PUC plan would put trust funds at risk
Even the most inattentive 401(k) owner surely understands today that the markets can bite you where it hurts, that promises of long-term investment gains can evaporate in the blink of a short-term crash and that the less understandable an investment scheme is, the more dangerous it is.
Why, then, is California Public Utilities Commissioner Timothy A. Simon pressing so hard to subject billions of dollars of public trust fund money earmarked for the decommissioning of the state’s two major nuclear plants to the same sorts of risks?
Simon’s initiative is on the PUC agenda for Thursday—the commission’s last meeting of the year and, as it happens, Simon’s last as commissioner. He returns to the private sector at the end of the year.
If this is to be his legacy, it’s a curious one. The trust funds he wants to monkey with contain about $6 billion raised from ratepayers’ bills and conservative investments in stocks and bonds. Simon’s proposal laments that the money is invested in an “ultra-conservative” way, as though that’s a bad thing in an era when non-conservative investing has produced non-trivial losses.
Simon’s alternative is to broaden the permissible investments to include derivatives, real estate, hedge funds and other wild and crazy categories. He favors allowing the utilities to turn over more of the funds to investment managers whose performance, as a group, is none too impressive—and to double or even quadruple the maximum fees those managers can be paid.
His idea is for the trust funds to harvest the higher investment yields that more aggressive investing can produce over the long term.
But it’s not certain that Diablo Canyon and San Onofre, the state’s two big nuclear plants, will be with us for the long term. Originally it was assumed that they would both operate until their federal licenses expire in the early 2020s, when they would obtain routine 20-year extensions.
But Pacific Gas & Electric recently suspended its application for a license extension for Diablo Canyon, pending a seismic study inspired by the 2011 earthquake and tsunami that wrecked Japan’sFukushima nuclear plant. And San Onofre has been offline almost all year, thanks to a botched generator upgrade that has raised doubts whether it will ever operate again.
The trust funds are calculated to be 90% on their way to covering their needs, assuming average investment earnings in the future. That puts a lot at stake in changing the investment rules, which is why ratepayer advocates are unnerved at the prospect.
“With a great deal of uncertainty about the continuing life of Diablo Canyon and San Onofre, this is not the time to decide we’re going to take on additional risk to pump up our returns,” Truman Burns, a program supervisor at the PUC’s Division of Ratepayer Advocates, told me.
Here’s the background:
Under PUC rules dating back to the 1980s, the state’s three major utilities must accumulate trust funds out of customer rates to pay for the eventual dismantling and cleanup of Diablo Canyon and San Onofre.
These are big jobs. They involve disassembling the plants, excavating and decontaminating the soil and finding some way to dispose of radioactive equipment and spent fuel—especially since federal plans to store spent fuel in a central depository have come to nought.
The whole process, including hanging on to spent fuel until it cools down, can take 30 years. As a result, estimates of the cost range widely, depending on forecasts of investment returns, inflation and the time and complexity of the job. Estimates on San Onofre from Southern California Edison, its majority owner (San Diego Gas & Electric owns a small piece), have run from a little less than $4 billion to nearly $9 billion.
Since the plants went into operation, the utilities have placed a decommissioning charge on every bill and paid the money into the trust funds, which are kept separate from their general corporate coffers. Edison customers currently pay about $24 million a year.
That brings us to what to do with the trust-fund money until it’s needed. The rules have been conservative—though not conservative enough to avoid a hit in 2008. No more than 60% can be in stocks and no more than 20% in foreign stocks. At least 50% of the stock portfolio must invested in low-cost index funds.
Bonds have to be investment grade, not junk. No “alternative” investments like derivatives and real estate, which really cratered go-go portfolios in the crash, are permitted. And overall fees to investment managers can’t be more than 0.3% of the portfolio value.
Under the changes favored by Simon, the cap on stocks would be raised to 80%, the minimum portion required to be passively managed would drop from 50% to 25%; and riskier alternatives such as junk bonds, real estate, commodities and hedge funds would be permitted to varying extent. These options would become available when the plants get their license extensions, but the federal Nuclear Regulatory Agency has never turned down an application.
What perplexes consumer advocates is that Simon’s interest in alternative investments came out of the blue. The utilities never asked for such latitude. And since the trust funds aren’t their money, but their customers’, it’s unclear why they would care. For the record, they’ve said they’d be OK with the changes.
Simon’s background does includes work in the investment field. A family friend of former Assembly Speaker Willie Brown, he was associated with several investment firms until Gov. Arnold Schwarzenegger named him his appointments secretary in 2006. The next year Schwarzenegger named Simon, a novice in utility regulation with a recent bankruptcy on his record, to the PUC.
In 2008, Simon raised eyebrows by soliciting donations from Edison, PG&E and SDG&E for a conference hosted by the nonprofit Willie L. Brown Jr. Institute on Politics and Public Service—while the firms were seeking an important ruling from the PUC. Two weeks after the conference, they got it.
When I called Simon’s office to ask about the genesis of the investment plan and about his career plans for the future, his office replied by email that he couldn’t speak about the proposal because it’s “pending before the commission.” The email said Simon’s goal is “to maximize ratepayer returns while minimizing risk.” As any responsible investment manager knows, however, you can’t do both. You can only maximize returns by increasing risk.
One provision of the Simon plan—increasing the ratio of actively managed investments—is particularly perplexing.
The performance of active managers has been so grisly it makes “Reservoir Dogs” look like an episode of “Teletubbies.” To get technical, in the 12 months through mid-2012, S&P stock indexes beat 89.84% of corresponding actively managed funds. Yet for the privilege of watching an investment hotshot send your money down the drain, you pay a much higher management fee. On Wall Street, this must be what they mean by “twofer.”
Conceivably, any broader investment alternative can pay off over a suitably long time span. But when the commission meets this week to ponder the future of the investment markets, the question will be whether they understand the risks involved, especially if there’s a shortfall and the money is needed sooner, not later.
Then, in the words of Matthew Freedman, a lawyer at the Utility Reform Network, a ratepayer advocacy group: “The utilities will say it’s not their responsibility to make up the shortfall, and the ratepayers will be left holding the bag.”