Derivatives, De-Risking and Disclosures

According to survey results provided in "Pension Plan De-Risking, North America 2015" (published by Clear Path Analysis and sponsored by Prudential Retirement), "pension risk management remains a principal concern for many plan sponsors." This should come as no surprise. Low interest rates, longer lifespans and anemic funding levels are a few of the concerns cited by the fifty-one senior professionals who answered questions. Half of the respondents agree that implementing a risk management strategy sooner than later makes sense, with one out of four individuals indicating an intent to transfer risk to an outside insurance company in 2015. Three out of four survey-takers "believe that movement in interest rates will impact their decisions to implement a liability driven investment strategy, or to execute a bulk annuity transaction." When asked about the use of alternatives such as hedge funds, fourteen percent replied that they currently use and seek to increase. One third currently allocates to alternatives and two percent look to introduce. Assuming that a respondent can only answer this question once and that there is one survey-taker per pension fund, this means that there is roughly a fifty-fifty split when it comes to including alternatives as part of a defined benefit plan investment portfolio.

If true that lower interest rates may discourage some plan sponsors from fully transferring risk to a third party insurer via a buy-out but they nevertheless seek to more actively manage pension risks, one could logically expect a greater use of a strategy such as Liability-Driven Investing ("LDI"). To the extent that LDI frequently entails the use of derivatives, those plan sponsors in favor of LDI may want to take note of a recent move by the U.S. Securities and Exchange Commission ("SEC"). As I just posted to my investment risk governance blog, certain registered funds could soon be asked to publish a considerable bounty of data about how they price securities, characteristics of trading counterparties and the specific use of derivative instruments. See "SEC and Asset Manager Disclosures About Use of Derivatives" (May 21, 2015). Sometimes an LDI strategy can include an allocation to alternatives. Post Dodd-Frank, lots of alternative fund managers are registering with the SEC. Connecting the dots, plan sponsors that use LDI and/or invest in alternatives are likely to benefit from enhanced disclosures made by asset managers.

Even those sponsors that decide on a risk transfer of some type other than LDI will soon be impacted by reporting mandates. In "Employers must disclose pension de-risking efforts to PBGC," Business Insurance contributor Jerry Geisel explains that data regarding lump sump arrangements will have to include answers to questions such as those listed below:

  • How many plan participants "not in pay status" were offered a chance to switch from a monthly annuity to the lump sum payout?
  • How many plan participants "in pay status" were given a choice?
  • What was the number of participants who made the choice to take a lump sum?

In its filing with the Office of Management and Budget ("OMB"), the Pension Benefit Guaranty Corporation ("PBGC") writes that "de-risking" or "risk transfer" events "deserve PBGC's attention because (among other things) they lower the participant count and thus reduce the flat-rate premium and potentially the variable rate premium." Fewer dollars being paid for this last-resort insurance "have the potential to degrade PBGC's ability to carry out its mandate..."

Given the complexities of managing pension risks and the regulatory changes underway, you may want to attend the May 27, 2015 educational webinar entitled "Pension De-Risking for Employee Benefit Sponsors: Avoiding Litigation and Enforcement Action." I hope you can join us for a lively and topical event.

Pension De-Risking Gets Political

I have long maintained that retirement plan issues receive considerable attention whenever politicians enter the fray. Certainly that is the case with the U.S. debate about fiduciary standard rules among lawmakers, industry and regulators. Now it seems that de-risking is the next topic du jour for Congress.

According to "2 senators call for derisking rules" by Hazel Bradford (Pensions & Investments, October 23, 2014), U.S. Senate Finance Committee Chairman Ron Wyden (a Democrat from Oregon) and the Chairman of the Health, Education, Labor and Pensions Committee, Tom Harkin (a Democrat from Iowa) have asked government officials at various agencies to "consider developing guidance on procedures and the fiduciary duties of plan sponsors." The article describes their letter to the U.S. Department of Labor, the U.S. Department of Treasury, the Pension Benefit Guaranty Corporation ("PBGC") and the Consumer Financial Protection Bureau as emphasizing the involvement of insurance companies for lump-sum and risk transfer transactions.

Nick Thornton wrote in "Lawmakers urge clearer rules for de-risking" (Benefits Pro, October 23, 2014) that said letter cited concerns such as the following:

  • Loss of PBGC protection in the event of a plan takeover;
  • Risk of persons "self-directing their retirement savings over the course of their retirement";
  • Possible reduced rights for spouses when a lump sum settlement is involved; and/or
  • Loss of ERISA's protection.

There is nothing wrong with clarifying legal and economic rights but one worries that past may be prologue when it comes to imposing mandates. Too many times, overly simplistic regulation induces a perverse outcome. (Read "Unintended Consequences" by Rob Norton (Library of Economics and Liberty) for a discussion of this concept.) Given the often complex array of facts and circumstances for every ERISA plan and its sponsor, a "one size fits all" is ill-advised.

A silver lining is that national conversations can (hopefully) generate changes that encourage further saving for retirement. In "Combating a Flood of Early 401(k) Withdrawals" (New York Times, October 24, 2014), Ron Lieber paints a bleak picture. He points out that a recent announcement by the Internal Revenue Service that allows more money to be set aside as an official contribution will be of little consequence to non-savers. He describes a large number of workers who "pulled out $60 billion" of the $294 billion in employee contributions and employer matches that went into the accounts." Statistics show that about forty percent of persons in flux "took out part or all of the money in their workplace retirement plans when leaving a job in 2013."

Speaking of planning ahead, visit the Art of Saving website to learn more about an effort to make November 5 a U.S. National Savings Day. The Consumer Federation of America is promoting thrift as part of its America Saves National Savings Forum on May 20, 2015 in Washington, DC.

Get out the balloons for satisfied piggybanks.

Pension De-Risking for Employee Benefit Sponsors: Minimizing Risks and Ensuring ERISA Compliance When Transferring Pension Obligations to Other Parties

Click to register for a January 16, 2013 webinar entitled "Pension De-Risking for Employee Benefit Sponsors: Minimizing Risks and Ensuring ERISA Compliance When Transferring Pension Obligations to Other Parties." Sponsored by Strafford Publications, this Continuing Legal Education ("CLE") webinar will provide benefits counsel with a review of pension de-risking approaches used by companies to reduce some of the risks involved with employee retirement benefits. The panel will offer best practices for leveraging the precautions to prevent ERISA fiduciary law violations when making transfers.


As U.S. pension plans face record deficits, options for transferring some or all of a sponsor's plan risk make sense for many companies. General Motors, NCR and Verizon are a few companies that have chosen de-risking options in 2012.

De-risking transactions take many forms, from transferring company obligations to third parties, to offering payouts to plan participants, to undertaking liability-driven investing and other strategies. Counsel and companies must tread carefully to avoid ERISA-based litigation or enforcement actions.

Prudent de-risking requires thorough financial analysis and clear demonstrations that fiduciary standards under ERISA are met. Counsel should guide companies on how to establish the reasonableness of decisions and prepare to defend against possible court challenges.

Listen as our panel of experienced employee benefit practitioners provides guidance on precautions for companies undertaking transfers of pension plan obligations to third parties or other de-risking options. The panel will outline best practices for assembling a thorough financial review, complying with ERISA requirements, and responding to potential legal challenges from plan participants.


  1. De-risking overview
    1. Current trends
    2. Different approaches
      1. Transfers to third parties
      2. Lump sum payouts for participants
      3. Investment strategies
  2. Procedural prudence
    1. Financials
    2. Government filings and participant notifications
    3. Meeting ERISA fiduciary requirements
      1. Prudence
      2. Care
      3. Loyalty
  3. Potential challenges from plan participants
    1. Grounds for challenges
    2. Likelihood of success


The panel will review these and other key questions:

  • What kind of financial reviews are needed to support a de-risking transaction?
  • How can pension providers demonstrate they have met their ERISA standards of prudence, care and loyalty to plan participants?
  • What steps should be taken in preparation for termination of a pension plan?

Following the speaker presentations, you'll have an opportunity to get answers to your specific questions during the interactive Q&A.


Susan Mangiero, Managing Director
Fiduciary Leadership, LLC, New York Metropolitan Area

She has provided testimony before the ERISA Advisory Council, the OECD and the International Organization of Pension Supervisors as well as offered expert testimony and behind-the-scenes forensic analysis, calculation of damages and rebuttal report commentary for various investment governance, investment performance, fiduciary breach, prudence, risk and valuation matters.

Nancy G. Ross, Partner
McDermott Will & Emery, Chicago

She focuses her practice primarily on the area of employee benefits class action litigation and counseling under ERISA. She has extensive experience in counseling and representing employers, boards of directors, plan fiduciaries, and trustees in matters concerning pension and welfare benefit plans. Her experience includes representation of pension plans, ESOPs, trustees and employers.

Anthony A. Dreyspool, Senior Managing Director
Brock Fiduciary Services, New York

He specializes in the investment of assets of ERISA-covered employee benefit plans and all aspects of ERISA fiduciary law compliance.  He has more than 30 years of experience with respect to ERISA matters and has substantial knowledge in the structuring and formation of private real estate and equity funds for the institutional investment market.

PBGC Posts $34 Billion Deficit - Will Insurance Premiums Go Up?

The Pension Benefit Guaranty Corporation ("PBGC") has a challenging job that shows no sign of abating any time soon. In 100+ pages of its just released 2012 annual report, this federal corporation describes its various funding sources and the need for more flexibility. Announcing its largest ever deficit at $34 billion, PBGC management urges Congress to raise the insurance premiums that companies pay, preferably with those fees taking into account an employer's financial health and characteristics of a particular plan. Click to access the 2012 PBGC Annual Report.

In response to news of the increased funding gap, as quoted by Advisor One journalist Melanie Waddell, the head of the American Benefits Council, James Klein, cautions that [The public,] "should not be led to believe the PBGC is in danger of a bailout and Congress and the Obama Administration should not use this number as a pretext to raise premiums paid by pension plan sponsors." He adds that historically low interest rates have "overstated" pension fund liabilities for everyone, including the PBGC. See "PBGC Deficit Hits $34 Billion; Benefits Council Calls Number Misleading" (November 19, 2012). Last year, the same plaint was voiced by the American Benefits Council, the Business Roundtable, the ERISA Industry Committee and the U.S. Chamber of Commerce. In a joint statement entitled "PBGC Deficit: A Non-Event on the Horizon" (November 11, 2011), the 2011 funding gap was described as "a product of government-created artificially low interest rates[,]" due mainly to a fall in interest rates since late September 2008 that was meant to stimulate the U.S. economy.

As Dr. Susan Mangiero wrote in June 2006, there are many ways to measure pension funding status (and related concepts) and not all of the metrics and methodologies yield the same results. See "Will the Real Pension Deficit Please Stand Up?" (June 22, 2006). It is true that understanding what each number represents is a critical task. It is also true that important decisions should be made on the basis of full information, whether for the PBGC or U.S. corporate employers.

This brings to mind a recent discussion with a financial industry colleague about whether and to what extent the capital markets incorporate the "true" cost of a company's defined benefit plan liability. This is a topic that deserves its own blog post (or two or three) but suffice it to say that the economic obligation associated with a given employee benefit plan(s) is a hugely important issue for any participant, shareholder, creditor or policy-maker to evaluate.

Pensions and Corporate Finance: How to Avoid Buyer's Remorse

Ever since the PBGC’s 2007 opinion that a private equity fund with a controlling interest can be liable for a portfolio company’s pension problems, there is increased evidence that corporate transactions can go seriously awry if ERISA benefit plans are not properly addressed. Legal issues are not the only risk factor that could cause a merger, acquisition, spin-off or carve-out to fail to materialize. Low interest rates, investment lock-ups, participant longevity and complex vendor contracts are a few of the challenges that must be confronted by the legal and finance team in charge of due diligence. And with virtually every defined benefit plan facing funding issues in light of these circumstances, the PBGC is extremely proactive in seeking concessions to not interfere with corporate transactions yet hold parties who may have responsibility for unfunded liabilities accountable. Headlines are replete with articles about deals that were stalled or failed because ERISA due diligence was given short shrift. In 2010, the acquisition of a major chemical company took less than six months but coordinating the relationships with defined contribution managers took nearly two years to wrap up. Talks between a large manufacturing company and a potential target company are currently focused on how best to tackle the acquiree’s multi-billion dollar pension fund gap. In the aftermath of the settlement of a recent case, private equity firms and limited partners continue to be jittery about joint and several liability for pension plan funding gaps, making it harder to take a portfolio company public or sell. Taken together, the most important thing that a potential corporate buyer and its counsel can do is to acknowledge the importance of proper due diligence. These problems are not going away and arguably could get much worse.

Join Dr. Susan Mangiero, CFA, certified Financial Risk Manager and Accredited Investment Fiduciary Analyst and senior ERISA attorney Lawrence K. Cagney to talk about ways to keep a deal from derailing and to avoid buyer’s remorse due to an incomplete assessment of pension plan economics on enterprise value.

Join us to hear speakers talk about critical steps and lessons learned from their experience, to include the following:

  • How to revise investment and/or hedging strategy and policy statement(s) when organizations merge;
  • Elements of an ERISA service provider due diligence analysis when plans are combined;
  • Red flags for an institutional investor to consider when seeking to allocate to private equity portfolios with “pension-heavy” companies that may be hard to exit without costly restructuring;
  • Assuring that participant communication is comprehensive;
  • Role of the corporate finance attorney versus ERISA counsel; and
  • Installing knowledgeable fiduciaries for the new and/or merged employee benefit arrangements

Click to register for "Pensions and Corporate Finance: How to Avoid Buyer's Remorse," sponsored by the Practising Law Institute on November 15, 2012 from 1:00 pm to 2:00 pm EDT.

Cracks in the Pension Safety Net System?

According to two separate news accounts, cracks may be appearing in the pension back-up systems for the United States and UK, respectively. Already jittery taxpayers may look at these warnings with heightened alarm.

In "Pension Agency Sounds Alarm on Big Three," Wall Street Journal reporter John D. Stoll (November 28, 2008) writes that the Pension Benefit Guaranty Corporation ("PBGC") is worried that large automakers may offer early retirement or buyout deals to some plan participants, at the expense of those who remain. Stoll adds that a year-end accounting by General Motors ("GM") has its pension plans "overfunded by $18.8 billion," but recently reported that "its plan for hourly workers was underfunded by $500 million because of restructuring expenses." The Toronto Star suggests funding woes for GM's Canadian pension plan. (See "GM Canada's pension plan troubled before market collapse" by James Daw, November 15, 2008.)

In "Pension lifeboat may be sunk by wave of firms being liquidated" (November 28, 2008), Phillip Inman and Simon Bowers - reporters for The Guardian - write that "The Pension Protection Fund (PPF), which has already rescued more than 66 retirement schemes, may be forced to increase its levy on profitable companies to boost its finances or risk a government bail-out if more companies go bust." With the collapse of Woolworths and other troubled companies, this UK counterpart of sorts to the PBGC may find itself in a postion of having to pay out more each year than it takes in.

This day after American Thanksgiving, known as "Black Friday" for shopping jaunts, may be the day the bell tolled for two of the world's largest concentrations of private pension schemes.

Editor's Note: On November 17, 2008, a PBGC press release describes a reduction in its deficit as a snapshot number, influenced by events that may not repeat themselves.

<< The PBGC’s insurance program for single-employer pension plans reported a deficit of $10.7 billion, a $2.4 billion improvement over last year’s $13.1 billion shortfall. The deficit of the insurance program for multiemployer pension plans was cut in half to $473 million, a $482 million improvement from the $955 million deficit reported a year earlier. 'The PBGC’s lower deficit is good news, although it is important to remember that the deficit number is only a snapshot of where we stood on September 30,' said Director Charles E.F. Millard. 'Successful negotiations with companies in bankruptcy protected workers’ pensions and sliced hundreds of millions of dollars in liabilities off our books.  Favorable interest rate changes reduced liabilities, and our careful stewardship of the PBGC’s investments limited losses to 6.5 percent of assets. Although the current turbulence in our economy will mean a challenging environment in 2009, the PBGC has the resources to meet its commitments to America's retirees for many years to come.' The decline in the deficit in the single-employer program was primarily due to a $7.6 billion actuarial credit from a favorable change in interest factors, $1.4 billion in premium income, credits of $826 million from completed and probable terminations and $649 million in favorable actuarial adjustments. These amounts were offset by investment losses of $4.2 billion and a $3.4 billion actuarial charge due to passage of time. Total return on invested funds was -6.5 percent. > 

Fannie Mae Gets a New Chief Risk Officer

According to Wall Street Journal reporters, James R. Hagerty and Aparajita Saha-Burna, musical chairs are moving at the nation's giant mortgage house. Besides a new chief business officer and CFO, the former Senior Vice President for Credit Risk Oversight takes the lead on all things risk. Exiting the  company is the former Chief Risk Officer ("CRO"). (See "Fannie Mae Names New Officers in Shake-Up, August 28, 2008)

According to a May 18, 2006 press release issued by the Federal National Mortgage Association ("Fannie Mae") (ticker symbol FNM), the Chief Risk Officer now being replaced came onboard to lead the "credit market, counterparty and operational risk oversight for all business units within Fannie Mae." Before joining, he headed the market risk management efforts for "the chief investment office and retail financial services" at a large bank. In that same May 18 announcement, the then Chief Business Officer (now departing) commented on the new "One Fannie Mae" approach, "with a rigorous, unified and analytical discipline."

If you are not asking already, let me do it for you. What happened since 2006? 

The Fannie Mae website boasts a "Risk Policy and Capital Committee Charter" (last amended on November 20, 2007) that exists for the purpose of assisting the Board in "overseeing Fannie Mae's capital management and risk management, including overseeing the management of credit risk, market risk, liquidity risk, and operational risk." Members are charged with duties that include risk management oversight and recommendations relating to enterprise risk.

I repeat. What happened? Inquiring minds want to know - shareholders, taxpayers and oh yes, retirement plan participants, including those of plan sponsors that invested in Fannie Mae.

As confirmed by the Pension Benefit Guaranty Corporation ("PBGC"), the Fannie Mae defined benefit plan is an insured plan. If financial woes continue (as suggested by some), could taxpayers be asked to fund a bailout of shareholders as well as a bailout of retirees (in the event that PBGC itself needs help)? (On December 8, 2007, this blog cited TheWashBiz Blog as saying that the Fannie Mae plan would be closed to new employees.)

In a related Wall Street Journal article (entitled "Pension Funds Watch Fannie, Freddie," August 28, 2008), reporter Daisy Maxey lists some public plan notables who hold more than a few shares. Here's another thought. Is a triple taxpayer play a possibility, if things get "too bad?"

  • Taxpayers bail out Fannie Mae and Freddie Mac shareholders
  • PBGC takes over Fannie Mae and Freddie Mac defined benefit pension plans
  • Taxpayers bail out the PBGC (if the insurance premiums prove insufficient to pay retirees of "assumed" plans)
  • State taxpayers are asked to help public plans that invested in Fannie Mae and Freddie Mac

As an aside, it would be quite interesting to know what kinds of risk management related questions were asked by pension plan investors of these government-sponsored entities ("GSE"). For those plans that are now exposed as the result of indexing, the situation is somewhat difficult. How can a plan exit a particular position if it has specifically allocated part of its portfolio to an identified index (part of a pure passive strategy) and that index includes a "troubled" security?