State retirement systems remain fragile as of the end of the third quarter with investment performance of state and local pension funds falling short of targets. This is a concerning trend as each year investment returns underperform expectations, a vicious cycle perpetuates wherein contributions are being fully consumed by benefit payments, pension funds rely on investment returns to make up the balance and pre-fund benefits for active members are not being fully funded, according to Equable Institute.

State and local pension funds have been impacted by a bear market in 2022 followed by a community bank crash before markets rebounded this past summer. The average funded ratio for U.S. state and local pension funds is expected to improve from 75% to 78.8% this year and unfunded liabilities will decline slightly from $1.59 trillion last year to $1.39 trillion this year, according to Equable Institute's State of Pensions mid-year update.

The average investment return for 2023 is 5.6%, according to the report. This represents an improvement from a negative 5.9% return last year but is still below the 6.9% average assumed rate of return for U.S. pension plans. In addition, the average 10-year return is now 7.3%, the lowest it has been since 2018.