Fitch Ratings affirms its 'AA+' long-term rating and 'F1+' short-term
rating on the credit enhancement program (CEP) sponsored by the
California State Teachers' Retirement System (CalSTRS).
The Rating Outlook is Stable.
PROGRAM DETAIL AND SECURITYCalSTRS' CEP provides direct and
confirming letters of credit (LOCs) and other liquidity facilities for
municipal issuers. CalSTRS is unconditionally obligated to provide
liquidity/credit enhancement from available assets.
KEY RATING DRIVERS
LOW-RISK CEP PROFILE: CalSTRS' CEP obligors include high-quality credits
throughout the state and nation. In addition, program guidelines require
the weighted average maturity of the program's portfolio not exceed five
HIGH LIQUIDITY CUSHION: Fund assets cover the maximum CEP exposure by a
wide margin, even with significant discounting of assets. The 'F1+'
short-term rating reflects the availability of highly liquid assets that
could immediately cover draws on the program.
PENSION FUNDING BELOW ADEQUATE: The overall funded status of the pension
fund is considered below adequate by Fitch, even before applying Fitch's
more conservative liability discount rates.
SHORT DURATION LIMITS SPONSOR IMPACT: While the credit quality of the
state (California general obligation bonds rated 'A' by Fitch) is below
average and many of the employers are not rated by Fitch, credit
exposure is largely offset by the short duration of the CEP relative to
the life of the pension liabilities and the current funding level of the
STATUTORY FRAMEWORK LIMITS FLEXIBILITY: CalSTRS' contribution rates are
set by statute and require legislative action to change, unlike other
public pension systems which have the power to raise contribution rates.
STRONG LIQUIDITY ESSENTIAL: Maintenance of a strong liquid cushion over
potential CEP liabilities and annual benefit payouts and expenses is
critical to maintaining the current rating level.
FUND PERFORMANCE CRITICAL: Significant declines in the pension fund's
overall funding level and/or rising fund payouts that outpace inflows,
particularly in light of statutory funding limitations, could erode
credit quality. This sensitivity is less of a concern due to the
anticipated wind-down of the CEP over the next three years.
CREDIT PROFILECalSTRS' CEP currently generates additional income
for the pension system by providing a total of $1 billion in credit and
liquidity support for 15 municipal and bank obligors through confirming
or direct-pay LOCs and other liquidity facilities. These transactions
largely consist of tax supported and water/wastewater utility pledges.
The CEP has a maximum allocation that is limited to 3% of invested
assets (or $5.5 billion). However, in September 2013, CalSTRS announced
that it would suspend new underwriting and completely wind-down the CEP
by fiscal 2017. While the program has not sustained any losses in its
20-year history, management believes that the CEP is no longer an
attractive opportunity due to heightened credit risk and a resulting
unfavorable risk/reward profile.
FACTORS CONSIDERED IN ANALYSISFitch's evaluation of CEP programs
considers five broad areas: the CEP's risk profile, available liquidity,
the financial condition of the pension system, sponsor quality, and
management. Fitch does not rate the retirement system.
CEP RISK PROFILEFitch evaluates the overall operations of the CEP
to determine potential exposure the CEP may face with regard to obligors
to whom it has extended LOCs or other liquidity facilities. This
includes an assessment of obligor credit quality and diversification of
The CEP's maintenance of prudent underwriting guidelines and funding
procedures minimizes program risk. Wile the guidelines require that all
obligors have an investment grade rating, approximately 90% of the
current commitments are to obligors rated in the 'AA' category or
higher. Obligor pledges are also strong, as roughly two-thirds of the
enhanced credits have tax-supported or water/wastewater utility pledges.
Detailed funding procedures are also maintained specifying the timing
and the funds from which monies would be tapped to satisfy a draw.
AVAILABLE LIQUIDITYFitch's second area of assessment considers the
liquidity available to meet CEP obligations. This analysis includes a
comparison of the fund's liquid assets available to pay potential CEP
liabilities and near-term obligations, as well as any potential
discounting of available assets for perceived timing delay.
As of May 30, 2014, CalSTRS' investment portfolio totaled $184.8
billion. Within this portfolio, management maintains an abundance of
cash and high-quality fixed income investments to fund any draws under
the CEP at the maximum $5.5 billion limit. Even when Fitch applies
additional stresses that severely discounted invested assets, system
resources are still more than sufficient to satisfy maximum CEP draws
and continue making near-term benefit payouts.
PENSION SYSTEM FINANCIAL CONDITIONFitch also evaluates the pension
fund's overall health. In assessing the pension fund, Fitch considers
the funding progress of accrued liabilities, the discount rate, and the
fund's investment strategy.
As of the latest actuarial valuation (June 30, 2013), CalSTRS' pension
plan was funded at a low 67%. Using Fitch's more conservative 7%
liability discount rate assumption, the plan is funded at 63%.
SPONSOR CREDIT QUALITYFitch considers the sponsors' credit
quality, given that pension funds face the risk that sponsor payments
may be delayed during periods of financial stress.
Exposure to the state's below-average credit quality is of some concern.
However, Fitch believes the short duration of the CEP relative to the
life of the pension liabilities and the liquidity of the CEP
sufficiently mitigate this concern. As of June 30, 2013, roughly 1,700
school districts, community college districts, county education offices
and regional occupational programs were contributing to the fund. As the
sponsor, the state's contributions accounted for approximately 5% of
fiscal 2013 additions to the program.
MANAGEMENTFitch also considers the management of the CEP, which
includes an assessment of policies and procedures as well as the
independence of the pension fund's governing body and statutory
framework of the fund itself.
Unlike its public employee counterpart CalPERS (CEP rated 'AAA'/'F1+' by
Fitch), CalSTRS' contribution rates are set by statute and require
legislative action to change. This legal framework limits CalSTRS'
ability to maintain full funding of pension liabilities and is viewed by
Fitch as a negative credit factor.
On June 24, 2014, California's governor signed into law AB 1469, which
addresses CalSTRS' unfunded liability and incorporates a detailed
funding plan to ensure that the system remains viable. The funding plan
requires increased contributions, effective July 1, 2014, from all
CalSTRS stakeholders - school districts, the state and teachers. While
the increased contributions are projected to improve the system's funded
ratio (estimated 70% funded by 2024), the increased contributions will
likely add pressure to CalSTRS' stakeholders.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:--'Revenue-Supported
Rating Criteria' (June 2013);--'Closed End Fund Debt and Preferred
Stock' (August 2013);--'Rating U.S. Public Finance Short-Term Debt
Applicable Criteria and Related Research:Revenue-Supported Rating
Closed-End Fund Debt and Preferred Stockhttp://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=716220Rating
U.S. Public Finance Short-Term Debthttp://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=724680
Additional DisclosureSolicitation Statushttp://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=839875ALL
FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS.
PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS.
AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'.
PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS
SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS
OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES
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