Pension Risk News & Analysis : Pension Governance, Inc. : Pension Risk & Investment

When my nephew was a little boy, he used to ask his mom (my sister) and dad about going to the grocery store to get money. What he wanted was a trip to the ATM machine (by the veggies counter). Type a few numbers and voila - lots of green things to buy toys. How amazing!

Alas, young men and women grow into adults who work, pay taxes and hopefully save for vacation, a new home and retirement. Unfortunately, mounting per capita debt makes it harder to plump the coin jar, regardless of discipline. According to Owen and Payne, we each owe $184,000. Ouch!

Looking on the bright side, getting started early is a good idea. Kudos to the ABA Education Foundation for creating National Teach Children to Save Day - April 21, 2009 this year. The goal is to teach youngsters about "four important money choices: SAVE, SPEND, DONATE and INVEST."

Kiddies - just remember. Too much government pork robs you little ones of enough disposable income to add to Mr. Piggy Bank (but that's a topic for another day).               

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In case you missed it, April is National Humor Month. Created by "best-selling humorist Larry Wilde, Director of The Carmel Institute of Humor," 2009 marks the 33rd anniversary of this celebration of fun and merriment.

For those who live in Nebraska, they must really be rolling in the aisles. What? You didn't hear?

According to a survey conducted by MainStreet.com, the home of Cliff Notes ranks top for its low number of foreclosures, low unemployment rate and low percentage of non-mortgage debt by income. Not surprisingly, Connecticut, where I call home, is number 28 out of 50 on the Happiness Index (not a good thing by the way). Being close to Wall Street, we are feeling the pinch of financial layoffs and plummeting portfolio values. California, Florida and Oregon rank 48, 49 and 50, respectively.

Along the lines of "feel good" action, I read an interesting article in the May 2009 issue of Reader's Digest in which Stanford University psychologist Carol Dweck advocates the benefits of failure. According to "How Failure Makes Us Stronger," psychology and neuroscience professor Antoine Bechara has identified two parts of the brain that are responsible for the "fear of failure" and the "lure of success." For certain individuals, the physiological response to failure is a chance to learn.

At a time when many professionals feel under siege for economic losses or sub-par performance or both, one silver lining may be new math, i.e. Failure = Second Chance.

Unfortunately, recent research suggests that not every one is ready to act anew. According to "Managers fail to control hazards" (April 6, 2009), Financial Times reporter Sophia Greene says "not so fast." Citing results of a new risk management study, certain factors such as liquidity risk have not yet "been built into risk models," possibly leaving portfolio managers (and therefore pensions, endowments and foundations) unduly exposed. In contrast, investors are described as committed to asking asset managers about risk management policies, with 10 pages of a typical Request for Proposal ("RFP") being dedicated to "risk of all sorts." In its press release, survey sponsor SimCorp describes "the lack of monitoring of strategic risk" as a concern, along with a less than robust commitment by senior management as reflected in its analysis. For an overview of other findings, read "Global survey reveals that risk function has lost status despite financial crisis" (April 1, 2009).

Recall that Pension Governance, LLC (now Pension Governance, Incorporated) and the Society of Actuaries discovered a similar lack of enthusiasm about risk management and fiduciary duties in its research. Click to access the 69-page study entitled "Pension Risk Management: Derivatives, Fiduciary Duty and Process" by Susan Mangiero. For an overview of that research, read "New Study Addresses Pension Risk Management Gaps" (October 13, 2008).

Can looking the other way make for a happy institutional investor or asset manager? Hopefully, the final answer is "no" and "open to improvement" wins the day.

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Spring brings flowers, rain and April Fool's Day. Different from other topics, April 1 doesn't seem to be a laughing matter anywhere around the world when it comes to retirement issues.

• The Pension Fund Regulatory and Development Authority in India sets April 1, 2009 as a date to expand pension plan products to citizens other than government workers. See "New pension scheme for MFs from April 1," Economic Times, March 18, 2009.
• Contributions increase for British Columbia Public Service Pension Plan participants as of April 1, 2009. See "B.C. pension contribution increase set for April 1."
• Russian pensioners saw contributions rise on April 1, 2008. See "Pensions to increase 250 rubles from April - minister 1," Russian News & Information Agency, March 26, 2007.
• Certain Canadian pension liabilities will be valued differently after April 1, 2009. See "Determination and Transfer of Commuted Values," Office of the Superintendent - Pension Commission, Manitoba, February 2009.
• National Football League retirement plan participants saw benefits drop, effective April 1, 2007. See "NFL Retirement Plan Amendment Reduces Pension Payout to Participants," RetiredPlayers.Org, March 31, 2008.
• The Texas Pension Review Board meets on April 1, 2009. Click to read the agenda.
• New UK tax laws permit expanded contributions for self-directed plans as of April 1, 2009. See "Pensions: 10 ways to boost your retirement income, Part 1" by John Lawson, Standard Life, March 26,2009.
• New Jersey municipalities must pay at least half of their annual pension bill by April 1, 2009. See "Pension Bills to Surge Nationwide" by Craig Karmin, Wall Street Journal, March 16, 2009.

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Photo Source: Oakland Public Library

I put myself through college and graduate school. It was a tough road, strewn with bumps, potholes and lots of worry about what the future would hold. If someone can advance his or her career without the stress and uncertainty of bootstrapping, I say "go for it." Who needs the aggravation? That said, and in the spirit of searching for the silver lining in every situation, I like to think of myself as a survivor of sorts. Where others see failure, I see opportunity. Don't get me wrong. I've had a few pity parties but I try keep them as short as possible. Acknowledging that many of us are graduates of the School of Hard Knocks, where do you go with "woe is me?"

Tonight's blog inspiration (not necessarily tied to pension decision-makers alone) is a CNBC television show entitled "Finding a Job Now: What It Takes In This Economy." During this hour-long program, employment experts and commentators offered helpful tidbits for downsized executives including, but not limited to, saying yes to low-paying work, even if it entails underemployment for awhile.

In "Downsized Executives Forced To Take 'Survival' Jobs," Michael Luo (New York Times, March 1, 2009) provides a case in point, i.e. a former security manager who currently works at a friend's cleaning company. While there is no question that the dichotomy between career desires and reality can be punishing, financially and emotionally, one has to applaud this man's work ethic and sense of integrity. He gets a gold star in my book.

Countless headlines excoriate Wall Streeters for getting bonuses tied to sub-par performance. Yet others go about the business of life, quietly and without fanfare. That such noble folks take responsibility should bring a smile to everyone's face, don't you think?

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 At a time of great market turmoil, plan participants, shareholders and taxpayers want to know whether their retirement plans are in good hands. Risk is truly a four-letter word unless plan sponsors can demonstrate that a comprehensive pension risk management program is in place. Unfortunately, there is little information that details if, and to what extent, plan sponsors are doing a credible and pro-active job of identifying, measuring and mitigating a variety of risks. The risk alphabet includes, but is not limited to, asset, operational, fiduciary, legal, accounting, longevity and service provider uncertainties.

While no one could have predicted the extreme volatility that characterizes the current state of global capital markets, it has always been known that poor risk management can make the difference between economic survival and failure. Applied to pension schemes, ineffective risk management could prevent individuals from retiring at a certain age and/or leaving the work force with much less than anticipated. Others pay the price too. Taxpayers worry about rate hikes that may be inevitable for grossly underfunded public plans. Shareholders could find themselves on the hook for corporate promises or experience depressed stock prices due to post-employment benefit obligations.

In an attempt to shed some light on this critical topic area, Pension Governance, LLC is pleased to make available a new research report that explores current pension risk management practices. In what is believed to be a unique large-scale assessment of pension risk practices since the publication of a 1998 study by Levich et al, this survey of 162 U.S. and Canadian plan sponsors seeks to: (1) understand why and how pension plans employ derivative instruments, if they are used at all (2) identify what plan sponsors are doing to address investment risk in the context of fiduciary responsibilities and (3) assess if and how plan sponsors vet the way in which their external money managers handle investment risk, including the valuation of instruments which do not trade in a ready market. The report was written by Dr. Susan Mangiero, AIFA, AVA, CFA, FRM, with funding from the Society of Actuaries.

Each survey-taker was asked to self-identify as a USER if he/she works for a plan that trades derivatives in its own name. A NON-USER works for a plan that does not trade derivatives directly but may nevertheless be exposed indirectly if any of the plan's asset managers trade derivatives.

In answering broad questions, a large number of surveyed plan sponsors describe themselves as doing all the right things to manage investment, fiduciary and liability risks. However, answers to subsequent questions - those that query further about risk procedures and policies at a detailed level - do not support the notion that pension risk management is being addressed on a comprehensive basis by all plans represented in the survey sample.

Key findings include the following points:

• Plan size seems to be one factor that distinguishes USERS from NON-USERS, with 39% of USERS managing plans in excess of $5 billion versus 14% of NON-USERS associated with plans larger than $5 billion.
• Pension decision-making appears to vary considerably by job function, with 48% (37%) of USERS (NON-USERS) choosing "Other" rather than selecting from given titles such as Actuary, Benefits Committee Member, CFO or Human Resources Officer.
• Time allocation varies considerably with 64% (40%) of USERS (NON-USERS) saying they devote 75 to 100 percent of their work week on pension issues. In contrast, 37% of NON-USERS say they spend 0 to 24% of their work week on pension issues.
• A majority of USERS (64%) and NON-USERS (48%) have had discussions about the concept of a fiduciary duty to hedge asset-related risks. A smaller number say they have discussed the concept of a fiduciary duty to hedge liability-related risks.
• Few plans currently embrace an enterprise risk management approach with 59% (57%) of USERS (NON-USERS) responding that their organization does not use a risk budget. When asked if their organization has or is planning to hire a Chief Risk Officer, 57% (64%) of USERS (NON-USERS) answered "No."
• NON-USERS cite numerous reasons for not using derivatives directly, including, but not limited to, "Lack of Fiduciary Understanding" (25%), "Perception of Excess Risk" (31%), "Considered Too Complex" (23%), "Prohibition Against Possible Leverage" (19%) and/or "Defined Benefit Plan Risk Not Considered Significant" (28%).
• A query about whether survey-takers review external money managers' risk management policies results in 70% (58%) of USERS (NON-USERS) responding "Yes." Fifty-two percent (57%) of USERS (NON-USERS) say they review external money managers' valuation policies. This survey did not drill down with respect to the rigor of questions being asked.
• Survey respondents seem to rely mainly on elementary tools to measure risk. Eighty-three percent (64%) of USERS (NON-USERS) rank Standard Deviation first in importance. Seventy-nine percent (63%) of USERS (NON-USERS) rank Correlation second. Only one-third (38%) of NON-USERS cite Stress Testing (Simulation). Four out of 10 USERS cite Value at Risk in contrast to 23% of NON-USERS who do the same.
• Survey respondents worry about the future with 58% (60%) of USERS (NON-USERS) ranking "Accounting Impact" as a concern. Other concerns were also noted to include "Regulation," "Longevity of Plan Participants" and "Fiduciary Pressure."

Click to download the 69-page study, entitled "Pension Risk Management: Derivatives, Fiduciary Duty and Process" by Susan Mangiero. Given the large file size, readers are encouraged to (a) first save the file (right mouse click) and then (b) open the file from wherever you have saved the file. Otherwise, you may receive an error message, depending on your computer configuration. 

The study is also available by visiting www.pensiongovernance.com. Send an email to PG-Info@pensiongovernance.com if you experience any difficulty in downloading the pdf file and/or want to comment about the study.

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According to a new study, retiring at age 67 may not be in the cards for many individuals, partly by choice. Tracking desires and expectations of American workers, a newly created Sun Life Financial Unretirement^SM Index suggests that 8 out of 10 persons want to continue working as a way to "stay mentally engaged." Other results are not surprising. Fewer than half of the respondents feel they can afford to stop working. One-third of survey-takers worry about the financial viability of Social Security. One coping mechanism, cited by 82 percent of the sample group, is to reduce their spending with about two-thirds of respondents saying they will lower their debt as a way to "improve retirement prospects" For more information about this attitudinal metric, click here.

Nice as it is to have choices about when to retire, the recent market rout makes it difficult at best for some to consider anything else but continued employment (assuming no layoffs by their employer). Yahoo! News references Congressional research that "Americans' retirement plans have lost as much as $2 trillion in the past 15 months." Making matters worse, economic conditions that result in lower wages make it difficult for some to keep saving for retirement, if they did so in the first place. Click to read "Retirement accounts have lost $2 trillion" by Julie Hirschfeld Davis, October 7, 2008.

In an interview with PBS, Peter Orszag, Director of the Congressional Budget Office, explains that "two-thirds of the assets that are in 401(k) plans are in stocks," exposing plan participants to fallout, just like institutional investors. He adds that economic problems are already impacting defined benefit plans. As the value of their asset portfolio drops, companies will need to "put in more money, and that will come out of either their shareholders, their workers, or they'll try to pass it along to their consumers." Click to read "Market Turmoil Puts Squeeze on Retirement Savings," October 9, 2008.

This blog has covered changing demographics and retirement angst for months. One can only hope that the current market malaise is short-lived and that individual savings goes up (or at least excess leverage goes down), to the extent that individuals can afford to put monies aside for post-employment consumption.

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I'd like to depart from the usual commentary about financial issues and devote this blog post to the celebration of people who err on the side of kindness and integrity, especially when faced with adverse circumstances. Putting a face on otherwise abstract notions makes a difference and so it is that I talk about computer science professor Randy Pausch.

In case you missed it, this Carnegie Mellon University favorite died a few days ago of pancreatic cancer, at the age of 47. His death was anticipated and highly publicized as part of  "The Last Lecture" or "Really Achieving Your Childhood Dreams." If you haven't seen it, I highly recommend at least one viewing. You can also buy the book version of The Last Lecture, co-authored by Pausch and Wall Street Journal reporter, Jeffrey Zaslow.

While I was originally interested in watching the video of this hour long talk because of the large amount of press it received, awe and inspiration took over as I saw Dr. Pausch interviewed on several television programs thereafter. Despite his pain and the tragic knowledge of an imminent demise, he always seemed upbeat and considerate. His sense of humor no doubt continues to help others cope with their loss of a son, father, husband, friend, colleague and "citizen of the world."

While Professor Pausch will be remembered by many, it is good to know that his optimism and courage are not unique. How many people have we met in our lives who have received "more than their fair share of problems" yet greet you with a smile or handshake? I thank my lucky stars for knowing such individuals.

So how does this relate to a pension blog? Well, for one thing, it's good to remember that money is only one of many currencies. While it's critical to have the financial wherewithal to retire comfortably, perhaps just as important is to possess the ability to enjoy the things that money cannot buy.

On a professional note, integrity and courage are paramount when we talk about solidifying the three-legged post-employment stool. At a time when fiduciaries are seldom applauded for their hard work, let's look for ways to improve the reward system for good players (and penalties for those who are sloppy or impervious to their duties). 

Though I acknowledge my propensity as a Cassandra (or Dr. No as some have suggested), I'm much happier helping folks put productive solutions in place. To those fiduciaries who share that view and work tirelessly on behalf of millions of individuals, bravo! Take a bow.

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According to New York Post reporter Dareh Gregorian ("Screw the Pooch," June 16, 2008), Leona Helmsley's furry friend will have to make do with a paltry $2 million trust fund. Allegations that Helmsley may not have had full faculties when she wrote her will, and a single stroke of the pen by Manhattan Surrogate Judge Renee Roth, takes $10 million away from Trouble's nest egg. The remainder goes to the former hotelier's charitable foundation. For pet lovers, don't despair. Apparently, this still leaves ample money to cover her annual expenses of $190,000 for the expected remainder of his life (10 human years or 70 dog years). By the way, the lion's share of per annum costs go for security ($100,000) and guardian fees ($60,000). 

If you are a member of the baby boom generation (and the Federal Reserve Bank of St. Louis counts "79 million Americans born between 1946 and 1964" in this category - plus countless others outside the U.S.), $190,000 per year looks mighty good. With fewer and fewer workers to support national safety net programs, private savings and employer-provided benefits take center stage. Ask yourself this. How "retirement ready" are you? Will you be living in style or struggling to make ends meet? Check out this online retirement calculator, courtesy of the AARP (American Association of Retired Persons).

For pension fiduciaries, a critical question is whether (and to what extent) you have responsibility for empowering your workers to sufficiently fill the piggybank. Even in the absence of legal mandates, how does an organization attract and keep good workers when talent is in short supply around the world? According to a March 2008 survey, conducted by Deloitte Consulting and the International Society of Certified Employee Benefit Specialists, "A shortage of skilled and talented workers has become the most pressing concern among employers." Other worries include "the cost of providing retirement benefits to employees" and the appeal of company reward programs to "attract, motivate, and retain the talented employees" needed to "effectively run" an organization. Click to read the "2008 Top Five Total Rewards Priorities Survey."

If you are a taxpayer, you may be putting money aside for your personal rainy days at the same time that you pay taxes to help finance public pension programs (state, county, city). And if Social Security, Medicare and/or the Pension Benefit Guaranty Corporation needs a bail-out, who ya gonna call? Tax Busters (taxpayers)! 

According to then U.S. Comptroller General, David Walker, "A tsunami is building and ready to hit future generations, but this one won't be set off by earthquakes or other natural disasters. Instead, it will be a fiscal calamity created by the failure of government and business leaders to deal with the financial drain of millions of retiring baby boomers." (Walker now serves as President and CEO of the Peter G. Peterson Foundation.)

So Trouble may be literally living a dog's life but her retirement plan, albeit reduced, will keep the furball cozy. We could all be so fortunate!

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As companies and government employers shed their traditional defined benefit ("DB") plan offerings, defined contribution schemes become absolutely and proportionally more important to individuals. In two new papers published by the National Bureau of Economic Research ("NEBR"), authors James Poterba, Steven Venti and David Wise conclude the following:

• Self-directed retirement assets will outflank DB plans by 2010, "even though defined benefit plans remain the most important source of retirement assets for federal, state, and local employees."
• The growth in self-directed retirement assets are influenced by a number of factors. These include (a) expected stock returns and bond yields (b) number of employees permitted to participate (not currently enrolled) and (c) asset allocation mix.

Citing data from the Survey of Income and Program Participation ("SIPP"), the research trio reveals that "only 5.8 percent of 44-yers old had 401(k)-type accounts" some 20 years ago. In 2003, that number had escalated to 44.3 percent. In 2000, per capita retirement assets for individuals about to exit the labor pool, and in their mid-60s, averaged nearly $30,000. A decade from now, available assets are projected to rise to $90,000 (in terms of year 2000 dollars). In 2040, the prediction is that nest eggs will topple $269,000.

Click here to order "Rise of 401(K) Plans, Lifetime Earnings, and Wealth at Retirement" (NBER Working Paper 13091) and "New Estimates of the Future Path of 401(K) Assets" (NBER Working Paper 13083).

Wall Street Journal reporter Jennifer Levitz offers a competing, albeit grim, reality. In "Americans Delay Retirement As Housing, Stocks Swoon," she writes that graying Americans favor longer work lives for a variety of reasons. Preservation of health benefits is one factor. Sagging equity returns in 2000-2002 didn't help, especially for those employees who had allocated a big chunk of their savings to stocks. Of course, no trend exists in isolation. A delay in retirement means younger workers will face more competition for promotions or even jobs though the impact is uneven across industries. Skilled workers are nearly always welcome, being indispensable for many knowledge-oriented businesses. Though written on April 1, her description of a brave new world is no April Fool's joke. Companies are fast being forced to reckon with changing demographics and altered employment patterns.

As a colleague aptly bemoans, the retirement trifecta (Social Security, juicy defined benefit plan payouts and hefty salaries, let alone a job) is a fantasy for most everyone still in the work force. For those who expect to live as well as your grandparents or parents, good luck. Start pinching those pennies hard and often.

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Hot off the press, the U.S. House of Representatives says okay to amending the Securities Exchange Act of 1934 to provide stockholders more power in approving executive pay. Click here to read the Shareholder Vote on Executive Compensation Act. Arguably the rationale is to empower shareholders to veto executive pay packages deemed "excessive." One can argue about the efficacy of the legislation (and likely will). However, it begs an interesting question for citizens of pension land.

What type of say do they get about the operation of a defined contribution and/or defined benefit plan? How can they corral perceived conflicts of interest, alleged misdeeds and/or questionable decisions? On the flip side, how can they say "bravo" to effective investment stewards, perhaps voting for better financial rewards and job title recognition for good do bees (honest players)?

The answer - Not much!

This topic arose in 2005 when I was asked to appear on CNN Financial to talk about United Airlines. The anchor asked me to cite steps that defined benefit plan participants could take when they know a company is encountering financial difficulties and want to exit the plan or change their share of the investment mix. When I explained to the producer that employees are extremely limited in being able to exert influence over the management of the trust (other than through litigation, and only after losses have occurred), we all agreed that a gloomy message may not make for great ratings.

Sob - my fifteen seconds of fame, evaporated in a moment of candor.

So now that Congress is taking steps to empower shareholders, why not tackle the same for plan participants? Yes, post-Enron, reforms were made. No, to this day, plan participants still have little influence on whether a plan is well run or not.

Part of the problem arises because information is scattered, often obtuse when available and sometimes contradictory (depending on the source). And for those on the outside looking in, access to documents such as the Summary Plan Description (SPD) is nil.

Just an aside - This issue of limited beneficiary control extends to defined contribution plans as well.

Hence, plan participants MUST depend on the integrity, knowledge, experience and solid intentions of the persons in charge.

So to all of those plan beneficiaries everywhere - ask yourself this. How much do you know about the people in charge? Would you like to know more?

To plan stewards - If you aren't providing transparency about everyone with authority to make decisions about plan design and investment governance, wouldn't it be a good idea to do so? Besides creating a sense of "I don't want to hide anything," you open the door to suggestions for improvement and possibly close a door to litigation or otherwise unwanted scrutiny.

Why wait?
Continue Reading...

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