Economy & Policy

The Pension Benefit Guaranty scandal that isn’t (at least not yet)

By Justin Fox | March 31, 2009 | +

The Boston Globe had a story Monday (which is making the rounds today) about the Pension Benefit Guaranty Corporation’s decision last year to switch from investing mostly in fixed-income securities to a mix of 45% fixed-income, 45% equities, 5% real estate and 5% private equity. This was the lede:

Just months before the start of last year’s stock market collapse, the federal agency that insures the retirement funds of 44 million Americans departed from its conservative investment strategy and decided to put much of its $64 billion insurance fund into stocks.

There’s a big difference between deciding to put and actually putting, though, and while the Globe reported that the agency “refused to say how much of the new investment strategy has been implemented,” a quick look at the PBGC’s Annual Management Report (available here) for the fiscal year that ended in September reveals that the answer is probably not much. From the report:

Cash and fixed income securities totaled approximately 71 percent of total assets invested at the end of FY 2008, compared to 68 percent for FY 2007. Equity securities represented 27 percent of total assets invested at the end of FY 2008, compared to 32 percent for FY 2007. Alternative investments, comprised largely of private equity acquired from trusteed plans, represented 2% of investments at the end of FY 2008.

This sounds like they hadn’t monkeyed with the allocation at all yet (changes in market value would explain the decline in the share of equities and the rise in the fixed-income share)—in keeping with the “careful and deliberate approach to the implementation of this new [investment] policy” that is promised elsewhere in the report. I find it staggering that the Globe fails to mention this in its article, and while I guess it’s possible that Charles Millard, the former New York City Councilman and former investment banker (and one of the last holdovers of the old Upper East Side moderate Republican scene) who was the PBGC’s director until the Bush administration left town on Jan. 20, went and sped things up spectacularly starting Oct. 1, I’d like to see some evidence before accusing him of that.

That still leaves the question of whether moving more of the PBGC’s stash into equities is a good idea. The Globe article cites Boston University’s Zvi Bodie, who’s been arguing for years that retirement savings don’t belong in stocks, saying that it’s a horrible idea. So there’s that. And some of the better-run pension funds have in recent years been shifting from equities into bonds to better match assets with liabilities (I’m thinking here especially of GM’s pension fund). But I’m not really clear on what the optimal asset mix would be for a government agency that guarantees pensions into perpetuity and can count on a regular income stream into perpetuity. Are you?

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  • markwolfinger

    Given:

    a) An agency is insuring pensions

    b) The major risk to pensions is that the stock market tumbles

    Then:
    That agency should never own stock.

    Mark
    http://blog.mdwoptions.com/options_for_rookies/

  • funkyfred1933

    Hopefully the PBGC is not in GM bonds either. Exactly how many investment grade corporate bonds are there out there these days?

  • http://JustOneMInute.typepad.com tom10023

    Prof. Alan Krueger, Princeton prof bound for Washington to become an assistant Treasury secretary, wrote this about the PGBC last December:

    “The decision to move a large share of the portfolio out of safe assets like Treasury bonds and into riskier but possibly higher-paying assets like stocks has been controversial.
    The decision would have proved catastrophic had it been immediately acted upon because the stock market has fallen so far. Fortunately, P.B.G.C. has been slow to act on its new policy. By my back-of-the-envelope calculation, had the agency fully adopted its new investment policy at the start of last year, it would have lost around 12.2 percent of its assets by September 2008. Instead, it lost “only” 6.5 percent, or $4.2 billion.*”

    Mr. Millard, head of the PGBC, said this in Congressional testimony last October 24:

    “Mr. COURTNEY. Then your testimony is then that this loss was not the result of any new policy?
    Mr. MILLARD. Correct. The decline in our portfolio, the portfolio was approximately 70 percent [corrected to 30 percent] equities in September a year ago, and other than the fact that equities have dropped, we have not changed our allocation yet.”

    There isn’t much question that the re-allocation has been talked about but not implemented.

    Tom Maguire

    http://justoneminute.typepad.com/main/2009/03/prof-krugman-meet-prof-krueger.html

  • plukasiak

    But I’m not really clear on what the optimal asset mix would be for a government agency that guarantees pensions into perpetuity and can count on a regular income stream into perpetuity. Are you?
    _
    As with Social Security, this is not a “paygo” plan, and the fact that there will be a “regular income stream into perpetuity” should not be a factor in how assets are invested.

  • zbodie

    It should be noted that the two PBGC Executive Directors who preceded Millard understood that as guarantor of corporate pensions, the PBGC should not invest its reserves in the stock market. The first one to do so was Steven Kandarian, now the Chief Investment Officer of Metlife, and the second was Bradley Belt, now the CEO of Palisades Capital. To watch a video interview with Kandarian back when he was in charge PBS NewsHour: Pension Gamble, September 25, 2003) visit
    http://www.pbs.org/newshour/bb/economy/july-dec03/pension_9-25.html. To hear a radio discussion of the PBGC’s situation on the Diane Rehm show back in November 2005 visit http://wamu.org/programs/dr/05/11/30.php.

  • http://JustOneMInute.typepad.com tom10023

    “It should be noted that the two PBGC Executive Directors who preceded Millard understood that as guarantor of corporate pensions, the PBGC should not invest its reserves in the stock market.”

    That may be what they understood, but per the 2003 annual report (with Kandarian as Exec Director) the PBGC has about $12 billion of a $34 billion fund in equities.

    As a practical matter, when a firm goes bust PGBC inherits the plan assets, which may include stocks, as well as the liabilities. But they have held equities for years – certainly back through the Clinton days.

    Check p. 22 of 46 in the .pdf:

    http://www.pbgc.gov/docs/2003_annual_report.pdf

  • caseydoomsayer

    Good job correcting the mistake of the Boston Globe. It seems like everyone is quoting from that article without bothering to look at PBGC’s annual report for the real story.

    The argument that PBGC should match the duration of its liabilities with similar durations of assets is flawed. It’s a pretty good idea if there was actually enough assets available to cover all the liabilities, but that is not the case now, and it wasn’t the case on 9/30/08. And even if PBGC’s liabilities were fully funded (as they were in 2000), and fixed income instruments were used exclusively to match the durations of the liabilities, PBGC would eventually take in enough underfunded pension plans that would give PBGC a funding shortfall once again. So this argument about matching durations and investing predominantly in fixed income is a lost cause for an agency that cannot predict well in advance how much additional obligations it will take in, and cannot predict well in advance how underfunded those pension plans will be when they are terminated.

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