Over the last decade, the S&P 500, a benchmark for the U.S. stock market, enjoyed an average annual return of 13.6 percent. Over that same period, Vermont's public pension funds earned an average of just 7.2 percent a year from its investments.

While pension assets are typically allocated to safer but less profitable investments than the S&P, the returns on Vermont's $5.3 billion pension system also fell well short of most similarly sized public pension plans in the nation. Sixty-nine out of 100 such plans performed better than Vermont's over that period.

Most troubling to some lawmakers is that the state's pension plans have consistently missed even their own conservative investment goals, compounding the chronic underfunding that has put the system in a precarious financial position.

"Until very recently, the performance of Vermont pensions has been horrendous," Rep. John Gannon (D-Wilmington) said at one of several tense legislative hearings on pension reform last week.

The investment returns have become a flash point in the debate over how to fix the pension system that 18,500 retired state workers and teachers and 17,300 current employees rely upon.

The gulf between the $5.3 billion the plans have on hand and what they'll need to cover their obligations over the next 17 years has grown to more than $3 billion. That gap, known as the unfunded liability, has saddled lawmakers with a surprise $316 million bill for this year's needed state contribution to the pension funds — $97 million more than expected. The House is now proposing a controversial rescue package that is part bailout and part restructuring of future oversight of pension investments.

The reform proposal includes an additional one-time infusion of $150 million to boost the system's assets. School and public employees would have to kick in an additional 1 to 2 percent of their salaries for sharply curtailed benefits. If investment returns fell short, higher-paid employees would also pay progressively more. Most employees would also have to wait until age 67 to receive full benefits, up from 62 to 65. And cost-of-living increases for future retirees would only apply to the first $24,000 of income until the funds bounced back.

Employees were not amused.

"I urge you to scrap this entire plan, go back to the drawing board, and share this burden among all Vermonters, especially those most able to pay," Eric Hutchins, a history teacher at Lamoille Union High School, told the House Government Operations Committee last Friday.

Democratic lawmakers have sought to highlight the role that anemic returns have played in the crisis. In order for the pension system to be financially sustainable, appointees who oversee its investments need the financial expertise to make course corrections, said Rep. Sarah Copeland Hanzas (D-Bradford), chair of the House committee.

"We can't just set it and forget it," she said. "This is too important."

State Treasurer Beth Pearce, whose office oversees but does not fully control the pension system, has bristled at lawmakers' focus on investment performance, viewing it as a futile exercise in finger-pointing that ignores recent portfolio improvements and clouds the path forward. She told lawmakers she was "troubled" by their response to the crisis and likened it to the "very dysfunctional process" in Washington, D.C.

"Everybody is upset, and they're looking for somebody to blame," Pearce told Copeland Hanzas' committee last week. "What we're supposed to be doing is solving the problem together."

Many factors unrelated to investments contribute to the solvency of a pension system. Some are reasonably easy to predict, such as how much money employees are contractually required to contribute. Others can be tougher to forecast, such as the rate at which employees retire, how long they live once they do and decisions to offer early retirement incentives. Pearce has said such factors are bigger drivers for the shortfalls than investment performance.

But how wisely the state's two funds — one for state employees and the other for teachers — are invested nevertheless has an impact on how the funds grow, and thus how much taxpayers need to contribute every year when they don't grow as much as expected.

So while the September decision by the plans' investment committee to reduce the assumed rate of future investment return by half a percentage point — from 7.5 to 7 percent — might seem like a minor tweak, it was actually a tectonic shift. The Vermont Pension Investment Committee was effectively acknowledging that the state shouldn't expect Wall Street to correct the system's shortfall.

Lawmakers, in turn, are taking a keen interest in the arcane world of pension fund investing. Gannon, a former investigator at the U.S. Securities and Exchange Commission, has played the role of chief inquisitor, seeking to hold witnesses accountable for the funds' underperformance.

"Historically, we have failed to meet our assumed rate of return, which is problematic," Gannon told Pearce, who replied by urging him not to "dwell on the past."

From 2009 to 2015, the assumed rate of return had been more than 8 percent, which the funds consistently failed to hit. The anemic historical performance has convinced many in Montpelier that any rescue package must also include an overhaul of the oversight that allowed poor returns to persist for so long.

The seven-member Vermont Pension Investment Committee advises the Vermont State Employees' Retirement System and the Vermont State Teachers' Retirement System. It also directs investment of the smaller Vermont Municipal Employees' Retirement System, but that plan is not funded by the state.

Lawmakers are proposing to replace the pension investment committee with a 15-member Vermont Pension Commission stacked with members with professional investment experience. It would be empowered to hire and fire investment managers and to set the investment return assumptions that impact the plan's health. Unions and teachers would still be represented, but a broader pool of appointees would blunt their influence.

"It's very heavily weighted toward management," complained Steve Howard, executive director of the Vermont State Employees' Association.

For years, the Vermont Business Roundtable has urged the state to take a hint from the private sector and shift away from the traditional defined-benefit pension plans, which provide retirees a guaranteed payment, and contribute instead to portable retirement plans like 401ks. John Pelletier, director of the Center for Financial Literacy at Champlain College and coauthor of a 2020 pension reform white paper for the business group, told the House committee the best way to improve oversight is to increase the role of experts who can hold money managers and actuaries accountable.

"If you really want a watchdog, you need people who know pensions and know investments," Pelletier said.

Equally important, he said, is to ensure that beneficiaries of the plans don't have a majority voice in how those funds are managed. In an interview, Pelletier explained that having too many people with a vested interest in the outcome can influence financial decision making in subtle but crucial ways.

He described something akin to a conspiracy of silence, in which beneficiaries keep in place an unrealistically high estimate of future investment returns, in part because more pessimistic forecasts might lead legislators to reduce benefits or require higher annual contributions from current employees.

"Boom, there goes one year's salary increase," Pelletier said.

State leaders might also be motivated to overlook disappointing returns year after year without raising the alarm because, in the short-term, assuming "a higher rate of return would free up cash for other programs," he noted.

The current focus by lawmakers on investment returns conveniently ignores the historic underfunding of the pension by the state going back to the 1990s, Howard said.

"I think they're looking for a way to assign responsibility for the crisis we are in to someone other than themselves," he said.

The union proposed a 3 percent tax on incomes of more than $500,000, but House Speaker Jill Krowiniski (D-Burlington) says she doesn't want to trigger a veto fight with Republican Gov. Phil Scott that she can't win.

Pension systems across the nation have been gradually lowering their assumed rates of return in response to the challenging investment environment of the past decade, especially the historically low interest rates, said Tom Golonka, chair of the pension investment committee since 2016 and a professional wealth manager.

Public pension funds don't strive to match the returns of the stock market because they must keep much of their assets in safe investments such as bonds, whose returns suffer when interest rates are low. They need to keep a significant portion of assets as cash to pay benefits, which also affects how aggressively pension funds can invest, he said.

While lawmakers are right to be concerned about the historic performance, Golonka said, he's frustrated by the focus on the past because returns have improved significantly since he took the helm. That's partly due to the committee's decisions to simplify the portfolio and reduce fees paid for more complex, highly managed funds that haven't performed as promised, he said.

"We relied too much on Wall Street, and we didn't do enough internally," Golonka said.

That has changed, evident in the 2018 decision to hire a new chief investment officer, Eric Henry, and the 2020 choice of a new outside investment adviser, Golonka said. Henry was hired by and works in the state treasurer's office.

The pension funds have beaten their targets in recent years and now rank in the top 20 percent or better of their peers when it comes to investment returns. Those topped 13 percent last year. Over three years, returns have been 8.5 percent; over five years, 9.7 percent.

Some of the proposed changes make sense, such as more frequent reviews of returns and actuarial assumptions, Golonka said. But the legislature should slow down and assess the pension investment committee's recent track record before scrapping it, he said.

Unions and other state leaders, including Pearce, are calling for a more deliberative process that would take a close look at the governance and investment returns issue over the summer.

But Copeland Hanzas said her committee has been doing a "deep dive" into best practices for public pension governance for weeks, and she doesn't see any benefit from further delay. The system's pattern of missing its targets signals to her that it can't be ignored any longer.

"Whenever there's a shortfall," she said, "the bill just gets handed to the governor and the legislature to pay."