– Regulation of markets will increase, bringing some benefits but more frictional
costs
– Long term weakening of US Dollar may be matched by other currencies
• As markets stabilize, opportunities for attractive returns will be available
– Providers of liquidity and patient capital will be in the best position to capitalize
– Fundamentals will matter once again
– Future-looking risk premiums should be the highest in decades, but are
unlikely to recover 2008 losses for many years
2009 NEPC Capital Market Observations & Expectations
555
2009 General Actions for Clients
• Position for opportunities but size risk positions appropriately
– High forward-looking risk premiums are attractive in most assets
– Pricing of potential rebound in credit looks attractive relative to the upside in
equity
– Allocate to strategies most likely to capitalize on return to fundamentals –
skilled traditional and alternative managers and credit opportunities
– Consider strategies with lock-ups to protect capital flight
• Consider broader risks of the total investment program
– Examine portfolio performance under different economic scenarios and tilt
allocation to better protect capital in unfavorable environments
– Where appropriate, allocate to interest rate and/or inflation sensitive securities
to better match liabilities or spending needs
• Prepare for continued market volatility
– Rebalance towards targets, but consider the tradeoffs of high transaction
costs
– Dollar-cost average to mitigate market timing risk
– Consider strategies with broad diversification that can stabilize returns in
uncertain environments – risk parity and global asset allocation
• Assess liquidity needs and commit capital accordingly
– Balance long-term investment opportunities with near-term spending needs
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2009 Focused Actions for Defined Contribution Clients
• Wholesale plan design changes are not required
– Target date funds are still the answer
– There is still a place for active management
– Capital preservation and fixed income products are not without risk
– Inflation protection and guaranteed income solutions are the next horizon
• Anticipate a changing regulatory environment
• In the meantime, continue to…
– Reinforce the importance of savings: save more, save early, diversify
– Implement Auto-Features
• Auto-Enrollment
• Auto-Escalate
• Auto-Rebalance
– Invite your record keeper in for employee meetings
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Asset Summary
8
Performance Summary
Plan default: Vanguard Money Market Auto-enrollment: No
Auto-increase: N/A
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NEPC Quarterly Observations
Vanguard U.S. Growth
Vanguard Mid Cap Index
Vanguard Small Cap Index
WYVanguard International Growth
YVanguard LifeStrategy Income
Y
Vanguard LifeStrategy Conserv
Growth
Y
Vanguard LIfeStrategy Moderate
Growth
Vanguard 500 Index
Investment Options
Changes/
Announcements
Performance
Concerns
DD Committee
Recommendation
Plan Specific Action
Taken
Lifecycle Options
Vanguard LifeStrategy Growth Y
Core Options
Vanguard Federal Money Market
Y: All MM funds
on Watch W
Vanguard Retirement Savings
Trust
Y: All SV funds
on Watch W
Vanguard Total Bond Market Idx
Vanguard Balanced Index
Vanguard Windsor II
This quarter, NEPC has re-categorized the “Monitor” rating to “Watch.” This was done in order to
be consistent with our internal NEPC Due Diligence Committee (“DD Committee”) categories.
NEPC Due Diligence Committee Recommendation Key
No Action “NA” Informational items have surfaced; no action is recommended.
Watch “W” Issues have surfaced to be concerned over; manager can participate in future searches, but current
and prospective clients must be made aware of the issues.
Client Review “CR” Serious issues surface with an Investment Manager; manager cannot be in futures searches unless a
client specifically requests. Current clients must be advised to review the manager.
Terminate “T” Serious issues surface with an Investment Manager; manager would not be recommended for
searches and clients would be discouraged from using. The manager cannot be in futures searches
unless a client specifically requests. Current clients must be advised to replace the manager.
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NEPC Quarterly Observations
Changes/AnnouncementsChanges/Announcements
Vanguard Federal Money Market
• Vanguard announced in December 2008 that their money market funds are
participating in the extension of the Treasury Guarantee Program until April 30, 2009.
Vanguard stated that trustees of the funds made the decision to continue participating
in the program because they believe that it has helped to stabilize the credit markets, to
the benefit of investors in all money market funds.
• Please see the Fund Profile page for facts about the product and how it is currently
invested. All Money Market Funds are on “Watch” at NEPC.
Vanguard Retirement Savings Trust
• Please see the Fund Profile page for facts about the product and how it is currently
invested. All Stable Value Funds are on “Watch” at NEPC.
Vanguard International Growth:
• NEPC issued a Client Review recommendation on Vanguard International Growth in
2004 following a string of weak performance years for the Fund and Vanguard’s move
to a multimanager approach. In 2003, Baille Gifford was appointed to manage 20% to
25% of the Fund’s assets, while Schroder Investment Management continued to
manage the remainder. Over the following years, Baille Gifford’s share of the Fund has
risen to almost 40%. In March of 2008, M&G Investment Management Limited was
added as a sub-advisor, with a modest 2% allocation. NEPC holds a “Watch” rating on
the Fund in light of past performance shortfalls and sub-advisor changes.
Vanguard LifeStrategy Funds
• The LifeStrategy Funds have lagged their custom benchmarks across all time periods.
Recall the LifeStrategy funds are risk-based, funds of Vanguard funds that use both
active and passive management. The primary contributor to the underperformance of
the LifeStrategy Funds versus their benchmarks was active management, specifically
the Vanguard Asset Allocation fund. This is a tactical asset allocation fund that was
invested 100% in equities for most of 2008 whereas its custom benchmark maintained
a static asset allocation of 65% equities and 35% bonds (each of the LifeStrategy
Funds' benchmarks is also static with a fixed allocation to stocks, bonds, and cash).
The Vanguard Asset Allocation Fund's overweight to equities led each Vanguard
LifeStrategy Fund to be overweight equities relative to its benchmark. Since equity
markets severely underperformed bond markets over recent periods, the equity
overweight was a significant drag on the performance of all of the Vanguard
LifeStrategy Funds.
Performance ConcernsPerformance Concerns
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Style Analysis
The above “snail trail” displays changes to a fund’s style over time as determined by Morningstar’s holdings-
based analysis over the prior three years. The smallest circled plot point represents the furthest period; the
largest circled plot point represents the current period. The number of plot points is a function of the
frequency of each fund’s release of holdings data.
Windsor II
Vanguard 500
US Growth
Small Cap Index
Balanced Index
Mid Cap Index
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Risk Analysis
Russell Midcap
Russell 1000 Value
Russell 1000 Growth
S&P 500
Windsor II
Mid Cap Index
Vanguard 500
US Growth
13
Risk Analysis
MSCI EAFE
Citi PMI EPAC
60/40 S&P 500/LB Agg
LB Agg. Bond
Total Bond
Small Cap Index
LS Moderate Growth
LS Income
LS Growth
LS Conserv Growth
Intl Growth
Balanced Index
Russell 2000
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Fund Profiles
AaaAverage Quality as of
12/31/08:
81 daysAverage Maturity as of
12/31/08:
NStructured Product
Exposure (inc. ABS):
YParticipation in
Treasury Guarantee
program:
7/13/1981Inception:
$1 Valuation as of 2/06/09:
1.20%SEC yield at 2/06/2009:
FAQs
Mutual fundVehicle:
0%Structured Product Exposure
(inc. ABS):
3.7%Other
0%Yankee Foreign:
0%Certificates of Deposit:
0%Commercial Paper:
96.3%US Govt and Agency:
Asset Allocation (as of 12/31/08)
0%Bankers Acceptances:
Vanguard Federal Money Market Portfolio
No separate
communication, but
information is available
through the Vanguard
web page
Provided a suggested
communication to
participants?
1515
Fund Profiles
Vehicle: Pooled Fund
Inception: 1/2/1989
Valuation: MV/BV ratio of 98.67%
Yield 3.74%
Duration: 2.4 years
Total AUM $16.9 Billion
Wrap Providers: RABO
JPMorgan
State Street Bank
AIG
Bank of America
Natixis
Manager's Preferred
Benchmark:
Hueler Stable Value
Pooled Index
Fixed Income
Characteristics
Average Duration: 2.6 years
Average Quality: Aa1
BBB Securities: 0.86%
Below Investment Grade
Securities:
0.53%
Asset Allocation
Traditional Investment
Contracts (GICs, BICs, etc):
10.1%
Constant Duration Contracts
(Synthetics):
79%
Cash Investments: 10.4%
Other: .5%
Vanguard Retirement Savings Trust
•Data as of 12/31/08
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Fund Profiles
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Glossary of Terms & Symbols
•Batting Average - measures a fund’s ability to consistently beat the
market.
•Beta - risk measure based on a comparison of the volatility of the fund’s
returns and the benchmark’s returns.
•Down Capture Ratio - measures a fund’s performance in down
markets. It provides the percentage of a down market that is captured
by the manager.
•Excess Beta - measures a fund’s volatility in excess of its benchmark.
•Excess Return - measures a fund’s return in excess of its benchmark.
•Information Ratio - measures a fund’s performance against risk and
return relative to the benchmark.
•Jensen’s Alpha - a risk adjusted performance measure that represents
the average return of a fund over and above that predicted by the capital
asset pricing model, given the fund’s beta and the average market
return.
•R-Squared - reflects the percentage of a fund’s movements that can be
explained by movements in its benchmark.
•Sharpe Ratio - measures risk adjusted performance of a fund based on
total risk (standard deviation).
•Tracking Error - measures the volatility of a fund’s excess returns
relative to its benchmark.
•Treynor Ratio - measures returns earned in excess of that which could
have been earned on a riskless investment per each unit of market risk.
It measures returns on a risk adjusted basis using systematic risk.
•Up Capture Ratio - measures a fund’s performance in up markets
relative to the market (benchmark) itself.