ARPA Update as of July 29, 2022

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

If it’s Monday, it must but ARPA update day! We are pleased to report that there was some activity last week as reported by the PBGC. Teamsters Local Union No. 52 Pension Fund, a Priority Group 2 Critical and Declining plan, refiled an application for SFA. This application is seeking nearly $82 million in Special Financial Assistance (SFA) for the 769 plan participants. They will hear from the PBGC by November 25, 2022.

In other news, Western Pennsylvania Teamsters and Employers Pension Fund and its 21,110 participants have been awarded $715 million in SFA. Congratulations to those members who will now see the reinstatement of benefits that were previously cut under MPRA.

To date, 41 plans have filed an application with the PBGC for SFA. Of those 41, 28 have received approval, and all but one of those have received the award totaling $6.7 billion. This remains a small sample of the estimated 200 plans expecting to receive roughly $80+ billion in ARPA proceeds. As a reminder, Priority Group 4 members were eligible to file beginning on July 1, 2022. None of those have filed an application as of July 29th.

Another Pension Battle Nearing Resolution?

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

We’ve recently gotten greater clarity from the PBGC in announcing their Final, Final Rules related to the ARPA multiemployer pension relief. Could we be getting closer to a resolution related to Delphi’s full-time employees and their pension benefits that were slashed as much as 70% following Delphi’s bankruptcy in 2009? Not all Delphi employees were treated similarly following the bankruptcy, as GM and the PBGC propped up the pensions of unions, but the full-time employees were subject to drastic cuts. The PBGC believed that they were following standard protocol in this matter, and subsequent court decisions supported those actions. However, the US House of Representatives in one of the recently rare examples of bipartisan support passed the Susan Muffley Act of 2022 by a vote of 254-175.

This Act would direct if passed by the Senate, the PBGC to recalculate and adjust each plan participant’s monthly benefits payment, apply the recalculation to previously made monthly payments, and make a lump-sum payment for any additional benefits based on the recalculation. These plan participants have been waiting a long time for a positive outcome. I suspect that many of these Delphi participants have unfortunately passed away during this lengthy process. Let’s hope that the Senate, which has a bipartisan companion bill, takes up the legislation soon so that these plan participants can once again or for the first time enjoy a dignified retirement.

Did They Not Get The Memo?

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

The Great Resignation, aka the Big Quit or the Great Reshuffle, has been raging on since early 2021. We have witnessed a tremendous migration of workers from one job to another. Commentators have identified many factors as to why workers have voluntarily left their jobs, including stagnant wages, deep dissatisfaction with their current roles, safety concerns related to Covid-19, and a desire to work remotely/hybrid work week. These trends don’t seem to be easing at this time. One of the ways to retain staff and reduce the cost of training new employees is to expand/enhance benefits in addition to wages in an environment of significant inflation.

I’ve written in this blog about how I believe (hope) that the Great Resignation, coupled with rising rates and the creation of pension income (first time in aggregate for the past two decades), might be enough to encourage corporate plan sponsors to re-open frozen defined benefit (DB) pension plans. Define contribution plans which have become the dominant “retirement” savings vehicle are inferior to DB plans as they are dependent on the individual’s ability to fund, manage, and then disburse a benefit for the remainder of their lives – no easy task given the lack of financial resources/training/experience!

Well, it appears that at least one firm may not have gotten the message. Boeing Company is facing a possible August 1st strike involving roughly 2,500 St. Louis area union employees from District Lodge No. 837, International Association of Machinists and Aerospace Workers, AFL-CIO. This union saw its DB pension frozen in 2016 as a result of a 2014 contract negotiation. Boeing is willing to match up to 100% of the first 10% contributed by employees, but as part of the negotiation, they are REDUCING their automatic employer contribution from 4% to 2%. So, in an environment of high inflation where wages for many Americans fall short of covering their monthly expenses, Boeing is further reducing retirement benefits. Do they really believe that the average American worker has the financial wherewithal to take advantage of their “offer” to match greater contributions?

The hiring and training of new workers can be very expensive and time-consuming. Putting in place enhanced benefits, including retirement, that encourage valuable employees to remain at their current place of work seems like quite a reasonable trade-off. The fact that rising US interest rates make the present value of pension liabilities cheaper while also possibly producing pension income is a bonus. DC plans are a terrific supplemental retirement benefit. They were never intended to be anyone’s primary source of retirement income. Perhaps US employees, if not their employers, are finally waking up to this fact.

More Reasonable Expectations

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

I was extremely pleased to read Bridgett Hickey’s recent FundFire article, “Pensions Return Expectations Fall Below 7% for First Time” in which she writes that the average public pension plan return on asset (ROA) assumption “has dropped below 7% this year for the first time in U.S. pension fund history.” I can’t speak to what ROAs looked like from the 1950s to 1981 when I first entered the industry, but it is the first time that I can recall seeing ROAs so reasonably low. I’m thrilled that most plans haven’t extrapolated linearly from the most recent performance period and projected those results well into the future. Given 2022’s results to date, it appears that public pension funds were quite prescient.

According to an Equable Institute survey of 167 statewide plans and 61 municipal plans, the average ROA is now 6.93%, which is down significantly when it was 8% as recently as 2001. This trend is further supported by data from the National Association of State Retirement Administrators that showed the average assumed rate of return was 6.99% in March. Despite the progress to reduce annual return expectations there remain 21 plans that have a 7.5% or greater objective according to Equable. It isn’t a seamless task to reduce the ROA as it impacts annual contributions (and budgets), which rise when the discount rate is reduced. But, contributing more, if possible, reduces the uncertainty around achieving a return target that comes with considerable volatility.

It would be wonderful if this lower return target also came with a rethinking related to asset allocation. We’d highly recommend bifurcating the plan’s assets into two buckets – liquidity and growth. The use of a cash flow matching bond program to meet liability cash flows enables the growth portfolio to grow unencumbered as it is no longer a source of liquidity. Having this extended investing horizon reduces the variability of returns longer-term and enhances the probability of success. As we migrate through a very uncertain investing horizon fraught with high inflation and rising rates, gaining a little certainty with regard to enhanced asset cash flows to meet liability cash flows is very comforting.

ARPA Update as of July 22, 2022

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

We are pleased to provide you with the weekly update related to the ARPA pension legislation. However, once again there is little to report. We had one pension system submit their revised application. New York State Teamsters Conference Pension and Retirement Fund refiled their application on July 21, 2022. This Priority II (MPRA Suspension) plan originally submitted an application on January 28, 2022, which was subsequently withdrawn on May 26th. In the initial filing, they requested Special Financial Assistance (SFA) of $1.036 billion to help secure the benefits for their 33,643 plan participants. In this most recent filing, the pension system requested an adjusted $918.1 million to be used to cover the same population.

Based on the newly released PBGC Final, Final Rules (FFR), I would have expected the requested SFA to be greater than that of the initial filing. It will be interesting to see what they eventually receive once their application has been approved. Fortunately, there were no other plans that had their applications either rejected or withdrawn. In addition, there were no payments of SFA made to approved applications. Only one plan with an approved application, Local Union No. 466 Painters, Decorators, and Paperhangers Pension Plan, is waiting on its SFA payment. To date, there have been 27 applications approved and an additional 12 are in review. We are expecting much more activity based on the estimated cost of this legislation being roughly $80 billion.

The Greatest Asset of a Pension: Time!

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

We have provided perspective within this blog on the importance of having a long time horizon. In fact, we have multiple blogs that discuss the idea of buying time. I’m pleased to add another post to our considerable inventory. The latest version was produced by Ron Ryan, CEO, of Ryan ALM, Inc. As you will read, Ron had the pleasure recently to speak at the FPPTA in Orlando. It was during the conference that he heard further endorsement of this important concept. Ron was thrilled to hear Mike Welker, CEO at AndCo, state the following: “the greatest asset of a pension is time.”

Buying time within a pension plan is critically important. However, a plan must have the correct structure in place from an asset allocation standpoint to accomplish the objective. Public pension systems have shifted significant assets into alternative investments in pursuit of potentially greater returns, but in doing so they have reduced liquidity to meet benefits and expenses (B + E). Ron astutely points out that bonds MUST be used for their cash flows and not as a return instrument to improve a plan’s liquidity. By carefully matching bond cash flows with liability cash flows (benefits and expenses), a plan can successfully extend the investing horizon (buy time!) for the balance of the pension system’s residual (growth) assets to grow unencumbered. I know that you’ll find Ron’s insights beneficial.

The Importance of Dividends – Updated

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

We’ve shared with you on a couple of occasions the output from a report published by Guinness Asset Management. In our February 23, 2022 blog on this subject, we highlighted the fact that Guinness calculated the portion of the S&P 500’s return through time that came from dividends and dividends reinvested. That Guinness report was through December 31, 2011. Given the growth within the S&P 500 of non or low-paying companies (technology stocks), we wondered if the magnitude of the contribution to the S&P 500’s return from dividends had contracted. Good news: it hasn’t!

According to the Guinness study, which has been updated as of April 2020, the contribution to return of the S&P 500 from dividends and dividends reinvested for 10-year periods since 1940 was a robust 47% down insignificantly from 48% a decade ago. Extending the measurement period to 20 years from 1940 forward highlights an incredible 57% contribution to the total return of the S&P 500 from dividends. In the previous review, 20-year periods had revealed a 60% contribution to return. Furthermore, this study is on the entirety of the S&P 500, not just those companies that pay dividends. If the universe only included dividend payers this analysis would reveal strikingly greater contributions given the fact that as of March 31, 2022, there are currently 108 companies within the S&P 500, including GM, Disney, Amazon, Facebook, and Boeing that aren’t paying a dividend.

CalPERS Reported Performance: Congratulations!

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

CalPERS, the roughly $440 billion public pension plan, has reported the plan’s preliminary fiscal performance results through June 30, 2022, at -6.1% or -$29 billion in AUM. I’m sure that there is tremendous handwringing going on throughout Sacramento, if not the whole of California, as those returns are well below their annual return on asset (ROA) objective of 6.8%. This “poor” result follows a spectacular performance year. We’ll not only see many stories about CalPERS, but we’ll soon get a plethora of performance updates from public pensions both large and small all lamenting a similar fate. But were the last 12 months so bad? After all, I was congratulating CalPERS within the title of this post. Was I just being obnoxious?

No, I wasn’t trying to embarrass anyone, but I may have been a little snarky given that a significant majority of folks in our industry would look at the result and say “WOW”, what a terrible return. However, we at Ryan ALM, Inc. look at -6.1% for the fiscal year in a very different light. You see, plan assets are but one piece of the pension puzzle. Sure, they are the piece that gets all the focus and press, but they remain just one part of a very important equation: Assets need to beat liability growth in order to maintain or improve a plan’s funded status. Toward the end of 2021 and into 2022, US interest rates rose rapidly. Those rising rates impacted both bonds and liabilities as they are highly interest rate sensitive. Rising rates will reduce the present value of future benefit payments and liability growth.

The good news for Pension America is the fact that the duration of pension liabilities is on average longer than the duration of the plan’s assets. For the prior 12 months ending June 30, 2022, liability growth for the average plan fell by -16.2% when using ASC 715 discount rates (FASB). As a result, CalPERS actually enjoyed a wonderful performance year as asset performance (despite being negative) far outpaced liability growth. Instead of fretting about a performance result that looked lousy, they should be celebrating the fact that their system actually saw improved funding when liabilities are valued using ASC 715 rates.

Please don’t hesitate to go to Ryanalm.com for additional information pertaining to discount rates and their impact on liabilities.

ARPA Update as of July 15, 2022

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

Perhaps many sponsors of multiemployer plans potentially eligible to receive SFA grant assets remain confused by the recent PBGC Final Final Rules (FFR)/guidelines? Perhaps we are just in the Summer doldrums and activity related to the ARPA legislation was going to be muted anyway. In any case, activity has been non-existent during the last two weeks, as no new applications were filed, no previously submitted applications approved or denied, and no SFA assets were paid out.

Still, only a fraction of the potentially eligible plans has filed an initial application. Now that the FFR have been published we are left with the task of determining what it means for the plans that have already received their SFA. Will they be eligible to refile for potentially more? Will they have to redo their investment program within the SFA bucket given the expanded list of eligible investments? Should they?

Ryan ALM is on record criticizing the expanded investment options. We believe that it doesn’t support the intent of the legislation to SECURE the promised benefits for as long into the future (hopefully 2051) as they can. Here is our response to the PBGC which was submitted to them last week:

Comments on PBGC Final Rule

Page 20 section titled… 1. Pay all benefits due through 2051 clearly states:

“Section 4262(j)(1) provides that the amount of financial assistance provided to a multiemployer plan eligible for financial assistance under this section shall be such amount required for the plan to pay all benefits due during the period beginning on the date of payment on the special financial assistance payment… and ending on the last day of the plan year ending in 2051, with no reduction in” benefits.

Page 21 section titled… 2. Interest rates for SFA and non-SFA assets clearly state:

“For a plan to project accurately how much SFA is “required” for the plan “to pay all benefits due” through the end of the plan year ending in 2051, it must project the SFA assets, adjusted for earnings, needed to cover each year’s benefit payments and expenses until exhausted, and the non-SFA “other plan assets,” adjusted for contributions and earnings, needed to cover each year’s benefit payments and expenses after the SFA assets are exhausted through the end of the SFA coverage period.”

Page 80 clearly states:

“The changes in the final rule permit plans to invest a specified percentage-up to 33 percent of their SFA funds in return-seeking assets (RSA) as described in 4262.14© of the final rule. That leaves 67 percent or more of the SFA funds to be invested in investment grade fixed income securities (IGFI). PBGC believes this ratio (67 percent IGFI to 33 percent RSA)> appropriately considers the need to protect SFA assets to pay protected benefits of the participants and expenses of the plan, The 33 percent that may be invested in RSA as defined in the final rule will enable plans to grow SFA funds and increase the potential to pay benefits through 2051 while limiting the total risk exposure of taxpayer-funded assistance.

 Ryan ALM observations and recommendations are as follows:

  1. The language on page 20 is that of a defeasance[i] that requires assets fully fund benefits + expenses through a certain period of time. A defeasance requires the certainty of asset cash flows to fund chronologically liability cash flows as they come due. Only bonds have the certainty of cash flows and it is why they have been used historically for cash flow matching. Benefits and Expenses (B+E) are a term structure that is paid chronologically from contributions (C) first, withdrawal liability payments (WLP) second, and assets cash flows third. As a result, it is an asset exhaustion test to see if asset cash flows are sufficient to fund net liability cash flows (B+E) – (C+WLP))… net of contributions and withdrawal liability payments. It is not a test to see if assets earn some ROA target or hurdle rate. It is an asset exhaustion test to see if asset cash flows fully fund B+E and when these SFA assets are exhausted.
  • The SFA assistance is a grant and does not need to be paid back. Page 20 makes it clear that it requires the grant to be used to pay all benefits chronologically through 2051. Page 21 contradicts page 20 suggesting that non-SFA assets can be used to fund net B+E through 2051 in determining how much SFA is required to fully fund B+E through 2051. This language is inconsistent with the intent of the SFA grant.
  • Allowing 33% in RSA is another contradiction of the intent of the SFA grant. The SFA grant is to cash flow match (defease) net liability cash flows… it does not have a ROA hurdle rate. It does not need RSA. RSA belongs in the legacy assets (non-SFA). Fixed income assets can now be removed from the legacy assets since the segregated SFA account is now where fixed income assets belong. Removing fixed income from the legacy portfolio asset allocation would enhance their ROA. You do not need or want RSA assets in the SFA asset pool. You need SFA assets to have certainty of cash flows… only bonds can apply. Furthermore, bonds not used to defease pension liabilities are return-seeking assets (RSA). In 2022, a core bond portfolio used as RSA lost >10% YTD. Where is the certainty in funding benefits and expenses?
  • The proper discount rate to calculate the SFA grant should be the U.S. Treasury STRIPS yield curve or at worst all three PPA segments chronologically. Each multiemployer plan’s liabilities are unique with the different labor force, salaries, mortality, contributions, withdrawal liability payments, and plan amendments. No generic discount rate could possibly price such a different array of liabilities correctly. This requires a custom liability index (CLI) for each plan to price and calculate the present value of net liabilities (B+E) – (C+WLP). 

Please confirm receipt to:

rryan@ryanalm.com and rkamp@ryanalm.com

Thank you for your time and opportunity to comment.

Ronald J. Ryan                       Russ Kamp

CEO                                         Managing Director


[i]  Defeasance is the setting aside of dedicated funds to repay debts. In this PBGC reference, it is the cash flow matching of asset cash flows to liability cash flows with certainty. This will guarantee full payment of each liability payment when due.

Inflation History – A little Context

By: Russ Kamp, Managing Director, Ryan ALM, Inc.

The CPI-U was published today. Market forecasters had anticipated that inflation would continue to rise, and they estimated that the 12-month annualized inflation # would be 8.8%. They got the direction right, but the magnitude was clearly wrong as the number posted was 9.1% That reading is the highest annual inflation registered since October 1981, which happens to coincide with the month that I entered this industry. Quite surprisingly, equity and bond markets have recovered losses since the announcement this morning and they are now registering gains on the day.

Does this make sense? I guess it might if you believed that the Fed has already accomplished its objective of taming inflation by having increased the Fed Funds Rate by 1.5% and that today’s # is actually a peak. It also might be that today’s number will force the Fed to be more aggressive in its fight against inflation by raising rates perhaps by a full 1% at the end of this month like Canada just did, which will force the US economy into recession. But what is the likelihood that the Fed has achieved its goal by raising rates by only 1.5%? Furthermore, do interest rate increases drive economies into recession overnight? Does inflation evaporate immediately when interest rates are increased? I would suggest that the answers are NO, NO, and NO!!

Perhaps a little context is necessary. Let’s look back at the last inflationary environment of the 1970s into the early ’80s. In December of 1972, the CPI for the previous 12 months was 3.2%. Two months later the annual CPI # had crept up to 3.86%. It would be a full decade later until the annual CPI once again had a 3 before the decimal place. You see, inflation doesn’t rocket skyward only to fall back to earth once the Fed begins to raise rates. For those of you that didn’t live through that period let alone work in this industry, inflation would go through two periods of significant increases before falling to levels to which we all became accustomed.

It took 23 months from the bottom of the inflation cycle in December 1972 (3.16%) to the first peak (11.13% in November 1974). From there inflation began to taper as the Fed raised rates, but the bottom for annual inflation would only fall to 4.5% in November 1976, a full 1.34% above the previous low for the cycle. Regrettably, the Federal Reserve took its foot off the pedal of increasing rates and the result was a rapid increase in inflation to 13.46% in March 1980. It would be another 2 3/4 years before inflation returned to a level below 4%. For the decade ending December 1982, the CPI averaged an annual rate of 8.68%. At no point did inflation begin and end on a dime despite aggressive attempts by the Federal Reserve to combat inflation through interest rate increases.

For investors believing that rate increases will have a dramatic and immediate impact on inflation and the economy, I encourage you to please look to the 1970s as a guide. It won’t likely play out as you are hoping. Inflation may still go higher. In this environment, why would anyone want to own long bonds (30-year US Treasury Bond) with a current yield of 3.08% for a real return of negative 6%? Bond yields have provided investors with a roughly 2% real yield advantage (inflation premium) relative to the CPI throughout time. Remember, it took from February 1973 (CPI 3.86%) to December 1982 (CPI 3.5%) for inflation to get controlled. Even at 3.5% inflation, the real return to bonds is negative. Since when are investors willing to live with such meager returns?