Active Management: An approach to money management where the manager seeks to beat a predefined benchmark. Typically, higher fees are associated with this type of management, as you are paying a money manager for their ability to “add value” relative to passively investing in the benchmark. These managers typically take on greater “benchmark risk”(i.e. a greater likelihood of deviating from the benchmark).

Actuarial Accrued Liability: The present value of the estimated cost of benefits payable to active and retired members covering service rendered prior to the date of an actuarial valuation as determined by use of assumptions about the future and an actuarial cost method.

Actuarial Assumptions : Assumptions which are made for the purposes of determining the contribution which must be made in order to fund the future liabilities. Actuarial assumptions are generally grouped into two categories: demographic (i.e. life expectancy, rate of retirement, number of years worked, etc.) and economic (inflation rate, the return on investments, etc.).

Agencies: These are securities, usually very liquid, issued by either federally related institutions (arms of the federal government) or by government sponsored enterprises (GSEs) which are typically privately owned, but have an important public purpose and strong ties to the U.S. government. The Agency market is primarily comprised of GSEs which are typically not backed by the full faith and credit of the U.S. government, and thus investors purchasing GSEs are exposed to credit risk, albeit considered minimal due to the agencies’ importance and relationship to the government.

Alpha: This is a measure used to determine a manager’s contribution to performance based upon security selection. On a technical level, it is the excess return of a portfolio above the portfolio’s benchmark adjusted for risk. A positive alpha indicates that a manager added value relative to the risk they took on. A negative alpha indicates that the manager lost money relative to the risk they took on.

Alternatives: As it relates to MOSERS, this asset class includes two distinct “sub-asset classes” which include real assets and private investments. Portfolios within these could include REITs/private real estate, commodities, timber, private equity, and private debt (distressed debt).

Arbitrage: A technique employed to take advantage of price differences in similar/identical markets, traded in different geographies across the globe.

Asset Allocation: This is the process of diversifying investments among a variety of asset classes. Through this process, risk to the portfolio is reduced, as it is expected that the various asset classes will act differently under a variety of economic scenarios.

Asset Class: A group of investments that share similar characteristics. Types of asset classes include public equity (stocks), public debt and various alternative investments such as commodities, timber, real estate and private equity.

Asset-backed Securities (ABS): These are very high quality (typically the highest investment grade rating) securities due to their backing by over-collateralized liquid assets such as car loans and credit card receivables, to illustrate some examples of the types of underlying collateral. ABS typically have short-intermediate maturities and are usually very liquid.

Basis Point: A unit of measurement equal to 1/100th of one percent. For example, 0.53% is equal to 53 basis points. 1.00% is equal to 100 basis points.

Benchmark: A tool utilized to measure the performance of a manager relative to the universe of securities in which they invest. Typically, benchmarks consist of a broad array of investments within a particular market. Commonly used benchmarks for MOSERS include the MSCI ACWI (Morgan Stanley Capital International Europe, All Country World Index) used to compare our public equity managers and the Lehman Aggregate Bond Index used to compare our core fixed income managers.

Beta: This is a measure used to determine a portfolio’s sensitivity to movements in a particular market or asset class. In technical terms, it is the expected percentage change in return for a portfolio based upon a 1% change in the market or asset class. For example, if the S&P 500 is up 1% for the month and a portfolio has a beta of 1.2, you would expect the portfolio to be up 1.2% (or 20% more than the market). In contrast, if a portfolio has a beta of .8, this indicates that if the market is up 1% for the month, this portfolio will be up .8%(or lagging 20% relative to the market). Essentially, beta helps to measure a portfolios risk (volatility) relative to the market or asset class it is compared to.

Call Risk: The cash flow risk which results in the bond portfolio when a bond has a “call” option. Essentially, the issuer of the bond may “call” the bond back (paid off by the issuer) usually so the issuer can issue new bonds at a lower interest rate. If a bond is called, this forces the investor in the bond to reinvest the principal sooner than expected, usually at a less advantageous interest rate.

Commodities: This strategy includes investing in commodities and commodity-related equities based on fundamental analysis. Factors analyzed include the general state of the economy, economic growth prospects, supply and demand dynamics, etc.

Commodities: A physical substance such as grain, cattle, hogs, oil, etc. that is interchangeable with another product of the same type. Investing in commodities provides a diversification benefit to virtually any portfolio due to the low correlation to traditional asset classes such as stocks and bonds. Commodities have, in the past, served as a cushion to the portfolio when downturns in financial assets, such as stocks and bonds, occur as a result of unanticipated or rapid inflationary forces.

Convertible Arbitrage: This strategy involves purchasing a portfolio of securities, generally convertible bonds, and hedging a portion of the equity risk by selling short the underlying common stock.

Core Fixed Income: Core fixed income is a sub-asset class that consists of traditional bond investments. The core fixed income allocation is intended to provide a source of current income and reduce overall fund volatility. In addition, it is expected to perform well during periods of disinflation and/or outright deflation. Portfolios within this allocation are invested in some or all of the following instruments:

Correlation: The simultaneous change in value of two numerically valued random variables.

Correlation Coefficient: A measure that determines the degree to which two investment’s movement are related. If two investments have perfect positive correlation (+1), you would expect them to move in lock-step with one another. If two investments have perfect negative correlation (-1) you would expect them to move in the mirror image of one another. Between perfect positive and perfect negative (+1 or -1) you have a scaled relationship between the two investments. A correlation of zero (0) implies no relationship between the movements of the two investments.

Current Yield: The annual rate of return on an investment, expressed as a percentage. For bonds and notes, it is the coupon rate divided by the market price. For stocks, it is the annual dividends divided by the purchase price.

Derivative: A financial instrument whose value and characteristic is derived from the performance of some underlying investment, such as a stock, bond, commodity, or currency. Derivatives are often used to help large investors manage their risks and gain exposure to various investments at a relatively low cost compared to holding the underlying asset. Examples of derivatives include futures and options contracts.

Domestic Equity: This sub-asset class consists of stocks in U.S. companies. A stock essentially represents ownership in a company. This sub-asset class seeks to provide long-term capital appreciation and dividend income that together exceed inflation. Domestic Equity may include large, medium, and small capitalization stocks and stocks of differing investment styles (i.e. growth, value, active, passive, etc.). Descriptions of each style are as follows:

Due Diligence: The process of investigating the details of potential and ongoing investments and managers by investors. The details include examination of the operations, management and verification of the material facts surrounding the investment.

Duration: This is a measure that reflects the change in the value of a fixed income security that will result from a 1% change in interest rates. Duration is stated in years. For example, 3 year duration means the bond will decrease in value by 3% if interest rates rise 1% and increase in value by 3% if interest rates fall 1%. Duration is used as a measure of the volatility of a bond. Generally, the higher the duration (the longer an investor needs to wait for the bulk of the payments), the more its price will drop as interest rates go up. Of course, with the added risk come greater expected returns. If an investor expects interest rates to fall during the course of the time the bond is held, a bond with a long duration would be appealing because the bond's price would increase more than comparable bonds with shorter durations.

Efficient Frontier: This is the line on the risk/return graph which reflects all of the “efficient portfolios” one can invest in, given the investment choices available. An efficient portfolio is a portfolio that provides the greatest expected return for a given level of risk, or the lowest risk for a given expected return.

Emerging Markets Equity: Emerging Markets Equity is a sub-asset class consisting of equity investments in companies in countries where the per capita income is below a predetermined level. Examples of emerging market countries include India, Brazil, South Africa, Mexico, Russia, Malaysia, Turkey, Poland, South Korea, Chile, and China to name a few. Emerging Markets Equity seeks to provide an opportunity for long-term capital appreciation in excess of inflation. This sub-asset class invests in countries where higher growth rates are expected, and thus one would expect higher returns. The emerging markets allocation provides another level of diversification for the total portfolio. Experience has shown that the emerging markets can be very volatile, however, as a part of the total portfolio, it can serve as an additional diversifier, reducing risk for the entire portfolio.

Event Driven: This strategy involves investing in opportunities created by significant transactional events, such as spin-offs, mergers, acquisitions, bankruptcy reorganizations, recapitalizations and share buybacks.

Funded Ratio: This number reflects the percentage of total liabilities that the System has already funded based upon the actuarial value of the assets. For example, if the System has a funded ratio of 96%, it implies that the System could pay 96 cents of every $1 owed to beneficiaries at that point in time.

Futures Contract: A standardized, transferable contract that trades on an organized exchange that requires delivery of a specified investment (stock index, stock, bond, currency) at a specified price at a predetermined date. Essentially, this allows one to replicate the performance of an investment without holding the underlying investment. (i.e. you can obtain the return of the S&P 500 by owning an S&P 500 futures contract and you don’t have to own all 500 stocks in the S&P 500 index.)

Global Fixed Income/Currencies: This strategy usually involves the buying and selling of foreign exchange forwards and related options in order to express views on the attractiveness of currencies relative to one another based on economic analysis. This strategy is typically limited to the most liquid (G-10) currencies, although small currencies may be traded as well.

Hedged Equity: Hedged equity represents a strategy within our public equity asset class. It is expected that hedged equity will have high correlation to equities; however, it will be considerably less volatile helping to dampen the overall risk of MOSERS equity program during difficult times for stocks. This strategy utilizes marketable alternative managers who are both long and short various positions within the market. These managers may utilize leverage as allowed within their governing documents. These managers seek to control risks and maintain a focus on absolute returns. The inherent nature of these strategies will likely result in returns that lag the equity market during times when equities are performing above the long-term averages and visa versa when equities are performing below the long-term average.

High Yield Bonds: This sub-asset class consists of investments in bonds issued by companies with below investment grade credit quality. High yield bonds provide high current income to the portfolio, while providing opportunities for capital appreciation when purchased at opportune times. This allocation is viewed as a tactical one, in that appropriateness of an allocation will be dependent upon the valuation of these investments and our perception of where we are in the economic cycle. Generally, we would expect allocations to this sub-asset class to increase at the tail-end of an economic recession and decrease as the economy recovers. Credit quality of these securities ranges from BB to CCC and are in non-default status. Investments in this portfolio may include both U.S. and non-U.S. issuers.

Information Ratio: This is a measure used to determine how effectively a manager is able to add excess return above a benchmark (alpha) relative to the risk (tracking error) they have taken above the risk of their benchmark. The higher the information ratio the better the risk adjusted return of the manager has been.

International Developed Equity: Investment in this sub-asset class includes investing in non-U.S. based companies that are domiciled in countries considered to be developed as opposed to developing based on per capita income levels. This sub-asset class provides long-term capital appreciation in excess of inflation. International equity may be diversified across portfolios of varying size, investment style, and exposure to opportunities in a variety of developed countries. The international developed equity portfolios provide an element of diversification relative to the domestic equity portfolios. Non-dollar currency exposure is another aspect of investing in this area that will impact performance and volatility of the asset class over the short-term, however, over the long-term, we would expect no additional return from the currency exposure.

Investment-grade Corporate Securities: These are securities issued by corporations that carry an investment grade credit quality rating ranging from AAA to BBB. The degree of credit quality associated with these bonds is lower than that of Agencies but above that of high-yield bonds. Corporations can be U.S. or International. Any non-dollar International holdings would be largely hedged back to the U.S. dollar. Liquidity characteristics of corporate securities can vary greatly—they are clearly less liquid than Agencies and the most common types of MBS.

Large Capitalization Growth Stocks: These are stocks whose market capitalization is in excess of $5 billion according to the Morningstar database. In addition, these stocks possess the characteristics of growth companies, which in technical terms means that their price-to-earnings ratio is greater than the market average. It is expected that these stocks have the potential to increase earnings per share at a faster rate than the average stock within the market.

Large Capitalization Value Stocks: These are stocks whose market capitalization is in excess of $5 billion according to the Morningstar database. In addition, these stocks possess the characteristics of value companies, which in technical terms means that their price-to-earnings ratio is below the market average. These stocks are typically associated with mature companies that are expected to payout a larger portion of their income in the form of dividends than their growth counterparts as opportunities to reinvest this income back into the company at above average growth rates are limited.

Leverage: The practice of borrowing funds in order to purchase additional investments/assets.

Long a Stock: A term used to refer to owning a stock.

Long/Short Equity: This strategy consists of a core portfolio of long equities hedged at all times with short sales of stocks and/or stock index options.

Managed Futures: Managed futures strategies use derivative instruments (i.e. futures, forwards and options) extensively within the portfolio. Managed futures managers typically focus on taking positive or negative directional bets upon strong trend formations on a leveraged basis through liquid derivatives.

Market Capitalization: This is a measure of the size of a corporation. It is simply the price of a company’s stock multiplied by the number of shares outstanding of that particular stock.

Market Neutral: Market neutral represents a MOSERS sub-class within our public debt. It is expected that this subclass will have little or no correlation either stocks or bonds as defined by the Russell 3000 and the Lehman Brothers Aggregate. It is further expected that this portfolio will exhibit similar volatility to the Lehman Brothers Aggregate. This subclass utilizes marketable alternative managers who are both long and short various positions within the market. These managers may utilize leverage as allowed within their governing documents. These managers seek to control risks and maintain a focus on absolute returns. The inherent nature of these strategies should result in reasonably consistent returns in excess of the risk free by some 3-5%.

Mean: The mean return for an asset class is the average return for the group of observations.

Median: This is the middle return in a universe of returns. It is NOT the average return.

Mortgage-backed Securities (MBS): These are highly liquid instruments that are also very high in quality due to the dual backing of both the issuer’s credit worthiness as well as the underlying mortgage collateral (primarily residential but some commercial). Agencies, most notably GNMA, FNMA and Freddie Mac, are the primary issuers of MBS with some issuance coming from private mortgage originators and banking institutions. The primary risk associated with MBS is the prepayment risk associated with the underlying mortgage collateral (long term investors receive their investment back prematurely due to refinancing activity).

Nominal Return: This is the total return of an investment before taking into account the impact of inflation.

Option Contract: The right, but not the obligation, to buy (for a call option) or sell (for a put option) a specific amount of a given stock, commodity, currency, index, or debt, at a specified price (the strike price) during a specified period of time. Also, sometimes called “Option.”

Passive Management: An approach to money management where a manager seeks to replicate the performance of a predefined benchmark. Typically, lower management fees are associated with passive management relative to active management as there is no expectation for alpha in passive strategies.

Price/Earnings Ratio (P/E): This is the most common measure of how expensive a stock or equity market is. The P/E ratio on a per share basis is equal to a stock's price divided by its per share after-tax earnings over a 12-month period, usually the trailing period but occasionally the current or forward period. The higher the P/E ratio, the more the investor must pay for each dollar of annual earnings.

Private Debt: This sub-asset class consists of debt investments in companies with low credit quality. Returns from this asset class are achieved through a value-added process that follows the purchase of debt at very significant discounts to par value of companies which are financially distressed, or are likely candidates for or are already in bankruptcy. Major restructuring of these companies is required either through voluntary negotiations or by the forced means of a bankruptcy process. In either case, significant value enhancement can come from such things as management/ownership change, renegotiation of contracts and labor agreements, opportunistic liquidations, establishment of a healthier balance sheet by means of debt reduction, and operational turnaround. Due to the legal superiority of debt claims relative to equity claims within financial restructurings, the private debt investor is well situated to realize the benefits of this value enhancement process, either through appreciation of the original bond investment (substantial or complete payment of the claim in bankruptcy) or through conversion to equity in the financially and operationally restructured company. The performance of the private debt allocation is somewhat cyclical, although there are some mitigating factors such as supply/demand dynamics strongly in favor of the investor and substantial current yield in the portfolio that suggest the possibility of modest performance even in more difficult economic periods. Most private debt investments are substantially illiquid and long-term in nature, comprised of both U.S. and International debt issuers, and both publicly placed and privately placed (corporate or bank) debt. Also sometimes called “Distressed Debt.”

Private Equity: This investment consists of equity of privately held-companies. The role of private equity is to provide high real returns over long periods of time. The private equity allocation will be comprised of opportunities both within the U.S. and internationally. Specific types of strategies will include venture capital, buyout, and opportunistic/special situations investing.

Public Debt: This is an asset class consisting of various types of debt instruments including those issued by the U.S. Treasury, its agencies and corporations. Also included are securitized mortgages, asset backed securities and dollar denominated debt issued by foreign nations.

Public Equity: This is an asset class consisting of publicly owned stock or other securities representing an ownership interest. This asset class includes domestic (including hedged equity), international developed, and emerging market equity.

Real Estate Investment Trust (REIT): A form of corporate organizational structure specifically allowed for companies whose assets are made up primarily of real estate. REITs are required to pay out 90% of their net income out to investors in the form of a dividend. Real estate primarily serves as a hedge against unanticipated general price inflation, and may also provide a significant amount of income due to the nature of real estate in providing revenues from rental properties.

Real Return: The return of a portfolio or investment after accounting for the effects of inflation.

Relative Value: This strategy attempts to take advantage of relative pricing discrepancies between instruments including equities, debt, options and futures. Managers may use fundamental, technical or mathematical analysis to determine valuation anomalies.

Required Rate of Return: This is the real rate of return that the portfolio must generate in order to fund the liabilities per the actuarial assumptions being made. In MOSERS case we must earn 5% after inflation in order to fund our liabilities with no increase in the contribution rate.

Risk Premium: In the aggregate, investors who take risk expect to be compensated for that risk with higher returns. The expected risk premium on an asset is the amount to which the asset is expected to outperform to compensate for the additional risk. As an example - one should expect bonds to outperform cash because they subject the investor to inflation risk and in some cases credit risk and prepayment risk that an investor in a short-term treasury bill does not incur. If cash paid a higher return than bonds over long periods of time and cash had less risk than bonds, no one would invest in bonds because they would not be being compensated for the risks they were bearing. Thus, over very long periods of time one would expect stocks to earn a risk premium over bonds and bonds to earn a risk premium over cash. Think of a risk premium as a form of hazard pay for your investments. Just as employees who work relatively dangerous jobs receive hazard pay as compensation for the risks they undertake, risky investments must provide an investor with the potential for larger returns to warrant the risks of the investment.

Risk-Adjusted Return: This is a return measure utilized to compare the return of two portfolios with different levels of risk. By “equalizing” the risk of both investments, you can compare the returns for an “apples-to-apples” comparison. The Sharpe Ratio is a common measure for obtaining risk-adjusted return comparisons.

Risk-Free Rate: This is the return one would expect to earn on a “risk-free” investment To an individual, the risk-free rate is normally defined by the return on a 3-month U.S. Treasury Bill, however, to pension plan like MOSERS, its risk free rate could be considered to be the asset that most highly correlates with our liabilities. Many academics have argued that this asset may very well be a treasury inflation protected security of very long maturity.

Sharpe Ratio: This ratio is often used to measure the risk-adjusted return of a portfolio. It is the calculated by taking a portfolio’s return above the risk-free rate (often defined as 3-month Treasury Bills) and dividing it by the risk level (standard deviation) of the portfolio. This measures how much return a portfolio or manager is receiving for each unit of risk they take.

Shorting a Stock: The process of selling a stock that is not owned by the investor. If an investor has a negative view of a stock and believes its price will fall, shorting becomes an attractive action. Essentially, the investor will borrow the stock from someone who owns it (paying them a fee to borrow it), and then they will sell the stock. If the stock falls, there is a profit as the investor sold it at a higher price and is now able to buy it back cheaper and return it to the entity from whom they borrowed it. In contrast, if the stock goes up, the investor shorting the stock loses money because they sold it at a lower price and now have to buy it back at a higher price.

Small Capitalization Growth Stocks: These are stocks whose market capitalization is below $1 billion according to the Morningstar database. In addition, these stocks possess the characteristics of growth stocks, which in technical terms means that their price-to-earnings ratio is greater than the market average. It is expected that these stocks have the potential to increase earnings per share at a faster rate than the average stock within the market.

Small Capitalization Value Stocks: These are stocks whose market capitalization is below $1 billion according to the Morningstar database. In addition, these stocks possess the characteristics of value companies, which in technical terms means that their price-to-earnings ratio is below the market average. These stocks are typically associated with mature companies that are expected to payout a larger portion of their income in the form of dividends than their growth counterparts as opportunities to reinvest this income back into the company at above average growth rates are limited.

Spreads:  The difference between two prices.

Standard Deviation: A statistical measure used to determine the risk, or volatility, of a portfolio. It reflects the average deviation of the sample observations from the mean (average) of the observations. Since it measures the width of the range of return outcomes, the larger the standard deviation, the greater the risk (volatility) of the portfolio. For example, if the mean return of an asset class is 5% and the standard deviation is 10, you can expect the range of outcomes to be between +15% and -5% about 68% of the time assuming the returns are normally (i.e. equally) distributed around the mean.

Swap: A swap is an agreement entered into by two parties where each agree to pay a particular stream of payments according to specified terms. Typically one is paying a fixed rate, while the counterparty is paying a floating rate that varies with the performance of a particular investment benchmark.

Timber: Timber (sometimes called Timberland) is an investment in which a large portion of the expected return comes from the biological growth of the trees over time. In this portfolio, large diversified groups of properties, trees and land, are acquired, managed, and disposed of by professional timber management organizations. A long-term philosophy must be in place when an investment in timber is made. Depending on the type of timber, and therefore its end use, the trees may be allowed to grow for ten to twenty-five years. Throughout the growth stage of the investment, proper maintenance of the timberland is performed to insure optimum results. Income is generated when the trees are harvested. Due to the long growth phase of the trees, an investment in timber reduces the overall volatility of a portfolio of traditional assets. When analyzing historical timberland returns, it is clear that timberland performance has very little correlation to stocks and bonds.

Tracking Error: This is a measure used to determine the amount by which the performance of a portfolio differs from that of a given benchmark. Technically, it is the annual standard deviation of the difference between the portfolio and the benchmark. It is a good measure to determine how consistently a manager achieves a return close to a pre-defined benchmark.

Treasuries: These are highly liquid securities issued by the United States Treasury that are backed by the full faith and credit of the United States government, and thus are perceived as having no credit risk.

Treasury Inflation Protected Securities (TIPS): These securities are backed by the full faith and credit of the United States and are quite liquid. TIPS is a sub-asset class intended to generate a real return as inflation protection is a vital part of the instrument. Unlike nominal bonds, which will be hurt by increases in interest rates and inflation, TIPS will not. TIPS also provide a source of current income and reduce the overall volatility of the portfolio. In addition, this asset is viewed as the best hedge against our liabilities due to similarities in duration and inflation sensitivity, thus it is viewed as our risk-free asset in relation to the liabilities.

Value At Risk (VAR): A statistical technique used to determine the amount that can be expected to be lost from a portfolio of investments over a specified time frame.

Yield Curve: The relationship between time to maturity and the yield for fixed income in a given risk class.

Yield Spreads: The differences in yields on different types of fixed income securities which is a function of supply and demand, credit rating, and anticipated interest rate changes. Generally, the greater the “spread” of a bond compared to a U.S. treasury bond, the greater the risk of that particular bond investment.

Yield to Maturity:  This is the current yield on a bond plus or minus the price appreciation/depreciation during the life of the investment. Essentially, it is the yield that would be realized on a fixed income security if it were held until the maturity date.