Where Is The Disconnect? Which Americans?

Americans Feeling Better About Household Finances — Fed Survey

The above is a title from a WSJ article that appeared today. Based on the title, one would think that the average US adult is doing fairly well, and in fact, “a total of 65% of respondents in the Fed’s 2014 Survey of Household Economics and Decision making said they were “living comfortably” or “doing okay,” up from 62% in the 2013 survey, the central bank said Wednesday. In fact, “Some 29% in 2014 said they expected their income to be higher in the next year, up from 21% a year earlier.”

That all sounds rather positive until one pulls back the curtain on the true detail.  “For many Americans, household finances remain fragile: 47% said they wouldn’t be able to cover a $400 emergency expense or would have to borrow money or sell something, and 31% said they went without some form of medical care in the last year because they couldn’t afford it.”  I find it truly outrageous and disconcerting that forty seven percent of responders couldn’t meet an unexpected $400 medical emergency!!  I find it perplexing that 65% can claim that they are doing at least okay if some percent of them couldn’t come up with $400 to meet an unexpected expense.

We continue to read in the financial press how quality jobs are being created and that the unemployment rate is once again nearing “full employment”. But what doesn’t seem to get the same air time is that we have nearly 93 million age-eligible workers on the sidelines.  Among those working, there is a significant % that are forced to work multiple part-time jobs just to get by, and many of our full-time workers are in a position of underemployment given their skill set.

As you know, we are not going to see a strong economic recovery without getting an increase in demand for goods and services.  However, with this much potential demand on the sidelines, we aren’t going to see our corporations investing in plant, equipment, and inventory, likely reducing further employment gains.

Lastly, it was reported that 31% of non-retirees said they had no retirement savings or pension.  If we want to be able to manage our workforce through a normal life cycle, we need to once again find retirement vehicles that actually help employees save so that they can retire. Defined contribution plans are glorified savings vehicles. DB like plans need to be re-introduced so that we can actually retire our employees with the financial means to remain active participants in our economy.

I am outraged, by the results from this survey, and you should be, too. We are creating an environment that continues to favor only a select few, and they certainly don’t have the ability to prop everyone up.  There will be grave economic and social consequences as a result of our inability to get everyone participating in this economy!

KCS’s June 2015 Fireside Chat – Exploring Closed-End Funds

We are pleased to share with you the latest edition (#35) in the KCS Fireside Chat series. In this article we explore closed-end funds, and specifically, how they differ from their more common open-end mutual funds.  We hope that you enjoy.

http://www.kampconsultingsolutions.com/images/KCSFCJun15.pdf

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KCS May 2015 Fireside Chat – Do You Know The Answer?

We are pleased to share with you the latest edition of the KCS Fireside Chat series.

http://kampconsultingsolutions.com/images/KCSFCMay2015.pdf

This article is the 34th in our series.  In this piece we explore whether or not the US Federal Reserve is likely to raise interest rates in the near-term – the $64,000 question.

The uncertainty surrounding this action continues to challenge DB plan asset allocation decisions.  Level to falling US rates will continue to harm DB plan funded ratios.

We hope that you find our insights thought provoking.  Please don’t hesitate to reach out to us with any comments and / or questions, or if we can be of any assistance to you.

What is Consulting PLUS?

During the last decade or so, the rage within fixed income investing has been for plan sponsors to seek or investment managers to offer Core Plus fixed income capability. The investment thesis put forward is that a fixed income manager with multiple capabilities can enhance the risk / reward behavior of a single core capability.  The enhancements may be in the form of exposure to such instruments as high yield, international / emerging debt, bank loans, secured debt, etc.  One of the thoughts supporting this concept is that managers should be able to do a better job, on average, than committees in timing exposures and implementing asset shifts.  We agree that by providing a manager with greater investment freedom and breadth the investment process should see an improvement in its risk / return characteristics.

Given the troubles that continue to plague traditional defined benefit plans, especially as it relates to funding them, we, at KCS, feel that this idea should be expanded to other aspects of pension management, including asset consulting.  It seems to us that the asset consulting industry needs to rethink its approach from one focused exclusively on the asset side of the equation to one that rightly focuses on the plan’s liabilities, too.

We’ve written numerous times on the benefits of measuring a plan’s liabilities through the creation of a custom liability index.  Importantly, the output from this exercise helps one better understand their plan’s liability growth rate, term structure and interest rate sensitivity.  Without this insight, how does one allocate assets?  Since every plan’s liabilities are unique, it doesn’t make sense that a generic 8% return (ROA) target could adequately and effectively guide one’s asset allocation.

The seven senior members of KCS’s team have well over 200 years of combined, relevant investment experience. In addition, our senior talent have worked with and consulted to many of our industry’s largest plan sponsors. We understand the asset side of the equation as well as any other firm, while also understanding its limitations, especially in the short-term. Importantly, with KCS you get the PLUS. We are unique in our ability to measure and monitor liabilities, and to use the output to drive asset allocation and our risk-reducing glide path toward full funding.

Why settle for just asset consulting when you can have Consulting PLUS through a firm that knows both ASSETS and LIABILITIES!  If providing greater breadth in fixed income enhances the risk / reward characteristics just wait until you see how adding liability insights enhances your traditional consulting relationship.

My plan was up 10% in 2014 – Was that Good?

We frequently receive updates in our email in-boxes about various pension funds and their returns in 2014, and not surprisingly the numbers vary quite a bit.  According to Wilshire’s TUCS comparisons, the average public pension plan was up 6.76% in 2014. However, we’ve seen some funds reporting returns closer to 10%.  It seems to us that a plan did better the more traditional the plan’s asset allocation, meaning more equities and fixed income, and less in alternatives, particularly hedge funds.

In most cases the announcement of a total return was hailed as good or bad depending on how it did relative to the plan’s return on asset assumption (ROA).  However, is that really the true objective? If a plan generated a 10% return and its ROA was 8% (49% of public plans have 8% as their ROA) it was reported as a great year.  However, what did the plan’s liabilities do in 2014? Since most sponsors and consultants assume that liabilities grow at the ROA, they would likely assess that 2014 was good on both the return and liability front.  Unfortunately, they would be wrong.

With the precipitous decline in US interest rates continuing through much of 2014, the average defined benefit plan had its liabilities grow more than 15% in 2014.  Given this fact, I’d say that any return that didn’t exceed liability growth was a poor year, with the average public pension (6.8%) doing quite poorly versus liability growth.

Can you imagine if you were playing a football game without a scoreboard? Let’s assume you are in the fourth quarter and you’ve scored 27 points.  How do you play your offense or defense? Do you get more conservative or aggressive? You don’t know, do you? Exactly! Well, this is how Pension America is playing the game.

A significant majority of DB plans only get a look at their liabilities every 1-2 years, and the results are usually presented with a 3-6 month lag.  It is quite difficult to have a responsive asset allocation when you don’t know whether or not you are winning the pension game versus your liabilities, just as it is impossible to play football if you don’t know how your opponent is performing.

At KCS we place liabilities and the management of plan assets versus those liabilities at the forefront of our approach to managing DB plans. Pension America has seen a significant demise in the use of DB plans, and we would suggest it has to do with how they’ve been managed. Focusing exclusively on the asset side of the equation with little or no regard to the plan’s  liabilities has created an asset allocation that is completely mismatched versus liabilities.  It is time to adopt a new approach before the remaining 23,000+ DB plans are all gone!

Liabilities – the Cinderella of the DB world

There is lots happening in Pension America on both the asset and liability side of the equation.  As anyone who regularly reads our blog would know, the asset side of the equation gets all the attention, while liabilities are the poor stepchild, rarely being invited to the quarterly review table, if at all.  Why?  Liabilities aren’t fancy!  In fact, they are kind of boring, and so are the actuaries that calculate the benefits that are accruing within these retirement plans.  They’re math geeks.

The asset management side of the equation has a ton of excitement.  The various markets go up, down and sideways, and that may be in a single trading day or even an hour of the day.  Furthermore, you can invest anywhere in the world, and in an amazing array of strategies. Investment management professionals get to wax poetically (except for the math / quant geeks that live on the asset side) as to why they own a particular bond, stock, derivative, company, building, commodity, etc. Oh, what fun!  With glee usually reserved for children on Christmas morning, plan sponsors set out to hire many different shops to fill various asset class exposures and styles within those asset classes, conducting endless manager searches all with the HOPE that they will put together a combination of managers / products that will generate a total fund return at or above their return on asset assumption (8% for 49% of US public funds).

Plan sponsors have been told for years by their asset consultants, actuaries and the Government Accounting Standards Board (GASB) that earning or exceeding the ROA would “insure” solvency for their plans. But alas, something happened on the yellow brick road to the Emerald City.  Many plans generated returns that eclipsed the return objective, and over lengthy periods of time, only to have funded ratios plummet and contribution costs escalate.  This couldn’t happen said all the powers that be. But, it did, and there have been and will continue to be severe consequences.

We’ve witnessed the collapse of the DB plan as the primary retirement vehicle, replaced by the newer, shiny, employee controlled defined contribution plan.  Instead of a monthly payout that survives with you until you don’t, we get inadequate account balances, premature withdrawals, loans, inappropriate asset allocation decisions, greater cost, and lump sum distributions. Pandora’s Box is tame by comparison.

Well, continue to avoid liabilities at your peril.  Hosting a quarterly review meeting? You better think twice before you fail to invite liabilities to the conversation.  As you may begin to realize, 2014 was a lousy year for Pension America.  I know, assets were up, and in many cases the ROA was achieved, but liabilities, the ugly stepchild, generated a return that dwarfed asset growth, further depressing funded ratios and likely escalating contribution costs.

GASB 67/68 is upon us, and with the new legislation comes an opportunity to right a wrong.  Spend some time getting to know your liabilities. If you are too shy, we’d be happy to assist you with the introduction.  The new rules under this legislation require you to take some action (such as an asset exhaustion test).  In the case of NJ, the realization was an unfunded liability that more than doubled to a staggering $83 billion.  We need to preserve DB plans. At KCS we think that focusing on the liability side, as opposed to the asset side, will give your plan a greater probability of success. We stand ready to assist you.