My Turn: POMV approach is a worthwhile resolution

Posted: Friday, January 23, 2004

The New Year has arrived and with it come resolutions! Many of us will be pledging to reduce holiday weight or debt, or both. But there is another resolution worthy of our consideration: Senate Joint Resolution 18.

SJR 18 proposes to modify the Alaska Permanent Fund payout method to more closely resemble the approach utilized by most large public endowments nationwide. This is commonly known as "POMV."

In 1976 our Permanent Fund started with a modest deposit of $734,000. Today it is worth more than $27 billion. That's 36,000 times its initial balance. Who could have imagined it would be worth so much? Yet the fund's success is no accident.

In fact, Alaskans have found it not only necessary but also wise to occasionally update fund management strategies. What's more, these strategic adjustments have substantially enhanced the fund's value to the mutual benefit of us all.

For instance, in the 1980s it became clear that the original plan - limiting fund investments to fixed-income securities - needed to be altered to allow for greater growth potential. It was at this point that we broadened our investment opportunities to include equities. This proved to be extraordinarily beneficial as a result of the 1990s bull market.

Now it is once again time to employ a sensible update to our original strategy by implementing a "percent of market value," or POMV, approach to fund management.

There are three central advantages to a POMV plan: 1) It provides a predictable annual payout; 2) It assures that the fund will continue to be inflation-proofed; and 3) It improves the fund's earning potential by eliminating the possibility for political interference.

It's worth noting that more than 85 percent of public endowments nationwide employ a POMV technique. Why? It's simple. This method offers a predictable annual distribution that is sustainable over a long period of time.

How is this accomplished? Over the long run public endowments typically earn an average annual rate of return of about 8 percent. Furthermore, all earnings are deposited directly back into the corpus. But the frosting on the POMV cake lies in its stable - yet limited - annual distribution usually restricted to about 5 percent of the endowment's total market value.

So this simple calculation allows public endowments to avoid payout volatility from one year to the next while also automatically reinvesting a minimum of 3 percent for inflation-proofing. Contrast this with our current situation whereby Permanent Fund earnings can fluctuate substantially from one year to the next with no guarantee of annual inflation-proofing.

How will POMV work in our case? The Permanent Fund Board of Trustees will continue to pursue an 8 percent annual average rate of return just as they always have. But with POMV all earnings would be reinvested into the fund's principal.

Furthermore, annual payouts would be limited to an amount not to exceed 5 percent of the fund's total market value. Therefore, the fund is protected through an inherent 3 percent inflation-proofing feature while also avoiding payout volatility.

Finally, with respect to the third advantage to a POMV plan, I ask this question: Is it possible that the fund's board of trustees, all of whom are political appointees, could instruct fund managers to harvest immature fruit for the purpose of insuring the payment of a dividend? In my opinion the short answer is yes. But let me explain.

Currently dividends are only possible if the Permanent Fund generates realized earnings, meaning assets are sold at a profit by the annual cut-off date of June 30. Over the long run, the fund has performed very well, yet we've been close to having zero earnings each of the last three years. Obviously this would not be a politically desirable situation with respect to the dividend program.

As a former member of the board of trustees, it's not difficult for me to imagine a situation where a governor could, for political gain, exert influence on the trustees to assure earnings were available to pay a dividend. This could result in the ill-advised premature liquidation of long-term investments.

The POMV method completely removes political persuasion from the trustees' decision-making environment. Therefore, trustees are allowed the unfettered ability to manage the fund for the long run based on sound investment principles rather than politics.

The bottom line is that the POMV method makes good financial sense, not just for public endowments nationwide, but also for our Permanent Fund. It removes volatility from annual payouts while also providing inherent protections against inflation and political manipulation. SJR 18 is a resolution worthy of our support.

• Ralph Seekins is a state senator representing Fairbanks.



CONTACT US

  • Switchboard: 907-586-3740
  • Circulation and Delivery: 907-586-3740
  • Newsroom Fax: 907-586-3028
  • Business Fax: 907-586-9097
  • Accounts Receivable: 907-523-2230
  • View the Staff Directory
  • or Send feedback

ADVERTISING

SUBSCRIBER SERVICES

SOCIAL NETWORKING