Forget the fiscal cliff for a moment, if you can, as there's bigger issues afoot. For instance, the perfect storm of low interest rates and long-term financial uncertainties that has also served to severely impact America's DB plans, to record levels.
As the Wall Street Journal reports, those factors have contributed to an all-time record funding hole for the largest corporate pension plans in the United States. Milliman Inc.'s research shows that the underfunded level hit $453 billion at the end of September, at least a 30 percent increase in unfunded obligations from a year before.
Record-low interest rates are creating a vicious circle for the pension business: Not only are their various investments earning next to nothing, further increasing that deepening pension pit, companies' discount rate - used to compute present value of their future pension liabilities – is based on corporate bond rates, which are also bottoming out, drastically increasing the level of liabilities.
Recommended For You
Those factors have caused a variety of major corporations to take drastic steps to try to reduce what they see as impossible future financial obligations to their retired employees, including both General Motors and Ford offering one-time cash buyouts to select retirees – who will be left to try to figure out how to manage their retirement on their own. Communications companies AT&T and Verizon have also made similar offers to their retirees.
In discussing how it happened and what, if anything, can be done about it, pension strategist Michael Moran of Goldman Sachs Asset Management told the Journal that the problem doesn't necessarily relate to asset returns, as asset returns are up and have been well above projections for three out of the last four years.
Moran notes that most large funds were actually overfunded as recently in 2007 but that these ongoing low interest rates are continuing to feed the downward spiral.
Three strategies have emerged, Moran notes, as companies work to deal with their growing obligations. First, there's the rash of lump-sum buyouts – orchestrated to cut gross overall pension obligations – has also included some companies, such as General Motors, purchasing annuity contracts with major insurance companies (Prudential, in GM's case) to try to shift those responsibiliities.
Secondly, some firms have simply ponied up and are using their cash at hand – despite the past few years, many companies have record amounts of cash available – to help offset those pension liabilities through some substantial payments.
Finally, he notes, others are changing their investment allocations to fixed income for the moment to try to lock in whatever funded status remains.
Moran also says that liability driven investing has become a major strategy, using the notion of investing in high-quality fixed income to effectively offset the high-quality corporate bond interest rates that feed the discount rates in the first place. He questions, however, the impact that the sudden need for fixed income will have on those markets.
Participants, on the whole, will probably get the short end of the stick, Moran concedes, as more and more companies rush to exit their DB plans and instead share the burden (and shift the investing responsibilities) to participants through an increase in DC plans instead.
© 2025 ALM Global, LLC, All Rights Reserved. Request academic re-use from www.copyright.com. All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.
