Investment Policy Statement The State of New Mexico Deferred Compensation Plan. Adopted June 24, 2004 (Revised May 2006)

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1 The State of New Mexico Deferred Compensation Plan Adopted June 24, 2004 (Revised May 2006)

2 Contents 1. Purpose of the Investment Policy Statement Plan Objectives Plan Investment Structure Investment Option Profiles Investment Option Performance Standards Responsibilities of Plan Participants Parties Responsible for Management & Administration of the Plan s Investments Appendix Stable Value Guidelines...23 g:\mici\peranm\m\investment policy\investment policy 0506_final.doc Mercer Investment Consulting i

3 1 Purpose of the Investment Policy Statement The State of New Mexico Deferred Compensation Act, NMSA 1978, Sections 10-7A-1 through 10-7A-12 (the Act ) authorizes the Public Employees Retirement Board of the Public Employees Retirement Association ( PERA ) to establish a Deferred Compensation Plan ( Plan ) for the benefit of employees in accordance with Section 457(b) of the Internal Revenue Code ( Internal Revenue Code ) of 1986, as amended. This Statement of Investment Policy (the Policy ) defines the objectives of the Plan and establishes policies and procedures for creating the highest probability that these objectives are met in a prudent manner that is consistent with established guidelines under the Internal Revenue Code, and other governing rules and regulations. The Plan is under the responsibility of the New Mexico Public Employees Retirement Board (the Board ). This Policy has been adopted by the Board under the authority granted by Section 10-7A-3 of the Act. This Policy outlines guidelines and requirements in the following three functional areas: Planning Defining the Plan objectives and linking those to the Plan investment structure, Establishing guidelines for the investment of the Plan assets, and Documenting the responsibilities of parties responsible for the oversight and management of Plan assets. Operations Outlining criteria and procedures for the ongoing operation of the Plan investment program, and Establishing investment performance standards. Mercer Investment Consulting 1

4 Control Monitoring results, including investment performance, and Describing ways to address investment options and investment funds that fail to satisfy established standards. In general, it is understood that this Policy is intended to incorporate sufficient flexibility to accommodate current and future economic and market conditions and changes in applicable accounting, regulatory, and statutory requirements. The Board will review this Policy at least annually, and, if appropriate, amend it to reflect changes in the capital markets, Plan participant objectives, or other factors relevant to the Plan. Mercer Investment Consulting 2

5 2 Plan Objectives The Plan is open to all employees who are state and local public employees, as defined in Sections 10-7A-2C and 10-7A-2E of the Act or other persons other than public employees, who provide services to the state or any local public body as set forth in Section 10-7A-4 of the Act. The Plan is part of the State of New Mexico s retirement program, which seeks to assist employees and their beneficiaries in obtaining financial security primarily in retirement. The State of New Mexico believes that achieving this objective is a shared responsibility of both the State of New Mexico and its employees. The Plan is voluntary and is intended to facilitate the accumulation of assets by participants on a tax-deferred basis for retirement by permitting participants to defer a portion of their compensation in accordance with the Internal Revenue Code, and other governing rules and regulations. Mercer Investment Consulting 3

6 3 Plan Investment Structure The appropriate investment strategy for any individual participant to accumulate retirement savings or achieve other savings objectives is a function of multiple personal factors, including age, income, time horizon, risk tolerance, return and accumulation objectives and other assets outside of the Plan. In order to allow participants to establish savings and investment strategies, which meet their individual needs, the Plan provides an array of investment options in which participants may invest. The Plan currently allows participants to direct the investment of their contributions to the following investment structure: Tier Tier 1 Lifecycle Funds Participants who are looking for one-stop Participants who are looking for one-stop shopping and maximum convenience shopping and maximum convenience Philosophy Allows participants to choose the diversified investment portfolio that best fits their time horizon, risk tolerance and investment goals. Designed for investors who want a streamlined approach to investing. Tier 2 Core Funds Participants who prefer to construct their own portfolios Allows participants to create their own portfolios based on the asset classes (or types of investments) that best fit their time horizon, risk tolerance and investment goals. Tier 3 Extended Investment Choices Participants who want to be very involved in customizing their portfolios Allows participants to supplement Tier 1 and Tier 2 investments with additional mutual funds or other diversified investments based on their time horizon, risk tolerance, investment goals and/or fund manager preferences. Mercer Investment Consulting 4

7 Each investment option category within the Plan s investment structure is intended to fill a primary savings and investment role consistent with the Plan objectives and to address the risks that participants face. Participants bear the full risk of investment results from the option(s) and asset mix they select. The Plan offers the following investment options: Target Maturity Lifecycle Funds Stable Value Market Duration Bonds Balanced Funds Large Capitalization Value Equity Large Capitalization Core Equity (Passive) Large Capitalization Core Equity (Active) Large Capitalization Growth Equity International Large Capitalization Equity Mid Capitalization Core Equity Mid Capitalization Growth Equity Small Capitalization Value Equity Small Capitalization Core Equity Self-Directed Brokerage Account Inactive Universal Life Insurance Contracts Universal Life Insurance Contracts are currently inactive. Participants are not able to direct current contributions. Existing participants can continue to deduct the target premium from deferred compensation contributions The Board may decide to replace or hire additional managers within an investment option category at any given time. Investment options shall be selected in accordance with the State of New Mexico Deferred Compensation Act and the administrative rules and regulations there under. Although the Plan is not subject to ERISA, the Board intends to comply with the provisions of ERISA section 404(c). ERISA section 404(c) applies to plans with participant-directed investments and allows the plan sponsor and other fiduciaries to avoid liability for participants investment direction if the plan meets the requirements of ERISA section 404(c). To comply with ERISA section 404(c), a plan must: Offer at least three diversified core funds representing a broad range of investment alternatives; each core fund must itself be a diversified portfolio of investments Enable participants to switch investments as frequently as appropriate in light of the market volatility of the investment alternatives Permit transfers of the core funds quarterly defined as at least once in any threemonth period or more frequently Provide participants with certain information on the plan including costs and each of the investment alternatives Must notify all participants of the Board s intention to comply with ERISA section 404(c) Mercer Investment Consulting 5

8 With the intent to comply with ERISA section 404(c), the Board also recognizes that it is still legally responsible in a fiduciary capacity for the selection (and periodic monitoring) of an appropriate menu of plan investment choices available to participants. Mercer Investment Consulting 6

9 4 Investment Option Profiles The following chart shows the relationship of long-term expected risk and return levels (generally defined as following three- and five-year periods) for the investment option categories offered by the Plan. Expected Rate of Return Theoretical Expected Risk/Return Chart = Current Investment Categories Small Cap Core Equity Small Cap Value Equity Mid Cap Growth Equity Mid Cap Core Equity Target Maturity Lifecycle Funds / Self-Directed Brokerage Acct. Balanced Funds International Large Cap Equity Large Cap Growth Equity Large Cap Core Equity/Index Large Cap Value Equity Market Duration Bonds Stable Value Expected Risk (Standard Deviation) The following pages outline the specific roles and characteristics of each investment option. Mercer Investment Consulting 7

10 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Stable Value Fund No principal loss Total return equal to or greater than inflation Traditional investment contracts issued by banks and insurance companies, synthetic contracts, money market instruments, short-duration fixed income securities and separate account contracts. Contract income Interest income Low Low Commingled fund or separately managed account Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Market Duration Bond Fund Principal preservation Modest total return that outpaces inflation Government, corporate and mortgage-backed fixed income securities with a average portfolio duration between three and six years; high-yield and international issues may be used opportunistically up to 15% and 20%, respectively, in each asset class. Interest income Capital appreciation/(depreciation) Low/Moderate Low/Moderate Mutual fund Mercer Investment Consulting 8

11 Option Objectives Primary Investments Balanced Fund Moderate total return Offset the higher volatility of stock returns with the stability of Income-generating bonds Asset Allocation: Invests approximately 60% of assets in domestic equity and the remainder in fixed income debt securities. Equity Segment: Domestic stocks with a market capitalization greater than $8 billion and a median market capitalization greater than $15 billion. A modest amount of total assets (i.e., approximately 10%) may be allocated to non-us stocks. Fixed Income Segment: Government, corporate and mortgage-backed fixed income securities with a average portfolio duration between three and six years; high-yield and international issues may be used opportunistically up to 15% and 20%, respectively, in each asset class. Source of Return Expected Return Expected Risk Investment Vehicle Interest and Dividend Income Capital Appreciation/(Depreciation) Moderate Moderate Mutual Fund Mercer Investment Consulting 9

12 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Targeted Maturity Lifecycle Funds Provide an array of default investment options (between 3 and 6 options) diversified by varying asset allocation mixes (between stocks, bonds and cash) for participants who wish to accumulate wealth based on their risk tolerances and time horizons through single investment options. The investment options shall be comprised of target maturity funds whereby the asset allocation of each fund shall become more conservative as the target date nears. Total return of each target maturity lifecycle fund shall correspond to the asset allocation (between stocks, bonds and cash) at any given point time. Offset the higher volatility of stock returns with the stability of income-generating bonds and cash Asset Allocation: The asset allocation mix of each target maturity fund shall be determined by the Board based on direction from the Investment Consultant, Plan Administrator and Trustee. It is expected, however, that each target maturity fund will be appropriately diversified among various asset classes based on the fund s stated investment objectives. It is also expected that the entire array of targeted maturity funds will be differentiated by asset allocation so that each fund has its own differentiated risk/return characteristics. Equity Segment: The equity portfolio shall be invested in a diversified array of equity mutual/commingled funds that are differentiated by investment objective, security selection methodology, style (value, core and growth) and market capitalization (large, medium and small), as appropriate. Higher risk lifecycle funds will have an allocation to non-us stocks. Fixed Income Segment: The fixed income portfolio shall be invested in a diversified array of fixed income mutual/commingled funds. These funds shall be differentiated by investment objective, security selection methodology, maturity focus (long, intermediate and short), sector concentration and quality, as appropriate. Stable Value Segment: The stable value segment shall be invested in a high quality stable value fund(s) with average maturities between 2 and 5 years. Interest and dividend income Capital appreciation/(depreciation) Low to high based on asset allocation mix/time horizon Low to high based on asset allocation mix/time horizon Unitized fund (fund of funds comprised of investment options in the core line-up) Mercer Investment Consulting 10

13 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Large Capitalization Value Equity Fund High total return Volatility lower than the S&P 500 Index and protection in declining stock markets Diversification within the large cap equity market segment Domestic stocks with market capitalizations that are in line with stocks found in Russell 1000 Index (generally $10 billion or greater). The total portfolio should exhibit characteristics representative of a value equity investment style, including price/earnings and price/book ratios less than the Russell 1000 Index. Dividend income Capital appreciation/(depreciation) Moderate/High Moderate/High Mutual fund Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Large Capitalization Core Equity (Passive) Fund Track the return of the S&P 500 Index High total return All the stocks comprising the S&P 500 Index and in the same proportion as the Index. Dividend income Capital appreciation/(depreciation) Moderate/High Moderate/High Mutual fund Mercer Investment Consulting 11

14 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Large Capitalization Core Equity (Active) Fund High total return Volatility similar to S&P 500 Index and protection in declining stock markets Diversification within the large cap equity market segment Domestic stocks with market capitalizations that are in line with stocks found in S&P 500 Index (generally $10 billion or greater). The total portfolio should exhibit characteristics representative of a core equity investment style, with price/earnings and price/book ratios in line with that of S&P 500 Index. Dividend income Capital appreciation/(depreciation) Moderate/High Moderate/High Mutual fund Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Large Capitalization Growth Equity Fund High total return Volatility greater than the S&P 500 Index Diversification within the large cap equity market segment Domestic stocks with market capitalizations that are in line with stocks found in Russell 1000 Index (generally $10 billion or greater). The total portfolio should exhibit characteristics representative of a growth equity investment style, including price/earnings and price/book ratios greater than the Russell 1000 Index. Capital appreciation/(depreciation) Dividend income (modest or none) Moderate/High Moderate/High Mutual fund Mercer Investment Consulting 12

15 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle International Equity Fund High total return Provide non-u.s. equity exposure to decrease total portfolio volatility Foreign stocks of developed countries with a market capitalization greater than $1 billion. May also opportunistically invest in foreign stocks with a market capitalization less than $1 billion and emerging market stocks. Capital appreciation/(depreciation) Dividend income High High Mutual fund Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Mid Capitalization Core Equity Fund High total return Diversification within the mid/small cap equity market segment Domestic stocks with market capitalizations that are in line with stocks found in Russell Midcap Index (generally between $3 billion and $10 billion). The total portfolio should exhibit characteristics representative of a core equity investment style, including price/earnings and price/book ratios in line with that of the Russell Midcap Index. Dividend income Capital appreciation/(depreciation) Very High Very High Mutual fund Mercer Investment Consulting 13

16 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Mid Capitalization Growth Equity Fund High total return Diversification within the mid/small cap equity market segment Domestic stocks with market capitalizations that are in line with stocks found in Russell Midcap Index (generally between $3 billion and $10 billion). The total portfolio should exhibit characteristics representative of a growth equity investment style, including price/earnings and price/book ratios greater than the Russell Midcap Index. Dividend income Capital appreciation/(depreciation) Very High Very High Mutual fund Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Small Capitalization Value Equity Fund High total return Diversification within the mid/small cap equity market segment Domestic stocks with market capitalizations that are in line with stocks found in Russell 2000 Index (generally $3 billion or less). The total portfolio should exhibit characteristics representative of a value equity investment style, including price/earnings and price/book ratios less than the Russell 2000 Index. Dividend income Capital appreciation/(depreciation) Very High Very High Mutual fund Mercer Investment Consulting 14

17 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Investment Vehicle Small Capitalization Core Equity Fund High total return Diversification within the mid/small cap equity market segment Domestic stocks with market capitalizations that are in line with stocks found in Russell 2000 Index (generally $3 billion or less). The total portfolio should exhibit characteristics representative of a growth equity investment style, including price/earnings and price/book ratios in line with the Russell 2000 Index. Dividend income Capital appreciation/(depreciation) Very High Very High Mutual fund Mercer Investment Consulting 15

18 Option Objectives Primary Investments Source of Return Expected Return Expected Risk Self-Directed Brokerage Account Provide participants with an additional investment options beyond the lifecycle funds and core option array. Mutual funds or other diversified investments with varying risk/return characteristics accessed through a self-directed brokerage account. Interest and/or dividend income Capital appreciation/(depreciation) Varies Varies Mercer Investment Consulting 16

19 5 Investment Option Performance Standards Each investment option s performance shall be evaluated based on quantitative and qualitative standards as outlined below. Qualitative Standards The following qualitative standards will be used in the evaluation of each investment option: Compliance with stated investment guidelines, contract terms, and/or State or federal laws and rules Adherence to stated investment style and philosophy Ownership stability and alignment of interests with investors Retention and attraction of key investment professionals associated with the management of the investment option Litigation and assessment of impact on future investment performance Disclosure of relevant information that may have an adverse impact on performance Quantitative Standards Performance results will be measured by: (1) Total time-weighted rates of return net of investment management fees and all fund expenses; however, they will be gross of Plan expenses (i.e. explicit costs paid for administration or other plan costs) and (2) Against a respective market index and peer group median over rolling three- and five-year periods. Volatility will be measured by the standard deviation of quarterly returns and should be comparable to each fund s respective market index and in-line with respective peer group averages. Funds with greater volatility than the index should earn a higher return than its respective index on a risk-adjusted basis. On the following page are the investment return objectives established for each investment option category. It is expected that the funds designated for each investment category will meet or exceed these performance objectives. The manager universes will be composed of professionally managed funds comprised of comparable peers. The Board will monitor fund performance relative to these standards. Mercer Investment Consulting 17

20 Investment Option Target Maturity Lifecycle Funds Stable Value Fund Market Duration Bond Fund High Yield Bond Fund Balanced Fund Large Capitalization Value Equity Fund Large Capitalization Core Equity Fund (Passive) Large Capitalization Core Equity Fund (Active) Large Capitalization Growth Equity Fund International Large Cap Equity Fund Mid Capitalization Core Equity Fund Mid Capitalization Growth Equity Fund Small Capitalization Value Equity Fund Small Capitalization Core Equity Fund Comparative Manager Peer Group Universe Median 3 Years Not Applicable Stable Value Fund Universe Core Fixed Income Mutual Fund Universe High Yield Bond Mutual Fund Universe Balanced Manager Mutual Fund Universe Large Cap Value Equity Mutual Fund Universe Large Cap Core Equity Mutual Fund Universe Large Cap Core Equity Mutual Fund Universe Large Cap Growth Equity Mutual Fund Universe International (Non-US) Equity Mutual Fund Universe Mid Cap Core Equity Mutual Fund Universe Mid Cap Growth Equity Mutual Fund Universe Small Cap Value Equity Mutual Fund Universe Small Cap Core Equity Mutual Fund Universe Relative Market Index 3 and 5 Years Each Option Will Be Evaluated Compared to Customized Indices Based on Asset Allocation Mixes 5-Year Rolling Constant Maturity Treasury Index Lehman Brothers Aggregate Bond Index Merrill Lynch High Yield Master Index 60% S&P 500 Index/40% Lehman Brothers Aggregate Bond Index Russell 1000 Value Index S&P 500 Index (Tracking Error +/- 30 basis points) S&P 500 Index Russell 1000 Growth Index MSCI EAFE (Net) Index Russell Midcap Index Russell Midcap Growth Index Russell 2000 Value Index Russell 2000 Index Target Maturity Lifecycle Funds will also be evaluated based on their asset allocation mixes, ability to span the risk/return spectrum, and the underlying funds that comprise each lifecycle fund. These options are intended for participants who are in need of default options based on personal factors, including age, income, time horizon, risk tolerance, return and accumulation objectives. Tracking error is defined as the return of the Fund minus the return of the S&P 500 Index. When evaluating the performance of the Fund relative to the S&P 500 Index, the tracking error should fall within 0.30% or 30 basis points of the index on an annualized basis over the 3 and 5 year periods. Mercer Investment Consulting 18

21 6 Responsibilities of Plan Participants The Plan is a voluntary, participant-directed deferred compensation plan. As such, participants in the Plan bear responsibility for deciding the amount of current compensation to defer in the Plan and for developing and monitoring a strategy for the investment of their accounts. The specific responsibilities of the Plan participants are as follows: Determining the amount to contribute to the Plan within the limitations set by the Plan and the Internal Revenue Code. Allocating account balances and future deferrals to the available investment options, based on individual circumstances, goals and objectives and risk tolerance. Rebalancing account balances to the participant s desired allocation due to market movements and account activity. Reallocating account balances and direction of future contributions as personal circumstances and goals and objectives change. Mercer Investment Consulting 19

22 7 Parties Responsible for Management & Administration of the Plan s Investments The Board will act in the sole interest of the Plan participants and beneficiaries, for the exclusive purpose of providing benefits to participants and beneficiaries and of defraying the reasonable expenses of administering the Plan. The safeguards to which a prudent investor would adhere must be observed. Furthermore, the Board must comply with and fulfill all aspects of the established guidelines under Sections 10-7A-1 through 10-7A-12 of the Act, the Internal Revenue Code, and other governing rules and regulations that relate to the administration and investment of the Plan assets. Several entities are responsible for various aspects of the management and administration of the Plan s investments. Those entities responsibilities are governed by Sections 10-7A-1 through 10-7A-12 of the Act, Administrative Rules, the Plan Document, and/or certain contracts entered into or on behalf of the Plan; to the extent that any provision of this Policy contradicts Section 10-7A-1 through 10-7A-12 of the Act, the Plan Document, and/or certain contracts entered into by or on behalf of the Plan or Board, those documents will control. The entities and their responsibilities include, but are not limited to: Board The tasks for which the Board is responsible include: Hiring the administrator, deferred compensation carriers, and/or investment advisory consultants. Establishing and maintaining the Investment Policy. Selecting investment options in compliance with the State of New Mexico Deferred Compensation Act. Periodically evaluating the Plan s investment performance, the costs to Plan participants, and recommending investment option changes. Mercer Investment Consulting 20

23 Investment Consultant The Investment Consultant is responsible for, among other things, reporting to the Board and staff on various aspects of the Plan s investments and the performance of the Plan s investment managers, meeting with the Board to review investment performance, making recommendations regarding investment objectives, guidelines, and this Policy, assisting in the Plan s compliance with this Policy, and reporting to the Board on current investment trends and issues. In addition, the Investment Consultant shall provide annual recommendations for the asset allocation (mixes) of the Target Maturity Lifecycle Funds. The Investment Consultant acknowledges that it is a fiduciary to PERA and shall at all times act in a fiduciary capacity to PERA with respect to those services for which it exercises discretion. The Investment Consultant further acknowledges that it is a fiduciary with respect to these services that consist of investment advice that satisfies the ERISA definition of such service being fiduciary in nature. Accordingly, the Investment Consultant is under a duty to exercise a skill greater than that of an ordinary person, and the manner in which advice is handled or services are rendered will be evaluated in light of the Investment Consultant s superior skill. Investment Managers The managers of the funds/investment strategies selected by the Board are responsible for making investment decisions consistent with the approach stated in relevant prospectuses, investment manager agreement and contracts. Investment managers are also responsible for reporting investment results on a regular basis as determined by the Board. As deemed necessary, each investment manager will be expected to meet with the Board and/or its representative(s) and to provide: A verbal and written review of their investment performance and portfolio structure. A synopsis of their key investment decisions, their underlying rationale and expected future implications. An organizational update. Compliance with this Policy. Managers are also required to immediately notify the Board (or its designees) and the Investment Consultant in writing of changes in fund operation and personnel that may negatively impact performance. This includes any organizational or strategy changes that impact asset management. Custodian/Insurance Provider The Custodian/Insurance Provider will be responsible for performing the following in conjunction with Plan and statutory provisions: Complying with all applicable rulings, regulations, and legislation. Acting in accordance with the provisions of trust and/or custodial agreements and annuity and other insurance contracts. Reporting financial transactions and preparing periodic summaries of transactions, asset valuations, and other related information as deemed appropriate by the Board. Mercer Investment Consulting 21

24 Third Party Administrator The Third Party Administrator is responsible for performing the following in conjunction with Plan and statutory provisions: Updating changes in the Plan. Educating and communicating the investment options offered in the Plan. Accepting and initiating employee investment direction. Enrolling new employees in the Plan. Processing new employee information. Processing distributions. Administering the loan program for the Plan. Maintaining and updating participant accounts. Preparing activity reports. Preparing participant statements. Performing general administration of the Plan. Marketing the Plan. Mercer Investment Consulting 22

25 8 Appendix Stable Value Guidelines The Stable Value Fund is currently invested using a separate account investment vehicle. Due to the unique nature of the Plan s demographics and cash flow needs and the use of a separate account investment vehicle, it is necessary to develop and maintain specialized guidelines for the investment of the Stable Value Fund. Attached are the current guidelines for the Stable Value Fund. It is expected that the Board in conjunction with its Investment Consultant and direction from the Stable Value Investment Manager will periodically evaluate these guidelines for appropriateness and fit with the Plan s overall goals and objectives. Mercer Investment Consulting 23

26 I. INVESTMENT OBJECTIVES The primary investment objective of the Stable Value Fund (the Account) is preservation of capital. Within this objective, the Stable Value Investment Manager (the Manager) retained by the Board will also seek to achieve a reasonably stable monthly return, a high level of liquidity for participant withdrawals and a total return which, over time, exceeds that of the 5-Year Rolling Constant Maturity Treasury. II. INVESTMENT STRATEGY The Manager will seek to achieve the Account s objectives by assembling a portfolio consisting primarily of stable value products, as described in these Investment Guidelines. A. Permitted Investments The Account s assets may be invested in the following sectors: (1) Guaranteed Investment Contracts (GICs)/GIC Alternatives. (2) Wrapped Fixed Income investments as described in Summary Description of Account Investment Sectors below, wrapping the following fixed income securities: (a) Units of collective investment funds ( CIFs ), shares of mutual funds, or actively managed accounts, which may include CIFs and mutual funds which provide for book value accounting as part of the CIF or mutual fund structure. Any CIF or mutual fund investment shall have a stated target minimum average credit rating of AA-. (b) U.S. Treasuries and other securities backed by the full faith and credit of the U.S. Government. (c) Securities rated AAA at time of purchase and issued by U.S. (d) Government Sponsored Entities or supranational organizations. Other fixed income investments such as mortgage-backed securities, asset-backed securities, collateralized mortgage obligations, corporate debt obligations and structured notes, in each case rated AAA at the time of purchase. (3) Units of Stable Value CIFs or shares of Stable Value mutual funds not otherwise included in (2) above which provide book value accounting as part of the CIF or mutual fund structure, or separately managed accounts. Each of the foregoing investments shall have a target minimum average credit rating of AA- at the time of purchase. (4) Cash or Cash Equivalents, including Trustee s short-term reserve funds. Mercer Investment Consulting 24

27 B. Account Transition and Diversification At the time of this Agreement, the Account s assets are invested in the SEI Stable Asset Fund. Beginning the date hereof, the Manager will transition the Account over time to the allocations set forth below. The timing and extent of the transition will be determined in the sole discretion of the Manager in its fiduciary capacity, and will be dependent on, among other factors, market conditions, the growth of the Account, the level of participant activity and the availability of investment opportunities and alternatives. Sector Target Allocation Min/Max Allocation GICs/ GIC Alternatives 0% - 20% 0%/35% Wrapped Fixed Income: 60% - 90% 0%/100% Core AAA 55% - 75% 0%/100% Broad Market 10% - 30% 0%/30% Stable Value CIF 5% - 15% 0%/100% Cash/Cash Equivalents 0% - 3% 0%/10% C. Summary Description of Account Investment Sectors Wrapped Fixed Income: The Wrapped Fixed Income component may consist of a portfolio or portfolios of fixed income securities and one or more agreements to provide book value liquidity ( Book Value Wraps ) with respect to fixed income portfolios for Plan benefit payments. All Book Value Wrap issuers shall be on the Manager s approved wrap issuer list at the time of placement. In addition to individual securities holdings, this component may consist of actively managed portfolios of fixed income securities subject to a sub-advisory agreement with one or more external managers, units of CIFs, or shares of mutual funds, including actively managed portfolios of fixed income securities, CIFs, or mutual funds to which the Trustee or the Manager, or an affiliate of the Manager, acts as adviser or subadviser thereto. CIFs authorized for investment by the Manager specifically include the Dwight Target 2, Dwight Target 5, Dwight Intermediate Core and Dwight Intermediate Core Plus Funds, for which Old Mutual Asset Management Trust Company serves as trustee and the Manager serves as the investment adviser. In each instance, the investment guidelines established for such actively managed portfolios, CIFs, or mutual funds will govern that investment. The Manager will be responsible for periodically monitoring the compliance of the actively managed portfolios and CIFs with their stated investment guidelines thereunder. Compliance of the mutual funds with their stated prospectus is subject to the oversight of the mutual fund s Board of Directors. The maturity dates of Wrapped Fixed Income investments may be fixed or open, and the interest rates, while fixed for a certain period of time, may be reset from time to time over the life of the contract. Stable Value Collective Investment Funds: The Stable Value Collective Investment Funds component shall consist of fixed income assets with similar objectives as set forth herein. Account assets may be invested in units of CIFs or shares of mutual funds, including CIFs and mutual funds to which the Manager, or an affiliate of the Manager, Mercer Investment Consulting 25

28 acts as adviser or sub-adviser thereto. The investment guidelines established for any such CIF or mutual fund will govern that investment. The Manager will be responsible for periodically monitoring compliance of the CIFs with the stated investment guidelines thereunder. Compliance of mutual funds with their stated prospectus is subject to the oversight of the mutual fund s Board of Directors. GICs/GIC Alternatives: The GICs component will generally consist of investment contracts backed by the general or separate account assets of qualified insurance companies or major money center banks or other financial institutions. GIC Alternatives consist of GIC-like investments not backed by the general account assets of insurance companies. GIC/GIC Alternatives are limited to those issued by companies included on Dwight s list of issuers approved for new investments, as in effect from time to time. Dwight will provide its approved list to the Committee or its authorized representative quarterly. Dwight will limit the Account s exposure to any one GIC or GIC Alternative issuer to no more than 10% of the Account s assets on a dollar weighted basis, measured at the time of purchase. D. Minimum Crediting Rate and Declaration Based on annual direction from the Board (prior to the beginning of a new fiscal year starting on July 1st), the Manager shall obtain for the benefit of the Account a wrap contract(s) under the guidelines set forth in these Investment Guidelines, to provide a Minimum Crediting Rate for each fiscal year from July 1st to June 30th for the Account. The Manager shall also provide notice of a stated quarterly rate of return, in advance of the applicable quarter, for the Account. The Manager shall coordinate with the Plan s Third Party Administrator to provide the information needed to accurately and timely declare this rate. The calculation of the quarterly rate of return will disclose any actual/projected earnings/shortfalls incurred in a given calendar quarter. E. Deviations Deviations from the above diversification requirements are acceptable if at the time of the investment it is known that such deviation will occur and will subsequently cease within the succeeding six months or upon a schedule mutually agreed to by the Manager and the Board or its authorized representative. The Manager has investment discretion with respect to the Account and if it believes the guidelines set out above (or anywhere else in these guidelines) may adversely affect its investment results or fiduciary responsibility, the Manager will immediately bring this matter to the attention of the Board, its Investment Consultant and its authorized representative prior to making deviations from these guidelines. Mercer Investment Consulting 26

29 F. Liquidity for Participant Withdrawals Liquidity from the Account will be funded from the cash reserves and the CIF position. The Account will allow for participant-directed withdrawals on a daily basis. G. Account Duration The duration of the Account shall be targeted to be 3.0 years, with a permissible range of 2.5 years to 5.0 years. H. Account Quality The average quality of the Account shall be AA/Aa or better. I. Collective Investment Trusts In the event Account assets are invested in a collective investment trust, the declaration of trust or other governing document shall be deemed adopted by, and incorporated into, the Plan. Further, solely for the Account assets invested in a CIF, the trustee of such trust shall be deemed a trustee of the Plan and the investment manager and any sub-advisor thereto shall be deemed an investment manager and sub-advisor to the Plan. J. Securities Lending The Manager, or an affiliate of the Manager, may only engage in securities lending indirectly or directly in eligible CIFs (specifically including the Dwight Target 2, Dwight Target 5, Dwight Intermediate Core and Dwight Intermediate Core Plus Funds) pursuant to the requirements of Prohibited Transaction Exemption ( PTE ) 81-6 (or any successor exemption) using assets held in the Account and invest the cash collateral received therefrom. Security lending activity by the Manager, or an affiliate of the Manager, shall not be permitted for other asset held in Account without prior approval from the Board. For eligible CIFs (specifically including the Dwight Target 2, Dwight Target 5, Dwight Intermediate Core and Dwight Intermediate Core Plus Funds), pursuant to PTE (or any successor exemption), the Manager, or any affiliate of the Manager, who acts as the securities lending fiduciary with respect to the direct or indirect loan of the Account s securities, including, the reinvestment of the cash collateral thereof, shall be entitled to receive an amount equal to 50% of the net revenue earned by the Account on such loans. Mercer Investment Consulting 27

30 Mercer Investment Consulting, Inc. One Union Square 600 University Street, Suite 3200 Seattle, WA

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