SDCERS BOARD MEETINGS - December 17-20, 2008
Submitted by Patricia Karnes

Patti's Notes

(I attended the Audit Committee, Business & Governance Committee, and the full Board meeting for these notes. Notes are by subject. They are my understanding of what happened.)
Official CDs of SDCERS' committees and Board meetings are available through the Board Secretary; visual recordings are available through City Channel 24. Full Board meetings are on Channel 24 around 5 or 6pm, usually the third Friday of the month, and usually repeat on Sundays at 1pm.)

STATUS REPORT
· $3.586 billion (unaudited) for November 30, 2008
· $23.3 million for November benefit payments, Corbett, 13th Check, and operating expenses.
· Realized losses (from selling) minus -$56.1 million (unaudited)
Unrealized losses (have not sold) minus -$66l.7 million (unaudited)


MONTHLY FINANCIAL STATEMENTS (audited) for October 2008
Fund Balance as of October 31, 2008 was $4,682,383,121
compared to October 31, 2007 balance of $5,941,604,813.
Total Earnings as of October 31, 2008 were minus -($1,023,213,489)
compared to October 31, 2008 total earnings of positive $188,899,046.

SDCERS Principal Accountant Sara Jimenez  now prepares separate monthly Group Trust Financial Statements for the City, Port and Airport. Assets of the three plan sponsors are apportioned by ratio.
Cash flow varies between the plan sponsors, therefore it is time-waited and coordinated by State Street Bank.
It is now consistent with the CAFR format.

ACTUARIAL VALUATION FOR JUNE 30, 2008
(Note: Many of us were questioning why the City's contribution would go down by millions of dollars, in a down market, lesser investment returns, and with the unfunded liability going up? I hope my pulling together of the data is correct.)

Funded ratio dropped slightly to 78.2% on June 30, 2008, from 78.8% on June 30, 2007. In 2006 the ratio was 79.9%, in 2005 it was 68.2%, in 2004 it was 65.8%, in 2003 it was 67.2%, in 2002 it was 77.3%, in 2001 it was 89.9%, in 2000 it was 97.3%, in 1999 it was 93.2%, and in 1998 it was 93.6%, Gene from Cheiron reported.

****The Board's accumulated decisions made during this last year reduced the City's 2009-2010 annual required contribution by $7.6 million to $154.0 million; (the City's 2008-9 contribution was  $161.7 million). (The City usually pays their annual contribution by July 1st..)

Cheiron pointed out that averaging of past gains resulted in reduced losses. (SDCERS' gains and losses are spread  over years.  Separate layers are added each year to avoid wild swings in the City's annual required contributions.)

Investment losses appear to have added $78.8 million to the unfunded liability by June 30, 2008.The unfunded liability rose in June 30, 2008 to $1,300.7 million, from June 30, 2007's valuation of $1,184.2 million.
Purchase of Service Credits increased the unfunded liability by $1.5 million, when the Municipal Code says it should be cost neutral.
Changes in the economic assumptions seems to have raised it another $129.6 million. And finally, Cheiron noted an "expected change" in the unfunded liability added another $21.6 million.

SDCERS is in the 19th year of a 20 year amortization of the unfunded liability.

The Board's prohibition on negative amortization of the unfunded liability seems to only apply to the interest the City pays on the unfunded liability. In the last year, the Board reduced the expected assumed rate of return, which also reduced the interest the City must pay, on the unfunded liability, from 8% to 7.75%.

If there were no prohibition against negative amortization of interest on the unfunded liability, Gene said the City's contribution, last year, would have been lower by $6.7 million.

Also in the last year,  Cheiron recommended changes in assumption regarding members (length of service, age at death, etc.). When the Board approved Cheiron's recommendations, it seemed to reduce the unfunded liability by $45.8 million.  An extra contribution from City reduced it further by $36.4 million. Other factors, reducing the unfunded liability, were listed as well in Cheiron's presentation slides, available as a handout.

Gene summed up his presentation with stress testing for the future: What are the chances for a particular outcome for SDCERS given various factors for assumptions, contributions and the market? One stress test that he used, with an assumed rate of return of 7.75%, displayed the annual required contribution as peaking at $328.6 million in 2027 and the unfunded liability down to $0.05 million by 2033. However, Gene verbally noted that if the markets mirror 1930-1950, the City's annual required contribution would be $615 million by 2025.

Adding to Cheiron's usual message cautioning SDCERS Board not to over react with short term moves for long term goals, CHEIRON WARNED THE BOARD THAT "DUE TO INVESTMENT CLIMATE, JUNE 30, 2009 (FISCAL YEAR 2011) WILL BE MOST CHALLENGING AND THESE EXTRAORDINARY TIMES MANDATE SOME DISCUSSION IN THE COMING MONTHS". He asked the Board to discuss the market before the next valuation for June 30, 2009.

New Trustee Mark Oemcke inquired about Monte Carlo testing in order to see if long-term goals can be achieved, but Gene was not set up to do that today. Trustee Bill Sheffler noted that a previous SDCERS Board had used static projections at the turn of the century and had not anticipated market drops starting in 2001.

KROLL RECOMMENDATION APPROVED
SDCERS again is on the national forefront of public pension plans, said David Wescoe, SDCERS' Chief Administrative Officer. He noted Mr. Keller, the City's Oversight from the SEC, concurred. This month the SDCERS Board voted to approve the research, on the Kroll recommendation, from the Mayor's Office, the City Council's IBA and SDCERS' administration to hire an outside actuary to audit actuaries whenever SDCERS retains actuaries for more than 5 years. Trustee Peter Preovolos added that this is a critical and important action. Bill Sheffler noted that this is not unusual for SDCERS, as the last actuarial audit was in 2004 by Mercer. (Note: SDCERS has extended Cheiron's contract beyond the initial three years.) For more information, look under Board Rule 7.70 Contracting Policy for Goods and Services below.

REPORTING SDCERS' ASSET VALUES
Wescoe noted SDCERS' responsiveness to market conditions this last month, by providing the quickest monthly updates of SDCERS' assets to the City for inclusion in the City's bond offerings.

1090 CONFLICTS: LEXIN V. SUPERIOR COURT
Some Board members were interested in doing a ground-breaking court case on conflicts when voting.
With the California Supreme Court accepting the Lexin case for consideration, SDCERS' fiduciary counsel, Ashley K. Dunning from Manatt, Phelps, Phillips in Los Angeles, presented 24 pages on the factors in 1090 conflicts. She noted the challenge of the SDCERS Board to vote on a settlement with the City, because the CEO, General Counsel (and others) would need to recuse and be unavailable to advise on SDCERS' defense.
This is seen as crippling the Board's ability.
Is action possible? Trustee Susan Gonick asked if the Attorney General's opinion that a Board is safe regarding 1090 votes, more reliable than a District Attorney's prosecution on 1090 violations?
Dunning went on to say that the California Supreme Court re-reviewed pensions and said pensions are a form of salary. She added that there is great harm in not recusing on contracts.
One of her topics was "How May Public Retirement Systems Continue to Function (Albeit Severely Hampered) In the Wake of Lexin?" She pointed out the time sensitive need for sufficient clarification of exceptions to prohibitions, and the possibility that contracts with plan sponsors may not be able to move forward.

2008 COMPREHENSIVE ANNUAL FINANCIAL REPORT (CAFR)
The 2008 CAFR will be available on SDCERS' web site before December 31st. The printer will have the paper version out in January. Wescoe announced the popular version for members will see new work.
This was the fifth CAFR in two years time. Also the first CAFR on time in years. Wescoe thanked Sara Jimenez, SDCERS Principal Accountant for coming in many Saturdays to complete the CAFR on time. Wescoe was pleased SDCERS has dug out of a backlog of financial reporting.

Mark Hovey, Chief Financial Officer, received the signed unqualified Opinion Letter from outside auditor Macias Gini & O'Connell (MGO).. Management's representation letter is dated December 15th. There were no disagreements, misstatements, or deficiencies.

SDCERS met new national accounting standards. Jim Godsey from MGO did an oral presentation to the Audit Committee after providing them with drafts. MGO's actuary reviewed SDCERS' actuary figures. The Valuation actuary numbers were moved into the CAFR's notes. Godsey and Wescoe noted their discussions about accounting principals.  Godsey added that the CAFR requires an informed reader with a good background in SDCERS' complexity.

Meeting the new standards, Bob Wilson, SDCERS Internal Auditor presented his Status report and 2009 Internal Audit Plan for next year to the Audit Committee. At the full Board Trustee Mark Oemcke asked if the plan was risk-based? Chair of the Audit Committee and independent appointee, Michael Collins said yes. 

INVESTMENT ACTIONS
Wescoe reported securities lending has significant income due to the spread. State Street Bank has strengthened protections.

Board approved hiring CreditSwisse and Stepstone jointly for private equity. A duel approach that is diverse in style.  Fee is % of commitment, not double.

Board approved more than $47,000 for Callan consultants to do a search for 2 or 3 Market Neutrals.

POLICIES ON FRAUD, CRIMINAL ACTS and INTERNAL INVESTIGATIONS
Chief Compliance Officer Roxanne Story Parks received additional suggestions for her drafts of the new policies from the Audit Committee. She noted the importance of due diligence as all SDCERS employees have access to member information. A separate policy would cover Trustees. Parks will be doing staff training as policies are approved.
Mark Sullivan, Chair of the Business and Governance Committee announced his committee would review the draft. The Business and Governance Committee's next meeting is January 15, 2009 at 8:30am. Watch for their agenda if you are interested.

MEMBERS LIVING OUT OF THE COUNTRY
Parks and Wescoe are working on resolving issues of retirees living out of the country.

BOARD RULE CHANGES
Board Rule 7.20- How Trustees make contact with fiduciary counsel.
There were problems when trustees contacted the fiduciary counsel directly and independently. Comment at the Business & Governance Committee noted that trouble arises when one trustee has authority over the whole Board as Vinson and Elkin reported.
In contrast to authority problems at CCDC and SEDC, Elaine Reagan added that CCDC and SEDC had no requirements to report back to the full Board as SDCERS requires.
Reasoning for improvement of this Board Rule: If CEO denies a request for legal services, the Board can override the CEO's denial. Wescoe noted that the Board can fire CEOs, but cannot fire other Trustees.
Sullivan argued that the Board either has confidence in the CEO or not. He was also concerned that the old Board Rule had required past president Preovolos to go to SDCERS an unfair amount of time. Preovolos recommended the rule change for transparency and a good clean up.
Hebrank was concerned about the accumulation of power in a CEO, when the full Board should hold a discussion. Elaine Reagan recommended calling a special meeting in that case.

Board Rule 7.70- Contracting Policy for Goods and Services
This rule update included General Counsel, Elaine Reagan's explanation of the Kroll request: "In the Kroll Report, it was recommended that the Board amend its policy to include a ten-year limitation on continuous service on contracts for actuarial valuation services. The Board has the sole and exclusive authority to determine its hiring practices for the SDCERS actuary. There is no requirement or best practices to change actuaries automatically after a certain number of years. However, as good governance practice, a provision has been added requiring that contracts for the Actuary be re-bid through the RFP process after five years and requiring that SDCERS conduct an audit of the Actuary's service by an independent firm at least every five years should SDCERS retain an actuary beyond five years."
The rule also gave higher authority to the CEO for contracting, more flexibility to staff, and decreased the level of reporting required.
The Board approved 9-2 (Hebrank voting "no") to give higher authority to approve necessary and reasonable expenditures for requests for fiduciary counsel exclusively to the CEO, with back up of General Counsel and Chief Financial Officer. "The Board President's authorization was deleted with any requests over the CEO's authority ($50,000), requiring Board approval. Board President authority is unnecessary as either the CEO, General Counsel or Chief Financial Officer may approve necessary expenditures up to the authority given."
Some Trustees were disappointed that a compromise and clarification of ambiguity was not possible. Sheffler noted that the CEO can hire and fire General Counsel and that the Chief Compliance Officer reports to the Board through the Business and Governance Committee.

Board Rule 1.10- "As part of the Board Rules Project, staff is reorganizing the Board Rules into Charters, Policies, Rules and Resolutions. Rule 1.10 is new. As part of the VCP process, the IRS required that SDCERS designate those Board Rules that are part of the plan document. This Rule provides the groundwork for that process and specifies that Board Rules designated as part of the plan document may not be waived." Approved 11-0

Board Rule 1.00- " These Board Rules are subordinate to the City Charter, the Municipal Code and to any retirement plans established by contracting public agencies." Approved.

Board Rule 2.20- "If the member's designated beneficiary or other legal successor cannot be located, after reasonable and good faith efforts, SDCERS will transfer the deceased member's account to the Undistributed Earnings Reserve after one year has elapsed from the date of death. Any person claiming a right to the funds has the right to appeal this transfer to the Retirement Board." Approved.

Board Rule 12.20 and 12.21 was approved. Former spouses cannot be paid until a member finishes DROP. Makes provisions tax compliant.

The other Board Rules on the agenda were also approved.

LEAVING SDCERS:
Doug McCalla outperformed 94% of pension plans as Chief Investment Officer, announced SDCERS' Chief Administrative Officer, David Wescoe. During Investment comment, Ty Rogers, our Vice President of Advocacy, invited Doug to join our City of San Diego Retired Employees Association. Ty thanked Doug for his years of service at SDCERS, and noted that Doug was CSDREA's first Annual Award winner for his investment achievements. (Last year's winner was former SDCERS Board President Peter Preovolos, for holding the SDCERS Board together in difficult times, and this year's winner was SDCERS' Compliance Officer Roxanne Story Parks for her tax work. Trustee Bill Sheffler also has won with his excellence in explaining numbers.).
A team, trained by Doug, replaces him.

JoAnne SawyerKnoll, the Mayor's representative on the SDCERS Board, has resigned as the Mayor eliminated her job for budget reasons. Jo Anne used her ethics background, depth of judgement and wide perspective to make many good points and assist the Board in avoiding pit falls. Some expect the Mayor to fill this position on the Board in January.

Sheila Jacobs, disability legal counsel, also resigned effective December 19, 2008.
Trustee Bill Sheffler expressed appreciation for her work on Disability Hearings and help on modifications to SDCERS disability process over the last three years.
In the future, her work will be handled by outside counsel firms. Parks will handle processing overpayments, underpayments collections and Public Record Acts.

PLAN SPONSOR'S CONTRIBUTION AUDITS
Internal Auditor Bob Wilson is working on contribution audits of the City, Port and Airport, as well as, SDCERS' General Ledger Financial System project. The Audit Committee approved his work plan for 2009. He reports to the Audit Committee.
Brief discussion on questions regarding reportable salaries for retirement benefits.
Wilson and Legal Division reported on over $300,000 in underpaid contributions to SDCERS from the City in the Canine police cases, Sloan and Lopez vs the City. Trustee Peter Preovolos was concerned about the other 117 officers who were not part of the Sloan case. The City wants to delay reporting correct salaries in order to show why it should not pay, as well as, show why SDCERS was incorrect, to correct the pay, upon which retirement benefits are based. The City said that it did not intend those particular retirement benefits in the past. The City has now discontinued the Canine pay for retirement calculations, and believes their action cancels the past benefit as well. Elaine Reagan is waiting to see the City's argument.
A second case regards a programming error in the City payroll system for 8 firemen who worked 24-hour shifts. Wilson will be going back to payroll documents, not just what the City reported to SDCERS. The cost to the City would be over $90,000.

DROP INTEREST REDUCTIONS for Actives
Cynthia Queen, Membership Services reported 1033 active DROP members were invited to the interest meeting. Out of the 120 attending, 10 members retired on the spot, with 65 members retiring before December 31st. Membership counselors are meeting with members from 4am to 7pm to finalize retirements. Sullivan noted the staff's efforts and that the interest drop was only 0.25% to 7.75%.

IRS AND SDCERS
Chief Compliance Officer Roxanne Story Parks reported that the IRS learned so much from San Diego on government pension plans that they have modified their instructions for other systems.

FUTURE PURCHASES OF SERVICE
The Board voted that after this December 19th meeting the methodology for pricing Purchase of Service would be by a calculator developed by Cheiron. This calculator is used by other systems. The calculator will be integrated into PensionGold employees can make intelligent and informed decisions. All purchases will be priced at the time the application is signed and accepted by SDCERS. Unless Elaine Reagan, General Counsel, finds otherwise, use current salary as a basis. Legislative, Safety and General members will use the same method, not the same rate. Mark Oemcke noted that this brings pricing into line with SDCERS' liability.

The City delegated to the Board cost and interest of purchase of service. In the future, prices will be reviewed annually.
Recused from the room were Wescoe, Membership Services- Cynthia Queen,  and Trustee Franklin Lamberth.

SDCERS had been using a single group rate. No other systems use this averaging method that gives one price for all members. The calculator will include age and service years. Courts have not regarded age as discrimination in determining purchase of service as long as it is not the motivating factor.

Most employees were being over charged, while a few were being under charged. Cheiron noted that current prices are based on former assumptions. Last year, due to people purchasing service credits right before entering DROP, the unfunded liability increased by $1.5 million. The Municipal Code says it should be cost neutral. Cheiron also noted that those purchasing service are likely to retire earlier.

Achieving vesting by purchasing service is not affected, although Trustee Steve Meyer noted it would be an encouragement to younger members to buy years. Those 40 to 60+ years will be most affected.

Presentations by Bill Sheffler, Chair of the Ad Hoc Committee on purchase of service costs, Cheiron and SDCERS' outside Fiduciary Counsel - Ashley K. Dunning of Manatt, Phelps, Phillips, based in Los Angeles. (www.manatt.com).
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Next meetings: Board on January 16th at 8:30. Business and Governance Committee January 15th 8:30am. Investment Committee January 15th at 1:30pm