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

With the demise of the defined benefit plan for many works in the US private sector, Social Security benefit payments become ever more important for a greater percentage of the American retirees and those with disabilities. There have been several stories recently about Social Security and what the “average” recipient might receive in 2024 and worse, what their benefit reduction might be should the forecast of a “lock-box” shortfall in 2033 come to pass. We’ll get the official word on the 2024 COLA sometime in October, but early estimates are forecasting a 3% increase during 2024. This is a far cry from the nearly 9% increase received in 2023 and at 3%, barely matches the headline CPI which came in at 3.2% today.

Social Security’s average monthly benefit among all retired workers is $1,789 in 2023, according to the Senior Citizens League. If the 3% increase turns out to be correct, checks will increase to about $1,843 per month. If my math is correct, that equates to an additional $54/month. Please don’t plan to spend all of it too soon.  The maximum Social Security benefit for a worker retiring at full retirement age is $3,627 in 2023. A 3% COLA will bring that figure to $3,736 in 2024. For those retiring at 62-years-old the maximum benefit in 2023 is $2,572, while the maximum benefit for a worker retiring at age 70 is $4,555 in 2023. Those numbers will be adjusted accordingly.

Despite the on-going rhetoric about SS running out of money, it is a fallacy to believe that there exists an “operational constraint on the government’s ability to meet all Social Security payments in a timely manner. It doesn’t matter what the numbers are in the Social Security Trust Fund account, because the trust fund is nothing more than record-keeping, as are all accounts at the Fed.” (Warren Mosler, “Seven Deadly Innocent Frauds of Economic Policy”) He continues, “When it comes time to make Social Security payments, all the government has to do is change numbers up in the beneficiary’s accounts, and then change numbers down in the trust fund accounts to keep track of what it did. If the trust fund number goes negative, so be it. That just reflects the numbers that are changed up as payments to beneficiaries are made.”

What we should fear is our august Congress not understanding this concept and acting rashly to address the impending “crisis”. A recent article in Bloomberg placed the possible reduction in “benefits” at 23% in 2033. Try telling the nearly 70 million Americans that they will see a dramatic reduction in a promised benefit that they themselves helped to fund. With 40% of retirees using SS for more than 50% of their retirement income and another 14% in which SS makes up 90% or more of their retirement income, the economic impact from these potential benefit cuts would be cruel.

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

Milliman released the results of its latest Milliman 100 Pension Funding Index (PFI), which analyzes the 100 largest U.S. corporate pension plans. They reported that July was a very strong month for pension funding as the PV of liabilities fell as interest rates rose (discount rate) and assets appreciated by 0.84%. The combination of falling liabilities and rising asset levels improved pension funding for the third straight month, with the average funded ratio now at 102.5%.

In addition, they provided both optimistic and pessimistic forecasts for 2023’s conclusion and 2024. “Looking forward, under an optimistic forecast with rising interest rates (reaching 5.50% by the end of 2023 and 6.10% by the end of 2024) and asset gains (9.8% annual returns), the funded ratio would climb to 109% by the end of 2023 and 122% by the end of 2024. Under a pessimistic forecast (5.00% discount rate at the end of 2023 and 4.40% by the end of 2024 and 1.8% annual returns), the funded ratio would decline to 100% by the end of 2023 and 91% by the end of 2024.”

The pessimistic forecast doesn’t seem to be that unrealistic. Given that possibility, why would corporate America risk the improved funding status? Secure the promised benefits at this time through a cash flow matching (CFM) strategy. You’ll be surprised by how little of the corpus would be needed to accomplish that objective. The balance of the assets can now be managed with the goal of maximizing the surplus. The pension industry has had a few opportunities during the years to de-risk en masse. Those opportunities were often not acted on. Let’s not allow that to happen again.
 

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

The management of a pension system should be done in similar fashion to how both insurance companies and lottery systems operate. They know what the future value of liabilities are that they are obligated to fund and they manage to that objective. They don’t try to build an investment structure that might achieve an expected/desired return (ROA) some 10-, 20-, or 30-years out.

That said, the significant decline in US rates from 1982 to March of 2022 made managing a pension system incredibly challenging, as income from fixed income (bonds) was historically low forcing plans to take on more risk to try and achieve the plan’s ROA objective through more volatile investments. Well, the Fed’s aggressive action to thwart inflation which began in March 2022 and has now led to 11 increases in the Fed Funds Rate may have impacted the capital markets from a return standpoint in 2022, but they are having an incredibly positive impact on the income produced from bonds. As the yield curve below highlights, we’ve seen a massive shift up in rates across the Treasury yield curve, especially in shorter maturities.

This dramatic shift upward in Treasury yields has also been witnessed in the yields of corporate bonds, both investment-grade (IG) and High Yield (HY), as the chart (thank you, RBC) below highlights. At Ryan ALM, Inc. we believe that the primary objective in managing a defined benefit plan (DB) is to SECURE the promised benefits at a reasonable cost and with prudent risk. Given the significantly higher yields on US bonds, this objective has become much easier. We believe that cash flow matching (CFM) a pension plan’s liabilities (benefits and expenses (B+E)) with asset cash flows (bond interest and principal) a plan can accomplish the objective cost effectively and with prudent risk.

We’ve recently been building defeased (CFM) bond portfolios with yields in the 5.5% to 6% range through our focus on A and BBB bonds (no BBB-). These yields are providing our clients with a significant reduction in the cost to defease future liabilities. Bond math is very straight-forward. The longer the maturity and the higher the yield the greater the funding cost savings. We’ve entered a very attractive time when plan sponsors can effectively secure the promises made to their participants without having to take on substantial risk.

While the defeased bond portfolio is providing the liquidity to meet benefits and expenses chronologically, the non-bond assets (growth/alpha) can grow unencumbered with the goal of paying future B&E. It has been a long time since the bond market has provided such a wonderful opportunity. Given the uncertainty surrounding inflation and the Fed’s reaction to it, bond yields may in fact rise even further as real rates have not been achieved for longer-term maturities versus “core” inflation, which continues to hover around 5%. Don’t hesitate to reach out to us. We’d be happy to model the potential cost reduction that your plan could experience through a cash flow matching implementation.

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

No Summer doldrums for the PBGC, as last week witnessed considerable activity for the ARPA program. There were three pension plans that received approval for the SFA. In addition, there were three applications received and one withdrawn. Happy to report that there were no applications denied. Finally, there were no additions to the waiting list.

The three successful applications were for IUE-CWA Pension Plan, The Newspaper Guild International Pension Plan, and the UFCW Local One Pension Plan. These entities will receive $1.12 billion for the 38,761 participants in the plans. The UFCW plan has a Priority Group 5 and it is by far the largest of the three as they will receive $788 million. The other two recipients are the first non-priority group members to have their applications approved. As we’ve mentioned, there were 110 plans sitting on the waiting list. The PBGC has been actively permitting pension systems to submit the SFA application. To date, 13 plans have submitted applications from the waiting list.

The one application that was withdrawn during this latest week was Priority Group 5 member Local 917 Pension Plan, Floral Park, NY which was seeking $22.5 million for the plan’s 1,653 members. This latest application was previously revised. Perhaps the third time will prove to be charmed.

US interest rates continued to rise last week, with both short-term and long-term maturities along the Treasury yield curve rising to near peak levels since the interest rate cycle reversed. This action is making cash flow matching of the SFA assets even more attractive which will help lower the present value cost of those future benefits and expenses.

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

I recently published some info from a Vanguard 401(k) survey that indicated that the “average” account balance for a near-retirement participant (decade or less) was an anemic $71,000. Yesterday, there was an article on 401KSpecialistmag.com that highlighted output from Empower’s recent survey. Importantly, they focused on the likely impact on 401(k) contributions once federal student loan debt repayment began again. It shouldn’t be surprising that >40% of those surveyed indicated that they would likely divert contributions into their retirement accounts to fund the student loan debt payments. With one in three households expecting to pay more than $1,000 per month toward the student loan debt.

The Empower survey highlighted a number of other very frightening stats including the fact that 32% of those with student loan debt would likely increase credit card debt to be able to manage this burden. A significant number of responders discussed selling their car, moving back home, finding a roommate, finding a side hustle, cutting back on non-discretionary spending, etc. The one that had me scratching my head had 52% of responders claiming that they would look for a higher paying job, as if those are readily available. If they are, why haven’t they taken advantage of those opportunities already?

Then there is the Bloomberg story that referenced a Schwab national survey released this past Wednesday that asked 1,000 401(k) participants what their target balance was for retirement. Believe it or not, the answer was $1.8 million, an increase of 6% from last year’s survey. So, I ask, who are these survey participants, and do they truly reflect the average American worker’s views? I don’t understand how the average near-term retiree can have only $71,000 and yet, the target for another population of retirement “savers” can honestly say that $1.8 million is their goal. Inflation is impacting most Americans in terms of housing, transportation, food, childcare, medical expenditures, education, etc. 

With student loan repayments about to begin, is anyone surprised that 401(k)s will be the first victim of a finite pool of financial resources? Again, do we honestly believe that asking non-finance pros (the average American worker) to fund, manage, and then disburse a “retirement” benefit with little disposable income, knowledge of the capital markets and investment products, and no crystal ball to help determine longevity, an appropriate policy?

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

We at Ryan ALM, Inc. have been preaching the benefits of Cash Flow Matching (CFM) for nearly two decades. So, when we see one of the big boys (large fixed income shop) writing about the benefits of CFM we get excited. However, just because they are big, doesn’t necessarily mean that their approach is correct, as all CFM strategies are not equal.

Specifically, CFM when done appropriately is NOT a laddered bond portfolio which is sub-optimal in any market environment. Bond math is very straightforward. The longer the maturity and higher the yield, the lower the cost, which is the ultimate goal. A positively shaped yield curve is wonderful for us because it reduces costs. Done correctly, funding costs can be reduced by 2% or more per year in this environment. Secure the pension promises for Retired Lives 1-30-years and the present value (PV) cost to fund those future value (FV) benefits and expenses can be reduced by 50% or more. Furthermore, the current environment of higher short-term rates (inverted yield curve) does not make the opportunity to use CFM a short-term phenomenon. That might be the case if one were to ladder bonds, but since Ryan ALM uses a cost optimization process that truly matches cash flows, we very much appreciate the benefits of a “normal” positively sloped yield curve.

Pension plans need liquidity on a constant basis. Creating a bifurcated approach to asset allocation in which two buckets are used – liquidity and growth – as opposed to having all of the pension assets focused on the ROA, provides the pension plan with enhanced liquidity and lower transaction costs associated with constantly rebalancing the assets. This will eliminate the common approach of a “Cash Sweep” which takes away income from growth assets. Studies prove that close to 50% of the S&P 500 total return on a rolling 10-year horizon since 1940 (Guinness Asset Management) comes from dividends reinvested. So why would you want to take away these dividends… let CFM fund liabilities chronologically. Pension systems do not need to be fully funded or close to fully funded to receive significant benefits from using CFM. Given the liquidity needs, every pension plan should use CFM to secure the promised benefits for some prescribed period of time. We normally suggest funding Retired Lives or 1 to 10-years of liabilities which creates a long investing horizon for the growth assets that can now grow unencumbered. 

We are so thankful to see others in our industry write about the benefits of CFM, but as I stated earlier, not all CFM is created equal. It requires a deeper understanding of the implementation which is measured by the efficiency of the model’s output. The more efficient, the lower the ultimate cost to SECURE those promises.

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

We are pleased to provide you with the weekly update on the PBGC’s progress implementing the ARPA legislation passed in March 2021. The program to distribute the Special Financial Assistance (SFA) has been under way since July 2021. To date, 53 funds have received SFA proceeds. There is still a lot more to do, but the PBGC continues to make good progress and this past week is no exception.

There were an additional four funds on the waiting list that had their window opened to submit applications. These funds are Local 360 Labor-Management Pension Plan, Twin Cities Bakery Drivers Pension Plan, United Association of Plumbers and Pipefitters Local 51 Pension Fund, and the United Food and Commercial Workers Union Local 152 Retail Meat Pension Plan. In addition, Priority Group 5 member, Pension Plan of the Moving Picture Machine Operators Union Local 306 submitted its revised application. In total, these plans are seeking $358.8 million for nearly 20,000 plan participants.

There were no applications approved last week and happily none denied. Furthermore, there were no additions to the waiting list, which continues to have 110 names listed, but there was one fund on the list, San Francisco Lithographers Pension Trust, that had its name crossed off, as it already received SFA back in 2021. Finally, there was one fund that secured its valuation date. Pension Plan of International Union of Bricklayers & Allied Craftworkers Local #15 PA has chosen April 30, 2023 for their SFA measurement date.

The current US interest rate environment is providing these plans and their advisors a wonderful opportunity to secure the promised benefits chronologically as the legislation intended. We produced a post last week that highlights the fact that most of a plans ROA could be covered by a defeased bond portfolio. The same is true for the SFA assets that can cover far more liabilities today than just 16 months ago prior to the Fed’s aggressive action to increase rates. There is no reason to take on equity risk within this segregated portfolio.

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

US interest Rate moves have certainly impacted the capital markets in the last 15 months. The impact during 2022 was mostly negative as both bonds and stocks saw major declines in valuations. However, the current US interest rate environment is providing plan sponsors and their advisors with the opportunity to take risk out of their plans without giving up significant return.

We, at Ryan ALM, have produced our latest Pension Alert, which highlights the fact that A and BBB rated bonds have yields that can provide most of the return needed to meet the ROA objective. In fact, A rated corporate bonds produce 78.6% of the return, while BBB bonds produce 85% of the ROA goal.

Given that the US Federal Reserve is likely to increase rates another 25 bps today, there is a good chance that US interest rates will continue to rise providing the plan sponsor with an opportunity not seen since the late ’90s. Don’t waste this opportunity by continuing an asset allocation framework that has too much uncertainty. Use bond cash flows of interest and principal to SECURE the promised benefits chronologically. This will help stabilize the plan’s funded status and contribution expenses.

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

We are pleased to share with you an update on the PBGC’s implementation of the ARPA legislation. During the prior week, two more pension plans were permitted to submit applications from the “waiting list”. Teamsters Union Local No. 73 Pension Plan and the Pacific Coast Shipyards Pension Plan are seeking a combined $27.3 million for their 1,036 participants. The PBGC has 120 days from submission to act on the application.

In addition, two plans, Laborers’ International Union of North America Local Union No. 1822 Pension Fund and the UFCW Regional Pension Fund, withdrew their applications. Both of these plans had submitted applications from the wait list, as neither plan was a member of a Priority Group (1-6).

There were no applications approved or denied during the previous week and no multiemployer plans asked to be on the wait list, which continues to have 110 names of which 12 have been invited to file for SFA.

Please don’t hesitate to reach out to us to discuss the appropriateness of using cash flow matching (CFM) for your plan’s SFA proceeds. As a reminder, the SFA assets must be kept separate from the fund’s legacy assets. This new bucket is a sinking fund that should have as its primary objective the securing of benefits and expenses as far into the future as possible.

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

I’ve published a couple of posts recently on the subject of DC outcomes and retirement readiness, including How’s This Social Experiment Working? I saw more info on the subject today, as the Center for Retirement Research (CRR) at Boston College provided information from Vanguard’s annual report on the state of retirement. The information reads like a horror story.

Yes, there are some nuggets of good news highlighted by CRR having to do with growing participation among those with access to a 401(k), as there has been a jump from 72% to 83% in the last 5 years. In addition, four in 10 participants have recently increased their contribution rates, but collectively we as a nation are not saving nearly enough!

I was shocked to read that the typical 55- to 64-years-old has only saved $71,000. Apply the 4% rule and that will provide you with $2,840/year in savings to supplement your SS payout. That isn’t even enough to pay a rent for a month for most Americans. One could take more risk upon retirement and swing for the fences, but does that really make sense since the sequencing of returns is so critical and US equity market P/E multiples are screaming sell?

The problem isn’t just with the more mature worker (I’m in this category and refuse to say OLD!). According to Vanguard, “the typical worker’s 401(k) balance is a paltry $27,400,” which was down from an already low $35,300 in 2021. A decade ago, the comparable balance was $2,000 more! Oh, my! Yet, we are constantly being told that the younger generations are much savvier and understand the importance of creating a nest egg for one’s golden years. I don’t see it! Not because they don’t understand the significance of doing so, but they are burdened by life’s incredible expenditures associated with housing, education, health, childcare, food, energy, etc.

Bring back the DB plan and expand its coverage of the American worker. Asking untrained individuals to fund, manage, and then disburse a “retirement benefit” without the financial wherewithal, investment skill, or a working crystal ball is bound to be a failure. The results so far support my conclusion.