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HomeMy Public PortalAboutDeferred Comp 2007 4th Quarter ReportMs. Doris EwingMs. Doris Ewing PartnerPartner One Main Street, Cambridge, Massachusetts 02142-1524 (617) 374-1300; F: (617) 374-1313 www.nepc.com 457 Deferred Compensation Plan Executive Summary Fourth Quarter 2007 PerformanceFourth Quarter 2007 Performance January 2008January 2008 Brian DonoghueBrian Donoghue ConsultantConsultant Metropolitan St. Louis Sewer District 1 Fourth Quarter 2007 Summary & Discussion •Market Performance • Global stock markets corrected during the 4th quarter (meaning a drop of 10% or more) – November’s declines were the worst for the major indices in five years – The MSCI World Equity Index ended the quarter with a -2.4% return; the S&P 500 Index ended the quarter with a -3.3% return • The U.S. bond market gained 3% for the quarter and 7.0% for the year; global bonds delivered higher returns because of the falling dollar • Economically, recessionary fears are growing, credit markets around the globe remain under pressure, and stock markets in the major developed markets remain below highs reached in early October 2 Fourth Quarter 2007 Summary & Discussion Asset Commentary • As of December 31, 2007, assets were $27.4 million, down from $27.8 million at the end of last quarter • The top four Plan options account for 57% of total assets – The most prevalent options include Vanguard Windsor II (24%), Vanguard Balanced Index (13%), Vanguard 500 Index (12%) and Vanguard U.S. Growth (8%). Plan Investment Performance • Quarterly fund returns ranged between -6.1% and 3.1% and returns for the year ranged between 16.0% to 1.2% – Vanguard Total Bond Market Index had the highest absolute return for the quarter and was in line with the Lehman Brothers Aggregate Index – Vanguard Windsor II had the lowest return for the quarter – The Vanguard Life Strategy fund returns ranged between -2.0% to 1.3% for the quarter and 6.7% to 7.5% for the year-to-date • Longer-term, most funds remain attractive against the Indexes and peer groups. For the five-year period, all but three funds ranked above median in their peer group. Recommendations and other Comments • Possible 2008 discussion items for MSD to consider: – Consider using a Qualified Default Investment Alternative (QDIA) as the Plan’s default • The Plan’s default is currently the Vanguard Federal Money Market. As we indicated in last quarter’s report, the DOL finalized their QDIA regulations in which they designated lifecycle funds, balanced funds and managed accounts as QDIAs – While QDIA does not technically apply to a 457 plan, NEPC feels utilizing a QDIA as the plan’s default investment option is considered best practice – Consider using Vanguard’s target date retirement funds (lifecycle) in place of the Vanguard Life Strategy (lifestyle) funds • We would be happy to discuss any of the above in further detail. 3 Selected Manager Commentary Selected funds are highlighted below for discussion purposes. Vanguard U.S. Growth • The Vanguard U.S. Growth fund trailed its benchmark Russell 1000 Growth index by 100 basis points in the 4th quarter, ranking in the 66th percentile. One-year, three-year and five-year returns also rank below median. The funds holdings in finance detracted from returns given the continued problems emanating from the subprime crisis. According to Morningstar, the fund held 15.4% of the portfolio in financials as of the end of the year compared to 7.0% for the index. • As we indicated last quarter, AllianceBernstein recently announced the retirement of their CIO of Growth Equities, Paul Rissman. NEPC continues to not recommend any client action as a result of this announcement as the investment teams should not be immediately or significantly impacted. However, we will be monitoring the situation carefully, especially any turnover of investment personnel. Vanguard Windsor II • Vanguard Windsor II trailed its benchmark by 30 basis points last quarter and ranked in the bottom 30% of peers. This fund has five subadvisors but Texas-based Barrow Hanley manages most of the assets (greater than 50%). Contributing to the fund’s near-term under performance is the under weight to energy, which was the top performing sector in 2007. Offsetting the energy under weight was the fund’s slight under weight to financials, which is a significant portion (about 30%) of it index. Longer-term returns rank solidly in the top half of large cap value peers. We remain comfortable with this fund. 4 Key 2008 NEPC Capital Market Expectations • Chance of recession is increasing – Problems that started in subprime will continue to spread – Credit markets remain under pressure – Earnings are likely to soften, including the possibility of a “big bath” quarter – US dollar could swing upward in the short-term, but long-term continued decline is likely • Volatility has returned to the markets – Quick reactions to negative news – “Tail” risk is high -- greater chance of either a very good or very bad year, relative to recent past – Fed bias to delay recession and avoid deflation increases risk of inflation – Uncertain election year can increase instability – Dispersion of manager performance should widen • Prior years’ Actions for Clients positioned clients well during 2007. We continue to advise the following Actions: – Underweight equities in favor of better beta and alternative strategies – Overweight international equities relative to targets – Underweight small cap equities relative to targets – Underweight domestic fixed income in favor of opportunistic fixed income, real return or other strategies 5 Plan Structure Summary Number of Funds in a Plan 19 14 0 4 8 121620 MSD Plan Top Ten DC Funds Offered 1. US Large Cap Equity (92%) 2. US Small Cap Equity (83%) 3. Developed Non-US Eq. (75%) 4. Balanced (71%) 5. US Mid Cap Equity Active (67%) 6. Money Market (67%) 7. LifeStyle/Cycle (58%) 8. US Bond (58%) 9. Stable Value (58%) 10. S&P 500 Index (50%) Your Plan Asset Allocation Versus Average Defined Contribution Plan Source: IOMA’s Annual DC Survey - 2005 MSD Plan 10% 14% 6%5% 13% 7% 12% 6% 33% 19% 12% 7% 4% 6% 4%6%6% 4% 0% 5% 10% 15% 20% 25% 30% 35% 40%Stable ValueBondBalancedLifestyleLarge Cap US Eq.S&P 500 IndexMid US EqSm US EqInt'l EqMSD Plan Average Plan Average Plan 6 Asset Summary 7 Asset Summary 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%Jun-07Dec-07Intl Growth Small Cap Index Mid Cap Index US Growth Windsor II 500 Index LS Growth LS Mod Growth LS Conserv Growth LS Income Balanced Index Total Bond Retirement Savings Money Market Balanced Index 12.6% Windsor II 24.4% US Grow th 8.4% Small Cap Index 3.5% Mid Cap Index 3.7% Total Bond 6.5%Retirement Savongs 5.0%Money Market 5.4% LS Grow th 4.1% Intl Grow th 6.1% LS Income 1.1% 500 Index 12.5% LS Conserv Grow th 1.8% LS Moderate Grow th 5.1% 8 Performance Summary Plan default: Vanguard Money Market Auto-enrollment: No Auto-increase: N/A 9 Risk Analysis Russell Midcap Russell 1000 Value Russell 1000 Growth S&P 500 Windsor II Mid Cap Index Vanguard 500 US Growth 10 Risk Analysis MSCI EAFE Citi PMI EPAC 60/40 S&P 500/LB Agg LB Agg. Bond Total Bond Small Cap IndexLS Moderate Growth LS Income LS Growth LS Conserv Growth Intl Growth Balanced Index Russell 2000 Mid Cap Index 11 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 12 Fund Profiles 13 Fund Profiles 14 Fund Profiles 15 Fund Profiles 16 Fund Profiles 17 Fund Profiles 18 Fund Profiles 19 Fund Profiles 20 Fund Profiles 21 Fund Profiles 22 Fund Profiles 23 Fund Profiles 24 Fund Profiles 25 Fund Profiles 26 Fund Profiles 27 Fund Profiles 28 Fund Profiles 29 Fund Profiles 30 Fund Profiles 31 Fund Profiles 32 Fund Profiles 33 Fund Profiles 34 Appendix • New England Pension Consultants, Inc. (NEPC) uses, as a data source, the plan’s custodian bank or service provider for asset balances, calculation of accruals, transfers, exchanges and contribution deferral information. While NEPC has exercised reasonable professional care in preparing this report, we cannot guarantee the accuracy of all source information contained within. • This report is provided as a management aid for the client’s internal use only. This report does not constitute a recommendation by NEPC. • Information in this report on fund returns, market indices and security characteristics is received from sources external to NEPC. While efforts are made to ensure that this external data is accurate, NEPC cannot accept responsibility for errors that may occur. 35 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.