Saturday, January 27, 2007

"Over" Blown?


Looks like the pension crisis is finally over.

Well, the funding part of the crisis, anyway. No fewer than three separate studies* were published this past week that essentially said that the pension plans of larger employers are either fully or nearly fully funded again.

For several years now, we’ve been struggling with the impact of the so-called “perfect storm” on pension plans. The catchy nomenclature was borrowed from the 2000 film by the same name (which, in turn, was pulled from the 1997 book on which it was based)—a reference to the 1991 Halloween Nor’easter that resulted from the unusual combination of several forces of nature to create an exceptionally powerful storm across a very large area. A storm—nearly a hurricane—that caught many off-guard.

The so-called perfect storm for pension plans also resulted from an unusual confluence of factors—a slumping investment market, the “vacation” from funding that many plans took during a period when soaring investment returns made such actions unnecessary, and, significantly, an unprecedented decline in the interest rate of the 30-year Treasury bond after the Clinton Administration decided to quit issuing new ones.

Back in the Black


In the intervening years, plan sponsors have benefited from investment returns that exceeded projections—as they frequently do over the long term. Also adding to the value of the assets in these programs, plan sponsors have returned to the process of making regular—and in some cases, extraordinary—contributions to the programs. Finally—and this has had a significant impact on the calculation of the liabilities owed by these plans—the return to something like a “normal” interest rate environment coupled with the use of a blended rate, rather than an artificially distorted 30-year Treasury. It hasn’t been easy, it hasn’t been painless, and it surely hasn’t been “perfect”—but many, perhaps most, large pension plans seem to be back in the “black.”

Not that the funding shortfalls for most were ever as bad as they were portrayed. While there were clearly some villains—and some unsustainable promises dumped on the Pension Benefit Guaranty Corporation—being 85% funded on a pension obligation isn’t all that different from having 85% of your mortgage paid off with 20 years to go (it’s actually better than that).

You’d never have gotten a sense of that from the headlines, or the angst of the legislators. It may be worth remembering that the last time these funds were flush with cash (we’re a long way from that), pensioners were up in arms that the pension surplus should be given to them in the form of higher benefits, analysts were critical of the “gloss” that pension returns lent to financial reporting, and, frankly, plan sponsors were disinclined to make regular contributions in excess of the required amounts.

It’s worth noting that since this last storm “broke,” many plan sponsors have chosen to freeze or terminate their traditional pension plans. The reasons are varied, of course. The confluence of factors cited above may have made the program untenable financially; workplace demographics may have cried out for a different retirement plan design; or they may simply have looked ahead to the future and made a different choice.

Still, it’s hard not to wonder how many were set on that path for no reason more substantive than the relentless pillorying of the funding “crisis” in the media. It was certainly more than a tempest in a teapot—but IMHO, the concerns expressed were always overblown.

- Nevin Adams, JD


* Editor’s note: the studies include reports from:

Towers Perrin (see DB Funding Landscape Starts to Shine in 2006),
UBS (see UBS New Tracker Finds 2006 Pension Improvement), and
Watson Wyatt (see A Return to Better Funding for Pensions in 2006)

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