Pension Lawsuits

The Administrative Office of the U.S. Courts reports an increase in new Employee Retirement Income Security Act ("ERISA") case filings from 9,167 cases in 2000 to 11,499 cases in 2004. According to a March 2006 American Bar Association publication, about fifty stock-related lawsuits have been filed in the last two years, alleging employee benefit fiduciary violations and adding to a growing number of what some describe as "stock drop" actions.

The basic idea is this. Company stock is included as an investment choice for defined contribution plan participants. The stock falls in value. Employees suffer losses. Fiduciaries are asked to address whether: (a) their inclusion of company stock as an investment choice was appropriate (b) they conveyed accurate information about the company (c) they had put employees first or were influenced by conflicts of interest.

What has groups such as the Professional Liability Underwriting Society alarmed about the "startling" increase in these ERISA fiduciary breach cases? First, the amounts at stake are huge. Second, some experts suggest that it may be easier to bring suits on the basis of ERISA violations instead of securities fraud. (There is a lot written on this topic, including the requirements to become a lead plaintiff under the auspices of the Private Securities Litigation Reform Act of 1995, "PSLRA"). Third, various employee benefit reforms, expected out soon, could lead to financial restatements and unhappy investors.

Legal experts suggest that we're in for a bumpy ride. Negative headlines, excessive executive compensation (perceived or real), market volatility, a dramatic shift away from defined benefit to defined contribution plans and regulatory reform that could force write-downs are some of the many factors that will continue to put fiduciaries in the spotlight. posted by Susan Mangiero at 4/30/2006 12:32:00 PM | 0 comments | links to this post   

Dysfunctionality in Pension Land

In a recent speech to the National Association for Business Economists, Bradley D. Belt laid out some cold, hard facts. Executive Director of the Pension Benefit Guaranty Corporation (PBGC) for a few more weeks, Belt described employee compensation as potentially "a rich source of profits" when companies book expected returns that exceed realized returns on invested assets. He points out that pension funds are assuming more risk at the same time that the practice of smoothing allows companies to stretch out pension losses over time.

Who will pay for existing, and accepted, practices that widen the gap between economic and accounting reality?

1. Taxpayers in the event of a bailout of PBGC?

2. Investors who see the value of their portfolio fall due to pension problems?

3. Employees who may lose benefits or even their jobs?

So if things are so bad, why isn't there more screaming in the streets?

Part of the seemingly benign response to one headline after another about the loss of pensions and other retirement benefits is that ownership of the issue is so diffuse.

Who is responsible for setting things right?

1. CEO's and CFO's who want as little as possible involvement regarding benefit-related decisions?

2. Attorneys who rally for damages in a court of law?

3. Congressional legislators who are often accused of doing too much too late?

4. Regulators who face limited resources and competing jurisdictions?

5. Employees who seldom feel they can make a difference?

6. Plan fiduciaries who may not even acknowledge themselves as such, let alone show that they carry out their duties willingly and effectively?

7. Auditors, actuaries, consultants?

Until true "owners" of the pension issue are identified and someone steps up to the plate (or they are forced to do so), the hot coals are likely to be passed from one party to the next.

Not a happy thought! posted by Susan Mangiero at 4/28/2006 12:48:00 AM | 4 comments | links to this post   

Derivatives and Hedge Funds

Derivatives have long been the proverbial "black sheep" of finance. A few highly publicized losses and it's off to the races with bad headlines galore. Don't get me wrong. I'm neither an advocate nor a critic. Like many others, I believe that the decision to use derivative instruments (type, strategy, application) depends on a multitude of factors, starting with an organization's objectives and constraints.

There is no perfect investment or financial technique. Something that works for one company or government may be wholly inappropriate for another. That's why a recent article about hedge funds and derivatives has me puzzled. While I agree that more and better disclosure is paramount, I'm not sure anyone is better off by being scared in the absence of evidence.

Here are a few things to ponder.

1. A $270 trillion derivatives market did not grow by leaps and bounds because these instruments are considered dangerous by all market participants. Someone has to think there are benefits associated with their use.

2. It's possible to create examples that show how the identical derivative instrument and/or strategy can reduce risk in one situation while inducing risk in a second situation. Context is everything.

3. Not all hedge funds hedge. Indeed, some of them employ derivatives in a speculative fashion as a way to try to enhance return. Others use derivatives to reduce interest rate, currency, equity and/or commodity risk.

4. Investors should not plunk down hard-earned money without doing their homework. This applies to institutional investors as well. Pension funds commit billions of dollars to hedge funds every year. Beneficiaries and regulators want to assure themselves that pension investment fiduciaries are doing what is needed to make a well-informed decision about hedge funds, whether they use derivatives or not.

5. Fraud is a tragic reality. Both buyers and sellers need to work together to preserve financial market integrity and make it as hard as possible for bad players to ruin things for everyone else. If this were easy, it would have been done by now. Industry associations and providers of fiduciary education can help. posted by Susan Mangiero at 4/23/2006 08:09:00 PM | 0 comments | links to this post   

Retirement Savings: Whose Responsibility Is It Anyhow?

I agree with Professor Paul Secunda, author of WorkPlace Blog. People have to start getting more serious about retirement planning. Relying on one source of capital is ill-advised. In its newly published "Reimagining America: AARP's Blueprint for the Future", a cogent argument is made in favor of supplementing traditional sources with income from continued employment. This opens a Pandora's box of issues for individuals, companies and governments.

1. Will people want to work late into their 60's and beyond?

2. Will individuals need retraining to maintain a competitive edge in an ever increasingly sophisticated world of technology and global pressures?

3. Who should provide resources to retool and retrain?

4. What industries are likely to welcome older workers?

5. How will taxpayers be affected by changing demographics and work patterns?

6. Will productivity be impacted by career mobility?

7. What are the policy implications for people who cannot work past a certain age?

These and many other important questions will soon climb to the top of the priority list for corporate leaders and policy-makers alike. posted by Susan Mangiero at 4/23/2006 06:47:00 PM | 0 comments | links to this post   

Retirement Blame Game Survey

As retirement plan losses mount, the inevitable finger pointing ensues. In a recent survey of visitors to this blog, an overwhelming 96 percent of people agree that a pension crisis looms large. What's interesting is that multiple parties are getting the blame, with the lion's share going to U.S. Congress, plan fiduciaries, pension consultants, governors, regulators and board members.

Here are the results so far.

"Assuming you think there is a pension crisis, who do you think is responsible?" (Respondents were allowed to pick more than one answer.)

Attorneys: 10 percent
Auditors: 14 percent
Board Members: 31 percent
Chief Executive Officers: 24 percent
Employees: 17 percent
Governors and Other State Officials: 31 percent
Money Managers: 10 percent
Pension Consultants: 34 percent
Plan Fiduciaries: 45 percent
Regulators: 38 percent
Retirees: 7 percent
Shareholders: 3 percent
Taxpayers: 7 percent
U.S. Congress: 41 percent
Honorable Mention: IRS, Unions, Actuaries

When asked who can fix things, U.S. Congress, board members, plan fiduciaries and regulators took the lead. Interestingly, while pension consultants and state legislators are cited as part of the problem, they are not given much credit for being part of the solution. Only 21 (18) percent of respondents pick pension consultants (state politicians) as likely rescuers. Perhaps this stems from a feeling that the "pension crisis" must be addressed at the top in terms of tax, financial and accounting incentives and constraints.

Regarding Social Security, 76 percent worry about a current crisis.

An eye-popping 96 percent of respondents agree that "most people are ill-equipped to invest their own money for retirement planning purposes". The sorry state of financial literacy has been discussed in several posts and countless articles elsewhere by investment pundits. Regulators are clearly concerned too. On April 11, IMF Director Hausler emphasized the exposure of retail investors to a wide array of complex risks, adding that a "low level of financial literacy, combined with extensive risk taking, is politically an explosive brew." posted by Susan Mangiero at 4/22/2006 11:35:00 AM | 0 comments | links to this post   

Searching for Hidden Treasure

I've spent the last few weeks trying to uncover information about the retirement plan decision-makers at various companies. I'm willing to pay money for this information. Why?

Simply put, I want to know who has responsibility for making multi-million dollar decisions that affect thousands of employees and retirees. Once identified, I'd like to read their bios, understand how they were selected, read about how they are evaluated and identify to whom they report.

Unfortunately, my quest has provided scant results. Here is a summary of what I know. (I welcome comments about possible data sources.)

1. There is no universally accepted organizational structure to determine who is in charge of recommending and deciding on what retirement benefits to offer those outside the executive suite.

2. When a retirement benefits committee exists, it goes by different names, some of which are listed below.

(a) Master Retirement Committee
(b) Trust Selection Committee
(c) Saving and Investment Plan Committee
(d) Pension Committee
(e) Retirement Board
(f) Fiduciary Committee
(g) Benefits Committee
(h) Deferred Compensation Board
(i) Compensation and Employee Benefits Committee

3. Titles of benefits-related decision-makers vary. Some examples follow.

(a) 401K Board Chairperson
(b) Benefits Director
(c) Benefits and Compensation Director
(d) Benefits Administrator
(e) Head of Human Resources
(f) Compensation Committee Chairperson

4. The SEC has proposed a significant overhaul of reporting rules as relates to executive compensation and compensation committees. It appears to be silent with respect to the compensation decision-making process for employees below C-level.

5. Page 1 of Form 5500 requires the identification of the plan sponsor and plan administrator, respectively. Schedule P to Form 5500 requires the signature of a fiduciary and the name of a trustee or custodian. (According to the U.S. Department of Labor website: "Each year, pension and welfare benefit plans generally are required to file an annual return/report regarding their financial condition, investments, and operations. The annual reporting requirement is generally satisfied by filing the Form 5500 Annual Return/Report of Employee Benefit Plan and any required attachments.")

6. ERISA mandates the distribution of a Summary Plan Description (SPD) to each plan participant and beneficiary currently receiving benefits. Required information includes "the name, title and address of the principal place of business of each trustee of the plan". Education and experience are not mandatory disclosure items.

The bottom line is that a systematic identification of who does what and why with respect to employee benefits is simply not a reality as things stand today. This makes it difficult (perhaps impossible) to effect change.

Hunting for treasure shouldn't be this hard! posted by Susan Mangiero at 4/17/2006 10:56:00 PM | 0 comments | links to this post   

Eggs in a Basket

Diversify, diversify, diversify! No smart investor should do otherwise, right? Well suppose individuals are not even saving enough, let alone investing wisely. What then?

Sad to say, financial illiteracy is reaching crisis proportion. In a recent release, the Bureau of Economic Analysis (part of the U.S. Department of Commerce), reported a continued negative savings rate. This means that individuals are spending more than they earn. Not surprisingly, personal bankruptcies are climbing higher. According to the Administrative Office of the U.S. Courts, "bankruptcies filed in the twelve-month period ending December 31, 2005, totaled 2,078,415, up from the 1,597,462 petitions filed in the 12-month period ending December 31, 2004", reflecting a whopping 30 percent increase. Similarly significant, they report that "this was the largest number of bankruptcy petitions ever filed in any 12-month period in the history of the federal courts".

A faint glimmer of hope comes in the form of a new study from the Jump$tart Coalition for Personal Financial Literacy. High school students showed a tiny improvement in their understanding of topics such as budgeting and credit cards. Survey designer Dr. Lew Mandell acknowledges the gain but stresses the need for much more work in the area of pecuniary preparedness.

Couple these alarm bells with pension safety nets that are in serious disrepair around the world and the fact that many employers are rescinding or reducing benefits, if offered at all, and we are about ready to enter a maelstrom of unprecedented proportion.

What do you think? Crisis or not? Take this five-question survey and see what others think. posted by Susan Mangiero at 4/16/2006 03:59:00 PM | 0 comments | links to this post   

Money Manager Compensation

Sir Francis Bacon said it all when he declared "knowledge is power". The more we know, the better equipped we are to make good decisions. This is why I am such a big advocate of better disclosure when it comes to all things financial (See the April 11, 2006 posting entitled "Practice What You Preach".)

So it was with great delight that I read Gretchen Morgenson's New York Times article this morning, in which she describes the opaque nature of fund manager compensation. Her point is a good one. The absence of information is made more acute by the fact that most of the large fund companies are private and therefore outside the reach of statutory requirements to tell all. Pulitzer Prize winner Morgenson references a recent letter from investment legend John C. Bogle. He writes about the urgent need to require mutual funds "to disclose the aggregate dollar amount of direct and indirect compensation paid to the five highest-paid executives of their manager and distributor".

Why is compensation disclosure important?

A lot of money is at stake. Managed funds are an integral part of the retirement planning process. According to the Investment Company Institute, retirement assets invested in mutual funds in 2004 approximated $3.07 trillion, with $1.6 trillion finding a home in defined contribution plans. Anything that impacts performance necessarily affects the financial security of employees and retirees. This includes fees which should reflect, among other things, the costs of operating a fund. How and why an individual manager is compensated speaks volumes about the expected return pattern of a particular fund. (Some of the other factors that determine returns include strategy, portfolio mix, risk management procedures, internal controls and market conditions.)

When actual returns deviate from forecasted returns (and initial asset selections have been made on the basis of expectations), an investor may find herself in the unhappy situation of not having enough money to satisfy an objective. Individual or institution, the end result is a funding gap in need of a solution.

John C. Bogle is not alone in asking questions about manager compensation. In May 2005, the U.S. Department of Labor and SEC published Selecting and Monitoring Pension Consultants - Tips for Plan Fiduciaries.

A broad and important topic, manager compensation and the relationship with pension consultants, is left for another day... posted by Susan Mangiero at 4/16/2006 03:23:00 PM | 0 comments | links to this post   

Expert Panel Addresses Financial Impact of Pension Crisis

Valuation and risk professional Dr. Susan M. Mangiero, CFA, AVA, FRM will moderate a panel of esteemed retirement plan experts at the forthcoming 42nd annual meeting of the Eastern Finance Association at the Sheraton Society Hill in Philadelphia on April 20 from 10:15 a.m. to noon. (The hotel is located at 1 Dock Street in Philadelphia.)

Months away from sweeping Congressional reform and accounting standards that will dramatically impact the financial health of Corporate America, a diverse and seasoned panel of experts will talk about plan termination, 401K plan design, pension governance, fiduciary compliance, ERISA litigation trends, liability-driven investing and pension risk management with respect to shareholder value and employee productivity and morale. With over $10 trillion and 100 million plan participants at risk, conference producer Dr. John Finnerty describes this presentation as "an urgent call to our 850 financial members who are helping finance leaders, at all levels, grapple with the real challenges that post-retirement benefits present". Moderator Dr. Mangiero concurs. "CEOs and CFOs alike are quickly realizing how vulnerable they are to pension problems that can force rating downgrades, invite litigation and higher regulatory compliance costs, increase the cost of capital and otherwise impede corporate growth. For more than a few companies, pensions have become a veritable albatross."

Panelists include Mr. I. Lee Falk, Senior Counsel (Morgan, Lewis & Bockius LLP), Mr. Wayne H. Miller, CEO (Denali Fiduciary Management), Mr. James V. Morris, Senior Vice President (SEI Global Institutional Group) and Mr. Norman Jackson, Deputy Regional Director (United States Department of Labor - Employee Benefits Security Administration's Philadelphia Regional Office).

The general public is invited. There is a nominal fee of $50, payable at the door. The Eastern Finance Association is a non-profit organization. Its members include college and university professors, officers of financial institutions and organizations, and others interested in finance and the objectives of the EFA. The Association sponsors The Financial Review, a journal that publishes original empirical, theoretical, and methodological research providing new insights into issues of importance in all areas of financial economics. posted by Susan Mangiero at 4/14/2006 12:14:00 AM | 0 comments | links to this post   

Practice What You Preach

Mutual funds, hedge funds, pension funds, life insurance companies, endowments and foundations play an increasingly important role in helping companies and governments raise capital. According to the New York Stock Exchange Fact Book, they account for nearly fifty percent of equity investment holdings. Their clout is unmistakable. When these lions roar, we listen. And what are they saying now?

A new survey, conducted by Institutional Shareholder Services, reports that a majority of institutional investors cite corporate governance as a high priority and a key determinant of returns. In releasing revised principles of corporate governance in 2004, the OECD acknowledged the vital role that large institutions play with respect to oversight and shareholder activism, adding that "For investors to exercise their shareholder rights, they need to be properly informed. This calls for a minimum level of transparency and disclosure on the part of companies." (Transparency and its positive effect on liquidity, depth and other barometers of efficacy is widely documented in the market microstructure literature.)

The irony is breath-taking. At the same time that institutional investors are seeking more and better information about what companies do and when, getting them to open their own books is like pulling teeth. How many things do we need to know about institutional investors such as pension plans? Let us count the ways.

1. How are fiduciaries selected, evaluated and compensated?
2. What factors determine plan design?
3. Who assesses the independence of money managers and consultants?
4. What is included in the investment policy statement?
5. Who writes the investment policy statement?
6. When is it revised and on what basis?
7. What is the relationship between executive and non-executive benefits?
8. What is the risk composition of assets in a defined benefit plan?
9. How does portfolio mix affect the asset-liability management strategy?
10. Do plan sponsors consider a 401K "pseudo liability" when determining choices?
11. Does a plan's administration reflect a best practices approach?
12. Do executives understand the link between ERISA fiduciary duties and Sarbanes-Oxley?

The list is long. We could easily put together a list of "must know" questions for each category of institutional investor to include hedge funds, mutual funds and so on.

Institutional investors can be real heroes by providing the same quality of transparency they seek elsewhere. Statutory reforms are helpful but often do not go far enough or result in unintended outcomes. Voluntary disclosure is another avenue. In the case of defined benefit plans, early warning information could allay fears about a worst case scenario. Moreover, ample disclosure similarly signals management's intent on being as above board as possible, thereby creating corporate goodwill at a time when employees and shareholders really need encouragement.

An important question remains. Why don't institutional investors provide more information about themselves now? If the answer is that it is too costly to gather and report information to interested parties, consider the upside. Might liability and litigation costs recede with better disclosure? posted by Susan Mangiero at 4/11/2006 11:51:00 PM | 0 comments | links to this post   

Pensions at the Top

April 10 closes the comment period for the SEC's proposed rule about executive compensation reporting. As we await the final version, we have some indication about what lies ahead. According to the Wall Street Journal ("Adding It All Up" by Joann S. Lublin, April 10, 2006), directors are shocked to learn how much C-level executives are really making. The New York Times reports a widening gap between those at the top and everyone else ("Off to the Races Again, Leaving Many Behind" by Eric Dash, April 9, 2006).

We could have a vigorous and long debate about the merits of executive pay. Should executives be paid commensurate with performance? What amount is sufficient to assume the responsibilities that others shun? In a free market environment, what is the proper differential reward for advanced skills, including the ability to lead?

While efforts to reform the way executives are paid are laudable, the numbers themselves are of limited interest. Once we know that Mr. or Ms. Big makes a lot, what then? Isn't it just as important to understand how compensation committee members decide on a final recommendation? Equally helpful, how does a company choose how much to compensate its employees, especially with respect to post-retirement benefits? Should a one size fits all approach be used or should employees below executive rank be given a bevy of choices?

Shedding light on the process itself offers invaluable lessons. Otherwise, we are left in the dark about a topic that has import for employees and shareholders alike.

If a retirement crisis is truly upon us (and not all agree that this is so), what is a company's risk of being branded "bad" if pensions for line workers take a hit at the same that its executives walk off into the sunset? What is the cost associated with a damaged reputation, possible litigation and financially ruined lives? posted by Susan Mangiero at 4/10/2006 12:11:00 PM | 0 comments | links to this post   

Retirement Oz

Welcome to Oz, a magical land of make believe. Citizens everywhere have plenty to eat and lots of money in the bank. Life after work is a halcyon time. People fish, travel and otherwise enjoy recreational activities and peace of mind.

Sadly, life does not always imitate art and so it is with retirement.

According to just released Retirement Confidence Survey results, the Employee Benefit Research Institute reports an astonishing disconnect between retirement expectations and reality. Now in its sixteenth year, this study of attitudes of American workers and retirees suggests a continued gap between what people need and what they have, with two out of every three workers citing a savings balance of less than $50,000. At the same time, respondents acknowledge a longer post-retirement life span of twenty-five years or more. "Nearly 6 in 10 (58 percent) of current workers say they and their spouses do not expect to receive any health insurance from their employers when they retire", validating the need to accumulate even more savings along the way. Adding fuel to the fire, approximately sixty percent of respondents professed a desire to enjoy a comparable life style to what they have now yet have done little to determine how to achieve their financial goal.

Couple these findings with the fact that an increasing number of employer-provided plans are being frozen, terminated and/or replaced with lower-yielding defined contribution plans, if offered at all, and visions of the yellow brick road come to mind. Unfortunately, we don't have an Auntie Em to make up the difference. Trustees report that the Social Security program fails to meet a "long-range test of close actuarial balance by a wide margin" and that "Medicare's financial difficulties come sooner--and are much more severe--than those confronting Social Security".

So what now?

It is virtually impossible to fix a problem if you don't recognize its existence. Like the lion, we need courage to save more and spend less today. This is easier said than done. Record debt levels reflect a consumer preference for immediate gratification.

Individuals are not alone in their false sense of security. Federal and statehouse leaders are similarly in denial. Witness the agonizingly slow pace of retirement system reform that would promote savings, encourage investor literacy and enhance safety net solvency.

Where is the wizard when we need him? By the time the blame game starts, millions of individuals will be out of luck. posted by Susan Mangiero at 4/04/2006 10:50:00 PM | 3 comments | links to this post