## Asset Allocation and Projected Returns

### Summary of Findings:

- Shift in asset allocation: There has been a significant decrease in the allocation to traditional asset classes like public equities and fixed income, with a corresponding increase in alternative assets such as private equity, real estate, and hedge funds.
- Preference for higher-risk investments: The shift
toward alternative assets reflects a growing preference for higher-risk, higher-reward
investments to meet challenging return targets.
- The allocation to public equities and fixed income decreased by a notable percentage, while the share of assets in private equity and other alternatives saw substantial growth.
- State and local pension plans collectively held approximately $5.05 trillion in assets in FY23, marking a significant increase since 2001. A large portion of these assets is now invested in alternative asset classes.

- Higher return targets means higher risk: As the target investment return increases, the probability of failure rises sharply, with a 50% chance of not meeting a 7% return within 10 years and even higher risks at 7.5% and 8.0%.
- Longer investment horizons offer limited risk reduction: Extending the assumed investment period to 20 years significantly reduces the risk for lower return targets but has minimal impact on higher targets, indicating that time alone doesn’t mitigate the risks of ambitious returns.
- Substantial risk even at lower assumptions: Even aiming for a 6.0% return carries a 40% chance of failure over 10 years, showing that pension systems face significant risks even at moderate target returns.

### Asset Allocation

### Figure 13: Evolution of Asset Allocation in Public Pension Funds

This chart analyzes the changes in asset allocation among public pension funds from 2001 to 2023, illustrating the shift in investment strategies over the past two decades. This analysis can be shown nationally or by each individual pension fund.

The data show a significant decrease in the allocation to traditional asset classes, such as public equities and fixed income. In contrast, allocations to alternative assets like private equity, real estate, and hedge funds have increased substantially. This shift reflects a growing preference for higher-risk, higher-reward investments to meet return targets that have become more challenging to achieve in traditional markets. As discussed in the ‘Investment Performance’ section, this gamble has yet to pay off.

In 2001, 89% of pension fund assets were held in public equities and fixed income. However, by 2023, the allocation to these traditional assets had dropped by 27 percentage points to 63%, with alternative assets now comprising a much larger portion of the portfolios. The share of assets in private equity, for example, increased from 4% to 14%, while real estate and hedge funds also saw significant growth.

State and local pension plans collectively possessed approximately $5.05 trillion in assets as estimated in FY23—a 139% increase since 2001. Of that, $2.14 trillion are held in public equities, $1.02 trillion in fixed income, $93 billion in cash, and $1.79 trillion in alternative assets—that is, $695 billion in Private Equity, $529 billion Real Estate, $343 billion Hedge Funds, $133 billion Commodities, and $93 billion in other alternatives.

### All Asset Allocation Data

This table presents data for all pension systems back to 2001 where available, displaying the percentage of total assets allocated to each asset class. Users can search by year, state, and plan, and the chart includes options to download the data for further analysis.

Fiscal Year | Cash | Fixed Income | Public Equities | Real Estate | Hedge Funds | Private Equity | Commodities | Alternatives | Other |
---|---|---|---|---|---|---|---|---|---|

2023 | 1.83% | 20.26% | 42.30% | 10.48% | 6.79% | 13.76% | 2.63% | 1.84% | 0.11% |

2022 | 2.20% | 20.56% | 41.42% | 10.83% | 6.53% | 13.87% | 2.48% | 1.70% | 0.41% |

2021 | 2.11% | 21.80% | 47.19% | 7.89% | 5.65% | 11.29% | 2.08% | 1.65% | 0.35% |

2020 | 2.22% | 23.56% | 46.42% | 8.61% | 6.29% | 9.42% | 2.02% | 1.34% | 0.11% |

2019 | 1.81% | 23.25% | 47.01% | 8.71% | 6.88% | 9.13% | 1.91% | 1.26% | 0.05% |

2018 | 1.78% | 22.48% | 48.11% | 8.35% | 7.17% | 8.89% | 1.77% | 1.20% | 0.24% |

2017 | 1.99% | 21.76% | 49.50% | 8.31% | 7.07% | 8.42% | 1.64% | 1.10% | 0.22% |

2016 | 1.72% | 22.74% | 48.50% | 8.76% | 6.98% | 8.49% | 1.50% | 1.14% | 0.19% |

2015 | 1.86% | 22.02% | 50.10% | 8.09% | 6.89% | 8.40% | 1.40% | 1.04% | 0.19% |

2014 | 2.20% | 21.42% | 51.53% | 7.61% | 6.45% | 8.45% | 1.27% | 1.02% | 0.06% |

### Return Rate Probability

This analysis presents the return probability distribution for public pension plans over the next 10 and 20 years. It is derived from target asset allocation data and capital market assumptions provided by the 2024 Horizon Actuarial Services survey, which accounts for expected returns, volatilities, and return correlations across various asset classes. For each pension fund, the expected risks and returns were calculated, followed by 10,000 random simulations to generate the probability distribution of returns for individual funds as well as for the aggregate of all pension funds.

### Figure 14: National Simulated Return Probability Distributions Over 10 and 20 Years

This chart illustrates the simulated probability distributions of average returns for public pension funds over 10-year and 20-year periods. The blue distribution represents the 10-year horizon, while the gray distribution represents the 20-year horizon. The dashed vertical line indicates the national average assumed rate of return (ARR) of 6.89%.

The graph shows that over a 10-year period, the distribution is broader and slightly shifted to the left, indicating higher variability and a lower likelihood of meeting the national average ARR. In contrast, the 20-year distribution is narrower and more centered around the 6.89% ARR, suggesting that over a longer time horizon, pension funds may be more likely to achieve returns closer to their assumptions—and face lower tail-end risks, that is, the risk of achieving extraordinary gains or losses. Historically, however, the longer the time frame of the forecast, the less accurate it becomes.

### Probabilities of Failing to Reach Target Returns

### Figure 15: Likelihood of Not Meeting Target Returns Over 10 and 20 Years National

This chart illustrates the probabilities of public pension funds not meeting various target returns over 10-year and 20-year periods based on the national average target asset allocation. Blue bars represent the 10-year horizon, and gray bars represent the 20-year horizon.

The data show that the likelihood of failure increases as the target return increases. Based on the national average asset allocation, there is a 50% chance that a 7% rate of return will not be reached in the next 10 years. This risk becomes even more pronounced at a 7.5% and 8.0% target, where the probability of failure is around 56%-61% over 10 years and around 54%-61% over 20 years.

Notably, extending the investment horizon from 10 years to 20 years significantly reduces the probability of failure for lower target returns, such as 4.0% and 4.5%, but it has little impact on the higher return targets. This indicates that simply relying on a longer investment period does not sufficiently mitigate the risk associated with aiming for higher returns.

Even at a more moderate target of 6.0%, the chart shows that there is still a 40% chance of not achieving the goal over the next 10 years. This suggests that pension systems aiming for 6.0% to 7.5% returns are taking on significant risk.

Pension systems targeting higher returns, particularly above 6.0%, expose themselves to substantial risk of falling short of their investment goals. The probability of failure is alarmingly high, especially at targets of 7.5% and 8.0%, where the chances of not achieving the goal exceed 50%, regardless of the investment horizon.

### Return Probability Data

This table presents data for all pension systems back to 2001 where available, displaying the probability of pension plans missing a range of investment return assumptions. Users can search by plan, and the chart includes options to download the data for further analysis.

National | ||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|

Plan Name | Horizon | Current ARR | Missing ARR | Probability of Missing 4.0% | Probability of Missing 4.5% | Probability of Missing 5.0% | Probability of Missing 5.5% | Probability of Missing 6.0% | Probability of Missing 6.5% | Probability of Missing 7.0% | Probability of Missing 7.5% | Probability of Missing 8.0% |

National | 10 Years | 6.89% | 48.49% | 21.05% | 25.23% | 29.82% | 34.50% | 39.56% | 44.62% | 49.76% | 55.64% | 60.68% |

National | 20 Years | 6.89% | 44.32% | 10.35% | 14.26% | 19.00% | 25.09% | 31.47% | 38.20% | 46.05% | 53.56% | 61.21% |