Can Bitcoin Solve the US Pensions Crisis?

KEY TAKEAWAYS 

  • The pension time bomb is ticking louder amid fears of a prolonged global financial crisis 
  • Experts warn of the herculean impact the impending pension crisis could have on everyone 
  • Led by Morgan Creek Digital, some are now looking into cryptocurrencies as the potential savior of pension plans

$71 million. That’s how much pension funds in the United States have pumped into blockchain-related private equity funds to date. And if Morgan Creek Digital co-founder Anthony Pompliano has anything to do with it, that amount could quadruple by next year. 

If you’re thinking, “that’s not a lot for an entire country’s worth of investments”, you’re probably right. But a little context might change that perception.  

Small fish in a big pond

For the first time ever, in 2019, the crypto asset universe scored its first investment from possibly the most orthodox institutional investors in America: pension funds. 

In Virginia, the Fairfax County Employees’ Retirement System and Police Officer’s Retirement System became the first known public pension plan to commit to a fund dedicated to investing in blockchain technology. Together, they pumped in $50 million in October 2019, up from $21 million in its first round that closed in February. Other smaller players reportedly include an insurance company, a hospital system, and a university endowment fund. 

Representatives from the employees’ fund said these investments were deliberately sized to be a “small portion of each system’s assets.”

Small, but meaningful. This deal is being hailed as a vote of confidence for the crypto industry from some of the most conservative investment managers in the world.

A sign of things to come? Maybe. 

“When institutions begin considering cryptocurrency a legitimate asset class it will lead to a situation where individual savers have a proportion of their pensions held in a digital currency or invested in digital assets,” says David Mercer, CEO of financial technology firm LMAX Exchange. “Even if it only starts out as a percentage point or two it will lead to extremely significant in-flows into the asset class.”  

There’s just one tiny problem. 

…maybe a few.

Yesterday’s promises, tomorrow’s credit challenges  

The world is evolving. But it’s still running on old systems. 

Public pension programs have long been endangered by a fundamental tension: The system just doesn’t work. Time and again, funds struggle to meet their obligations. Yet no one really knows why. For years, experts have warned of an impending pensions time bomb resulting from decades of fiscal mismanagement. 

And if the 2008 financial crisis gives a hint for what is to come, the future doesn’t seem too bright. The pension time bomb ticks louder amid fears of another pandemic-infused world recession. 

Reality check: Nobody owns a crystal ball. 

Pandemics and pensions don’t jive well together 

For one, the current low interest rate environment spells a massive H-E-A-D-A-C-H-E for public pension funds known to be one of the largest holders of fixed income portfolios. With cheap capital flooding markets, return expectations for fixed income portfolios get dampened significantly. This means a far greater disparity between well-funded and underfunded state retirement systems at a time when local and federal governments aren’t doing much to help. The U.S. Federal Reserve, for one, has made it pretty clear that it won’t be changing the playing field any time soon. 

Read about how the Fed’s interest rates decision could affect Bitcoin here

Pensions are in trouble, but you can’t blame it all on COVID-19

The struggle for pension funds to meet their return targets is real, even in the years markets have done well. In 2017, the World Economic Forum warned about a widening retirement savings gap. More specifically, the shortfall between what people currently save versus what they need for retirement would balloon from $70 trillion to $400 trillion in 2050. Events surrounding the pandemic only compounded the impact. 

The damage? 

$1 trillion in investment losses, and counting, according to Moody’s Investors Services.

“If 2020 investment losses are as substantial as current market conditions suggest, the system’s asset/benefit coverage will fall to 6.8 years and its non-investment cash flow will fall below -6% of assets, both historic lows,” the Moody’s Investors Service report said. “Without increases to government contribution rates, we project that the system’s asset base is now on a far worse trajectory, and will continue to fall closer to insolvency.”

It’s a grim reality that pension schemes are struggling to address. Case in point? 

Giant pension funds, like the California Public Employees’ Retirement System (CalPERS) in the U.S., are forced to take up alternative methods, like borrowing, to (hopefully, in a complex bid to juice new returns) meet their return target. Over in Japan, the operator of the world’s largest pension fund said he is looking beyond the safety of sovereign debt in a bid to secure future returns. 

But why borrow if you can Bitcoin? Prominent Bitcoin advocate, Anthony Pompliano, makes his case:

“[But] CALPERS, and other public pension funds, don’t need to seek immense leverage to drive their target returns. The solution can be much simpler than that. Each of these pension funds should add a 1-5% allocation to Bitcoin. Yes, I’m dead serious.”

Anthony Pompliano, Morgan Creek Digital co-founder 

Bitcoin: the countercultural currency the world never knew it needed 

Recognizing Bitcoin as an alternative asset for portfolio allocation is not a stretch for most societies. The lack of correlation with equities and bonds, along with a compelling risk/reward profile makes it an alternative asset class to consider for a diversified portfolio. 

In an interview with CNBC, Bill Miller, founder and chief investment officer (CIO) at Miller Value Partners, said, “the risk of investing in Bitcoin is very high, but so is the possibility of making a profit. And the lack of a correlation with traditional markets makes it an ‘excellent diversifier’.”

“To me, it’s an insurance against instability in the mainstream financial industry, “said Caitlin Long, one of the most experienced Wall Street professionals to defect to the crypto space. The Harvard Law graduate cut her teeth doing mergers and acquisition at Salomon Brothers. As head of Morgan Stanley’s pension advisory group, she oversaw the retirement funds for dozens of employers. The dust from the impact of the Great Recession, which wiped out billions of dollars in market value from her clients, was just beginning to settle.  

Down but not out: Bitcoin outperforms stocks in 2020 

Similar to almost every other asset in the world, in March 2020, Bitcoin prices suffered around the time COVID-19 was officially declared a pandemic. But, it has since recovered its losses, in fact, outperforming other traditional investment assets this year. 

Though still below its all-time high of more than $19,000, Bitcoin has shrugged off its March lows. 

The digital asset, now worth close to $400 billion, has gained 30% year-to-date, achieving this despite the bearish dip in March. 

Diversification benefits have varied but, in general, Bitcoin has had little correlation with the S&P 500. 

Emotions aside, the math seems to add up. 

Pompliano’s Morgan Creek Digital has been on a mission to be the first crypto mover among pension funds for a while now. As early as December 2018, more than a year before the COVID-19 pandemic rattled global markets, Pompliano said in a Medium post that “every pension fund should buy Bitcoin”.

Recent events only strengthened the case for Pompliano. 

Institutional adoption of Bitcoin is here: You just need to know where to look

Canada’s largest pension fund says some of the “radical changes” in consumer behaviors enforced during the pandemic lockdown are here to stay. Fair enough, a term like “radical changes” can be up to interpretation. One truth remains: the world is evolving and so too must old systems improve. 

As expected, it will take time for pension funds to get comfortable with Bitcoin. Once they do, the cascading effect could be far and wide. Explaining how this could be made to happen, Pompliano said, “Bitcoin has the potential to save us from the current pension crisis. We just need one or two courageous individuals to make the first move.”

Like they say: All roads lead to Rome. But nobody promised it wouldn’t be a long and bumpy ride.