The Milliman Pension Funding Index (PFI) published in this month demonstrated that while the top 100 pension plans in the United States saw an optimistic $106 billion cumulative increase in funding in the first quarter of 2013, these pension plans have seen a $37 billion decrease in funded status for April 2013. Simply put, pension benefit obligations are increasing, while growth in assets, either by employer contributions or investment return, has failed to keep pace. This market volatility in the investment return experienced over the past five years is driving some plan sponsors to review plan design with an eye towards increasing stability. Many are considering a move to fixed cost defined contribution (DC) plans, while some are also considering variable annuities (VA). Although still not common, variable annuity pension plans have been in existence since 1953.

Milliman recently published a white paper by Mark Olleman, Kelly Coffing, and Ladd Preppernau, “Variable Annuities: A retirement plan design with less contribution volatility“, that demonstrates how, with a variable annuity structure, both single and multiemployers as well as their employees share many of the advantages of both traditional defined benefit (DB) and defined contribution plans. The following chart highlights both important advantages and disadvantages of defined contribution and traditional defined benefit plans, as well as the advantages shared by variable annuity plans.

Many of us have focused on the “guaranteed benefits” of traditional defined benefit plans for a long time. It may be time to change our focus to “lifelong” benefits, where the exact dollar amount is not guaranteed, but participants are assured that they will not outlive their benefits and some inflation protection may be provided instead.

Note that although similar in name, these variable annuity plans are not your typical annuity product offered by an insurance company, although companies or individuals seeking to transfer investment risk may wish to purchase them.

Milliman today released the results of its latest Pension Funding Index (PFI), which consists of 100 of the nation’s largest corporate defined benefit pension plans. In April, these pension plans experienced a $37 billion decrease in funded status based on a $60 billion increase in the pension benefit obligation (PBO) and a $23 billion increase in assets.

We knew that the funded status improvement that has characterized these 100 pension plans so far in 2013 couldn’t last forever. We saw a $106 billion improvement during the first quarter of 2013, thanks to strong investment performance and cooperative interest rates. The strong investment performance continued through April, but interest rates were less cooperative, dropping below 4% for the first time this year and driving a $60 billion increase in the pension benefit obligation.

In April, the discount rate used to calculate pension liabilities decreased from 4.22% to 3.98%, increasing the PBO from $1.651 trillion to $1.711 trillion at the end of the month. The overall asset value for these 100 pension plans increased from $1.367 trillion to $1.390 trillion.

Looking forward, if these 100 pension plans were to achieve their expected 7.5% median asset return and if the current discount rate of 3.98% were to be maintained throughout 2013 and 2014, their pension funded ratio would improve from 81.2% to 84.2% by the end of 2013 and to 89.3% by the end of 2014.

Milliman also hosted a live broadcast on Google+, with Zorast Wadia discussing the latest Pension Funding Index.

Outsourcing a defined benefit (DB) plan’s administrative tasks could be advantageous for some companies. The process of gathering data, calculating pension amounts, preparing retirement paperwork, and setting up payments may become too cumbersome for in-house personnel to maintain. In addition, the vast array of regulations may be too much for some administrators to keep up with.

In David Benbow’s recent Plan Consultant article, “Replacing Betty: Why DB Plan Outsourcing Makes Sense”, Betty characterizes the sole manager of many plan sponsors’ internal pension administration system.

Here is an excerpt:

As if complicated laws weren’t enough, DB calculations depend on extensive data. Usually, the longer a plan has existed, the more data are needed to calculate the pension and, if the plan has changed hands through mergers or acquisitions, this data may not be centralized or easy to obtain. Companies that have administered their DB plans in-house often have one key person—let’s call her “Betty”—who has been calculating the pensions for 35 years. Betty has all the historical knowledge; she knows which employee groups are special and why; she remembers when she has to go look someone up in the red binder to get the frozen amounts that are listed in it. Betty is friendly, reliable and indispensable. And Betty is 62.

As impossible as it may be to imagine life without Betty, we know her days are numbered and someday she’ll retire. So far, cloning Betty isn’t an option and training others isn’t really Betty’s strong suit, but we have to find a way to take the knowledge out of Betty’s brain and document it for posterity.

Could it be time to think about outsourcing the DB plan? Outsourcing sounds expensive, and our culture has always been to take care of our own employees. Then again, we may be forced to take the plunge.

It’s very common for a pension plan to have some data-related skeletons in the closet, and experienced pension administrators have seen it before. By looking at samples of Betty’s calculations, they can identify the key pieces of data, store them in a central, accessible location, and have the mysterious red binder keypunched so it can be automated. Betty will still be around to use as a resource, but with the processes automated instead of sitting between Betty’s ears, there won’t be any surprises when she retires.

The article also discusses the scope of outsourcing DB plans and provides two examples demonstrating how outsourcing can help streamline administrative tasks.

Read more…

Milliman today released the results of its latest Pension Funding Index (PFI), which consists of 100 of the nation’s largest corporate defined benefit pension plans. In March, these pensions experienced a $29 billion increase in funded status based on a $14 billion decrease in the pension benefit obligation (PBO) and a $15 billion increase in assets. The March improvement of $29 billion results in a cumulative improvement of $106 billion in the first quarter of 2013. Note that this latest PFI reflects the data from the annual update of the Milliman 100 companies’ 2012 financial figures included in Milliman’s 2013 Pension Funding Study, published on March 25.

We’ve followed a record deficit at the end of 2012 with a record first quarter to open 2013. The funded ratio has gone from 77% at the end of last year to just under 83% at the end of the first quarter, which is about as strong of a rally as we could hope for in this persistent low-interest-rate environment.

In March, the discount rate used to calculate pension liabilities increased from 4.16% to 4.22%, decreasing the PBO from $1.665 trillion to $1.651 trillion at the end of the month. The overall asset value for these 100 pensions increased from $1.351 trillion to $1.366 trillion.

Looking forward, if these 100 pension plans were to achieve their expected 7.5% median asset return and if the current discount rate of 4.22% were to be maintained throughout 2013 and 2014, their pension funded ratio would improve from 82.7% to 86.1% by the end of 2013 and to 91.3% by the end of 2014.

The Moving Ahead for Progress in the 21st Century Act (MAP-21) is intended to provide defined benefit sponsors temporary contribution funding relief. Due to low interest rates the past few years, assets have been unable to keep pace with rising liabilities without the need for higher sponsor contributions. MAP-21 eases contribution requirements by allowing the interest rates used to determine minimum required plan contributions to be based upon a 25-year average, subject to an interest rate corridor, instead of a two-year average.

The question arising from this provision of funding relief is what actions can plan sponsors take to de-risk their pensions? In Actuarial Digest’s spring 2013 issue, Zorast Wadia provides perspective on several de-risking options sponsors may be considering. Here is an excerpt:

Given the high sensitivity of plan liabilities to interest rate movements, some plan sponsors have focused on the asset side of the balance sheet. Many asset- liability studies have been conducted since the inception of the Pension Protection Act of 2006. A fairly common outcome is recommendations to plan sponsors to move more investments toward fixed income and away from equity classes. While this measure is driven by risk reduction, it is also flawed in that it serves to lock in a plan’s funded status. If a plan is underfunded, a shift toward fixed income essentially means that the plan sponsor must make even larger plan contributions.

Some plan sponsors are considering cash-borrowing strategies to fully fund their pension plans and then move into all fixed income investments. Borrowing strategies during a low interest rate environment may have their appeal, but it essentially comes down to how a company views its corporate debt versus its pension debt. Companies have to go through this internal accounting exercise before deciding whether it makes sense to borrow cash to fully fund their plans. It is also important to note that full funding in this sense really means on a pre-MAP-21 basis. Then only will a plan no longer have to pay variable rate PBGC premiums, which would amount to a cost savings. Also, once fully funded, it is important to lock in that fully funded status. That is where a liability-driven investment strategy comes into play; an asset strategy that is designed to mimic liability movements. The downside to this strategy, besides the borrowing costs, is that plan sponsors are taking themselves out of the market. Should interest rates rise, plan sponsors will miss out on the improvements in funded status and the associated lower required costs to fund their plans. Let’s not forget one of the original appeals of a defined benefit plan: the possibility for investment earnings to lower sponsor benefit costs.

Another de-risking move that has gained some momentum since MAP-21 passed involves extending lump sum distribution offers to terminated vested participants. This move is motivated by the potential to reduce the size of the pension plan. A smaller plan will be subject to lower PBGC premiums and less subject to longevity risk associated with the participants who are no longer in the plan. It is also motivated by the current declining interest rate environment. The interest rate basis used to determine lump sum options is generally known prior to the plan year in which the distributions occur. After observing how interest rates were falling throughout most of 2012, many plan sponsors decided to offer participants lump sum windows (essentially a limited one-time take it or leave it opportunity) during the final quarter of 2012. The 2012 lump sum payouts would be based on higher 2011 interest rates and thus be lower than they would have been had the lump sum payout occurred in the following year.

To read the entire article, click here.

Defined benefit administrators may encounter compliance problems if, and when, lost plan participants begin to claim their pension benefits. What should be done if such lost participants come out of the woodwork after age 65 or 70½? Knowing how to manage these situations can keep your pension plan on solid ground.

The latest issue of DB Digest offers plan administrators solutions on how to handle three potential scenarios that may arise from unaccounted participants. To read the entire article, click here.

Milliman today released the results of its 2013 Pension Funding Study, which analyzes the 100 largest US corporate pension plans. In 2012, these pension plans were once again defined by record-low discount rates, which led to record-high pension obligations and a $388.8 billion pension funding deficit—a $61.1 billion deficit increase in 2012. Since the end of 2010, declining interest rates have widened the pension funding deficit by more than $150 billion, driving record deficits in each of the last two years. The pension funding ratio stood at 77.2% at year’s end, down from 79.2% at the end of 2011. The deficit increase and reduced funding ratio in 2012 happened in spite of efforts by certain plan sponsors to de-risk their pension plans.

Many plan sponsors made significant efforts to de-risk their pension plans in 2012, even as record-low interest rates made it an expensive time to pursue these kinds of risk management efforts. But there was no fighting the inevitable gravity of these low interest rates, as the 100 pension plans in our study saw a cumulative deficit increase in excess of $60 billion . All this in spite of strong asset performance that exceeded the expectations of most plan sponsors. People are probably getting tired of hearing me say this, but pension funding status will continue to be tied to interest rates. If rates stay low—and all indications are that they will through 2014—these pension plans will struggle to fill their funding gap.

Major pension stories for 2012 include:

De-risking results in shakeup at the top of the Milliman 100. Throughout the 13 years Milliman has performed this analysis, General Motors has been the largest pension plan, based on total assets. That changed in 2012 after GM pursued de-risking efforts. IBM—long a solid #2 in the study—is now the largest pension plan in the Milliman 100. Other large plan sponsors, including Ford and Verizon, also pursued de-risking. Across the entire Milliman 100, de-risking by at least 15 plan sponsors resulted in a cumulative $45 billion reduction in plan obligations.

Asset increases and $61.5 billion in contributions were not enough to close the deficit. With an 11.7% investment return in 2012, the Milliman 100 pension plans performed better than they expected—but it wasn’t enough to offset the ballooning deficit. Nor were contributions in excess of $60 billion.

Record contributions in 2012—but not at the level expected. While the $61.5 billion in contributions during 2012 was significantly greater than most prior years, it exceeded the 2011 total by only $6.3 billion and the 2010 total by only $1.8 billion. The lower-than-expected contributions were likely due to plan sponsors electing to change their contribution strategy following the passage of the MAP-21 interest rate stabilization legislation.

Another record year for pension expense. Following a $38.5 billion charge to earnings in 2011, the Milliman 100 pension plans again set a new record for total pension expense, with a $55.8 billion charge to earnings. The $17.3 billion increase in pension expense is consistent with the prediction of $16 billion reported by last year’s study. This year’s study predicts a $7.6 billion increase in pension expense in 2013.

Asset allocations relatively stable. In 2011, plan sponsors decreased the percentage of assets invested in equities by more than 5%. In 2012, the percentage of assets allocated to equities remained relatively stable (from 38.2% to 38.0%), as the move toward liability-driven investments (LDI) slowed. Because of the strong performance of equities in 2012, plans with higher equity allocations had better investment returns than those with higher allocations to fixed-income investments.

What to expect in 2013. With the Federal Reserve Board indicating its intention to keep interest rates low through 2014, pension obligations will remain high. The year is off to a strong start from an equity perspective, and de-risking may continue in 2013. But until interest rates move favorably, the pension funding deficit is likely to endure.

Milliman’s Corporate Pension Funding Study is an annual analysis of the 100 largest U.S. corporate defined benefit pension plans. Study co-author John Ehrhardt discusses new funded status results, General Motor’s de-risking measures, and 2013′s outlook in this preview.

The 2013 Milliman Pension Funding Study will be released on Monday, March 25. Contact us at pensionfunding@milliman.com to be added to our mailing list.

With so much talk these days about offering lump sums to terminated vested employees and de-risking defined benefit plans (see, for example, the September 2012 DB Digest), it might be worth taking a look at simple ways plan sponsors can shed some old, forgotten liabilities.

The Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) reduced the maximum mandatory force-out limit from $5,000 to $1,000. For once, they amended the Internal Revenue Code in a way that kept money out of the IRS’s coffers. Instead, they decided that if participants don’t affirmatively elect to receive a lump sum of between $1,000 and $5,000, then the money should either stay in the plan or be automatically rolled over to a default IRA.

Even though these rules have been around for over a decade, many plans have never adopted an auto rollover provision.

Default IRAs are handy because they get the liabilities out of the plan and eliminate the need to keep track of long forgotten, barely vested participants and pay their Pension Benefit Guaranty Corporation (PBGC) premiums. In addition, as irritating as these small benefits are to plan sponsors, many IRA providers are clamoring to accept the auto rollovers, and because the providers manage the assets, there is usually no cost to the plan sponsor.

A word of caution. As with any lump sum payouts, it behooves plan sponsors to keep a list of who is holding the IRAs for these participants. Years down the road, you don’t want to be paying lump sums out again just because you have no record of where it was paid the first time.

Milliman today released the results of its latest Pension Funding Index, which consists of 100 of the nation’s largest corporate defined benefit pension plans. In February, these pensions experienced a $6 billion decrease in funded status based on a $17 billion increase in the pension benefit obligation (PBO) and an $11 billion increase in assets. February’s growth in the funded status deficit follows a near-record improvement of $107 billion in January and still leaves these pensions in better shape than at the end of 2012.

Assets continued to climb in February, but as usual it was interest rates that ultimately drove pension funded status. Thanks to cooperative interest rates in January, we are still ahead for the year. Even with the Dow hitting new record highs, it will ultimately be interest rates that dictate the pension funding story in 2013.

In February, the discount rate used to calculate pension liabilities decreased from 4.45% to 4.40%, increasing the PBO from $1.666 trillion to $1.683 trillion at the end of the month. The overall asset value for these 100 pensions increased from $1.361 trillion to $1.372 trillion.

Looking forward, if these 100 pension plans were to achieve their expected 7.8% median asset return and if the current discount rate of 4.40% were to be maintained throughout 2013 and 2014, their pension funded ratio would improve from 81.5% to 85.6% by the end of 2013 and to 90.6% by the end of 2014.

These figures are tentative and will be revisited as part of the 2013 Milliman Pension Funding Study, to be released later this month. Milliman expects that de-risking activities made by some of these companies will probably lower asset and liability figures, which may slightly negatively affect the plans’ overall funded status.