And Then There Are Student Loans…

As recently reported by the NY Post, a study of government data by the Consumer Federation of America found that the number of Americans in default on their student loans jumped by nearly a fifth last year.  According to the analysis, student loans in default, meaning that they haven’t made a payment in more than 270 days, jumped from 3.6 million to 4.2 million by the end of 2016.

The 4.2 million loans in default are roughly 10% of the number of student loans in the market.  Furthermore, Americans currently owe about $1.3 trillion in federal student loans.  Including private loans, the amount of debt grows to $1.4 trillion.  Shockingly, student loan debt has grown from just about $0.5 trillion in 2006 to $1.4 trillion in 2016.

As the article points out, “Defaulting on a federal student loan can be a financial disaster for the borrower. Unlike other types of debts, most federal student loans cannot be discharged in bankruptcy. Those who go into default face serious repercussions including wage garnishment, damaged credit scores and potentially added costs in fees, interest,  and legal fees.”

The significant increase in the cost of education and the greater use of student loans to meet this expense is placing an unfair burden on our younger generation.  This burden makes it nearly impossible for one to begin to fund a defined contribution retirement plan, but that is basically what we are left with at this stage.  The more it delays funding the less likely it is that one will generate a retirement account meaningful enough to accomplish one’s goal of retiring.

At KCS, we focus on issues related to one’s ability to retire, but the burden of greater educational costs impacts so much more from establishing family units, housing, and the general demand for goods and services.  It isn’t shocking to us that the US economy hasn’t generated a >3% GDP growth since 2005 when one looks at the significant growth in student loan debt since 2006.

Why Are Death Rates Rising?

Researchers Ann Case and Angus Deaton have discovered that death rates have been rising dramatically since 1999 among middle-aged white Americans, and the economists believe that they have a better understanding of what’s causing these “deaths of despair” by suicide, drugs and alcohol.

They attribute the premature demise of 45-55-year-old, non-college educated white people to shrinking opportunities in the U.S. labor force, which leads to despair, broken marriages, and ultimately, substance abuse.  With the rapid advancements in technology likely replacing many more jobs, this tragic situation will likely become worse.

Couple this development with the loss of traditional DB plans that provided financial security, and you can imagine the profoundly negative social and economic ramifications that will follow. For those of us, and today it is most of us, in a defined contribution plan, the build up of assets in our accounts tends to occur later in life when many of those expenses related to having children or paying for our educations are no longer impacting our incomes.

Job losses for those in their late 40s and 50s can be devastating, as individuals often have to tap into their “retirement” account to help bridge the employment gap. If you are fortunate to find employment, this strategy may be temporary and not devastating, but for a significant percentage of those that find themselves out of work, this can be a financial death knell.

As a nation, we must once again find a way to offer pensions that provide a monthly annuity and survivor benefits, while taking out of the equation the investment management responsibility by those least capable of performing this task. In addition, we need to provide job retraining for those workers who have been displaced.

My son, Ryan, has suggested that there should be a late-in-life Americorps-type program where displaced workers take classes for a year.  He suggested that these workers should be retrained in those sectors likely to benefit from technology’s advances. Importantly, if you have the good fortune to spend two years working for a public entity, your program costs are forgiven.  I like the idea.

We cannot afford to write these people off.  As a country generating weak growth already (GDP at 1.6% for 2016), forcing millions of potential workers to the sidelines won’t do anything to jumpstart demand for goods and services. Getting people re-trained, working, producing goods and services, and earning wages for their effort is far more ideal than having our social safety net stretched beyond our wildest imaginations.

 

A Wake-up Call?

Jacksonville (Fla.) Police and Fire Pension Fund might close to new hires later this year following approval from the city’s police and fire unions of a proposal from Mayor Lenny Curry’s office.

This development should be a wake-up call to all the public DB pension systems that think that their plans are perpetual. Poor funded status and escalating contribution expense will get the attention of the taxpayer.  DB plans must be preserved, but they need a new focus and direction (see the KCS website and blog for our many thoughts on this subject). Clearly, the all-out pursuit of the return on asset assumption (ROA) has failed, as many pension plans continue to struggle despite 8+ years of a bull market in equities and nearly 35 years in bonds!

The move by Jacksonville to push new employees into a defined contribution plan might ultimately reduce the City’s liability, but it isn’t in the best interest of their future hires.  Although the proposed employer contribution of 25% is quite generous, DC plans still must be managed by the individual employee, who in most cases doesn’t have the financial literacy to execute a successful program.

Furthermore, with a vesting schedule that allows full vesting after just 3 years, Jacksonville should expect far greater turnover in its ranks.  We appreciate that there is a financial burden to fund these systems, but closing them isn’t the answer.  We believe that there are strategies that can be deployed that will help stabilize both the funded status and the contribution expense while beginning to de-risk the plan so that it remains a viable option.

A retirement system solely dependent on a defined contribution plan is no retirement system!  DC plans are glorified savings accounts.

Real Estate Update

Regular readers of the KCS blog will know that we have occasionally shared real estate updates provided to us by our friend, Keith Jurow.  Here is a brief note that he recently shared with us.

“Yesterday, Fannie Mae announced the winning bidders in its ninth non-performing residential loan sale. The fourth group was composed of 2,427 loans with an average loan size of $211k. It also had an average unpaid principal balance of $511k.

Wait a minute. How is that possible? Let me explain. It confirms what I said in my latest article:
https://www.advisorperspectives.com/articles/2017/02/20/cash-out-refinancing-during-bubble-years-will-lead-to-disaster

These are bubble-era loans which were modified and then re-defaulted. The interest arrears were tacked on to the unpaid principal (called capitalization) and apparently averaged about $300,000. These loans are so far underwater that I wonder how the new loan owners will ever see a nickel when they are liquidated.”

We suggest that you pay heed to Keith’s concerns.

 

 

 

60% Are At Least Somewhat Confident. Really?

The WSJ is reporting on an annual study conducted by the Employee Benefit Research Institute (EBRI) that claims that 60% of workers are very confident or somewhat confident in their ability to retire.  This figure is down 4% from last year, and 10% since 2007, but up slightly from 2012.

The report also goes on to say that current retirees are more confident (79%) than workers in their ability to retire.  That leaves 21% of current retirees who must be struggling in their retirement.  It makes sense to us that current retirees are more confident than future retirees, especially when one considers that roughly 50% of the private sector once participated in a DB plan, while private sector participation is only about 14% today.

Furthermore, the study of 1,671 participants indicated that 47% of households reported having less than $25,000 in savings and investment, when not including one’s home.  How is it that 60% feel confident in their ability to retire when 47% have less than $25,000, and nearly 50% of those had less than $1,000 saved?

We’ve frequently expressed our concerns about the impending retirement crisis in the U.S.  The social and economic ramifications will be grave, and there is nothing in this recent study that diminishes our concerns!

How To De-Risk A Private Pension Plan

The WSJ today published an article, titled “Your Pension Check May Soon Be Coming From An Insurance Company”.  The article highlights the growing trend in the off-loading of pension liabilities to insurance companies.  These pension-risk transfer efforts have been going on for some time, with Prudential Insurance Company being a leader in this space.

As the article highlights, private pension funds are happy to off-load these liabilities, as the volatility associated with funding plans can play havoc with income statements through annual contribution expense.  However, the transfer of the liability is no free lunch, and the cost to transact often results in a sizeable premium being paid by the company.

According to Ron Ryan, risk is best defined as the “uncertainty” of meeting the client’s objective.  For a plan sponsor, the pension plan’s objective should be to fund liabilities in a cost effective manner such that contribution costs remain low and stable. Since the pension objective is a cost objective, then solving for cost while matching the liability payment schedule would be the ideal way to de-risk a pension plan.

KCS, through its affiliation with Ryan ALM, can assist you in de-risking your pension plan without having to transfer assets and cash to an insurance company at a significant premium to the present value of that liability (usually retired lives).  By retaining the assets and establishing a cash-matching strategy, we believe that a 30% savings can be achieved versus standard de-risking approaches.

Please don’t hesitate to reach out to us to learn more about the Ryan ALM / KCS pension de-risking strategy.

 

KCS May 2013 Fireside Chat – Fixed Income at an Impasse – Revisited

In May 2013, KCS produced a Fireside Chat on the state of U.S. fixed income.  We are re-publishing it today, as it is still very much relevant, especially our thoughts regarding the primary sources of inflation.

We were very much correct in 2013 when we argued that U.S. rates would continue to decline, and we still believe today that the U.S. economy’s modest growth profile and global geopolitical risk will temper U.S. interest rate increases.

We look forward to hearing from you, especially U.S. public fund and multi-employer pension sponsors, who have positioned their portfolios for significant rate rises. Asset allocation should be driven by the funded status of a DB plan, and not the return on asset assumption. But, that is not the common practice among asset consultants.  We are here to change that antiquated thinking.