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No Pension Funding Crisis

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With the stock market in freefall, it’s looking more and more like the aggregate funded status of defined benefit pension plans maintained by U.S. private employers will be returning to the levels at the end of 2006, if not lower. But all things considered, that would not be worth calling a “crisis.”

During the recent congressional debate on bank bailout legislation, one legislator spoke of correspondence complaining of recent investment losses wiping out 40% of his constiutent’s 401(k) balance. I’ll leave to separate discussion whether accepting individual responsibility for the poor decisions that might have generated such extreme losses (that is, probably only possible by lumping too much of a 401(k) account in company stock) ought to have played any role in shoving corporate responsibility into taxpayer’s pockets. Suffice it to say that no defined benefit pension plan will be reporting such extraordinary losses. Indeed, overall pension plans have been exiting equity investments to the tune of about $100 billion per year, so the bear market of 2008 will only bruise – not break – pension plan finances. Some pension plans will report losses from those troubled mortgage assets, but not to sufficient degree to cause much more than a ripple beyond the public plan market. Meanwhile, against any capital losses in the corporate bond market, gains from government bonds and alternative investments may soften losses from the rest of the pension fund. I would not be surprised to see annual returns for 2008 in the vicinity of negative 15% – bad, to be sure, but not catastrophic. Note, however, that the typical pension plan sponsor will not be increasing employer contributions during 2008 to fill the gap, rather will be continuing to live off credit balances produced by acceration of contributions made during the early years of the decade, when different accounting rules provided strong incentive to do so.

Meanwhile, corporate bond interest rates – the basis used for selection of the discount rate used to measure pension obligations – have been rising, pointing to lower pension liability amounts. To that, add the fact that mass movement among many pension plans toward freezing benefit accruals has finally started biting into pension liability growth rates. I would not be surprised to see 2008 be the first year in memory to give us substantial declines in pension liability, possibly as much as 8-10%.

Significant asset losses partially offset by downward remeasurement of liabilities should reverse pension funded status by about a year’s worth, to around 95%, taking into account foreign pension plans and nonqualified supplemental executive retirement plans along with funded U.S. qualified plans.

Remember that under existing accounting rules, none of this will affect the pension cost reported during the 2008 fiscal year, which based on the experience of previous years will continue to drop relative to cost levels reported for 2007.

(Remember, as I’ve previously observed, posts such as this represent efforts of my favorite pastime. My formal work does not involve any of this, and none of it represents any position or comment that should in any way be attributed to my employer. Likewise, as always, it represents general personal impressions and should not be treated or used as formal professional advice.)

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Written by macheide

7 October 2008 at 1:01 pm

Posted in άctuary


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