Pimco's Prediction For Pension Plans: "Pain"

Tyler Durden's picture


While it won't say much new to those "stupid enough" to exist in the intersection of the "Retired" and "Alive" Venn circles under the Bernanke central planning regime, we suggest any pensioners who hope to see their life savings generate some...any... return (on capital, or of capital) in their lifetime, to simply skip this article and read some of our cheerier fare. So here is the punchline for pension fund managers which now predict an utterly insane 11% equity return which is the only thing that would make their Pension Plans whole: "In the early nineties, plan sponsors, if biased in their forecast, were generally biased toward conservatism. From 1997 through 2007, expectations, although a bit rosy at times, were largely within the realm of reasonableness. In our view, a long-run equity risk premium of 11% is pure jibber-jabber. It is wishful thinking. I dare not predict the level of the S&P 500 ten years out, but an ERP this high suggests the S&P would have to reach unprecedented levels. If this is what plan sponsors are counting on, I, like Clubber Lang, predict Pain." And "Hope is neither a training plan nor an investment strategy." Uh, wrong. Have you seen the EURUSD these days?

Pimco's summary:

  • Recent Federal Reserve activity has pushed down the long end of the yield curve, spiking the present value of plan liabilities and widening the funding chasm.
  • The pain of the pension community shows up most obviously in funded status estimates.
  • High and increasing levels of implied equity risk premium in pension plans suggest sponsors’ expectations are increasingly optimistic about future contributions from risk assets.

Full article:

Prediction? Pain

The Rocky series is a modern update of the familiar Horatio Alger tale of the underdog triumphing over adversity. Part of what made Rocky Oscar-worthy was that Rocky ultimately does not win. Of course this sets the stage for Rocky II, where the hero triumphs over his opponent, adversity and his own foibles to win the championship. Rocky III brought us a champ who had become complacent, overindulgent, and a bit lazy, and who is savagely beaten down by a new, hungrier challenger, Clubber Lang.

There was perhaps no better villain in the eighties than Mr. T’s chiseled, mohawked, snarling Clubber Lang, and few better in movie history. Clubber Lang launched Mr. T as a cultural icon and there are relatively few so distinctly of that era who have endured so long and are still so recognizable. In October 2010, Mr. T made a memorable appearance on Bloomberg Television, extolling the virtues of his favorite investment – gold. Nearing sixty, he is no longer the fearsome presence he once was. Thirty years of wearing a golden yoke of up to 45 pounds and five years beating cancer will do that, but he looked quite good for his age and those following his investment advice would more than likely have benefited. Gold is up more than 15% since his appearance (despite the recent pullback), according to COMEX, far outpacing the average pension asset return (represented by the Milliman 100 Pension Funding Index), which has been slightly negative over the same period.

Unfortunately, pension plans are currently experiencing something synonymous with Mr. T’s Clubber Lang character. Pain. The bearded villain this time is not Mr. T, but Dr. B. – Ben Bernanke. The pain comes only partially from the asset side; in addition, the Fed’s new Operation Twist (selling short-term Treasuries in exchange for longer-term) has pushed down the long end of the yield curve, spiking the present value of plan liabilities and widening the funding chasm. By our estimates (based on Credit Suisse pension data for the S&P 500 universe), the drop in Treasury yields combined with equity market declines added roughly $80 billion in underfunding in the few days following the announcement of the policy. This brings the cumulative underfunding of corporate pensions to something north of $400 billion.
The pain of the pension community shows up most obviously in funded status estimates from equity strategists and consultants, which give mid-year forecasts based on companies’ 2010 10-K data and market changes over the year to date. As past is prologue, the funding hole gives us our starting point and helps set our course for the direction forward. Deficits imply contributions and possibly changes of course that reflect new circumstances. One would hope greater awareness and visibility would lead to better investment strategies and tighter asset-liability management. While this has been the case among a growing number of plans, overall movement has been slow and the asset allocation strategies have in aggregate not changed all that much. Data for S&P 500 companies going back to 1994, when the SEC clarified the FASB (Financial Accounting Standards Board) discount rate guidelines, reveals some interesting patterns. Figure 1 shows the Moody’s long-term AA index – which is generally a  good proxy for the average plan discount rate – along with the year-end 10-year Treasury yield and the difference between the average assumed plan return (source: UBS and Credit Suisse data on long-term expected plan returns) and the discount rate proxy. The pattern for the two yield series is abundantly clear and well known: Bond yields have fallen over the past 17 years. The arc of the long AA index series is smoother than the Treasury yield series largely because credit spreads are typically countercyclical. Treasuries spike down on flights to quality while spreads tend to rise.
The plan asset return vs. discount rate spread tends in the opposite direction, rising from 0.78% in 1994 to 2.64% at the end of 2010 and we expect it may trend higher through 2011 given recent market activity. This is because the assumed returns have fallen more slowly than discount rates. For 1994, plans’ expected long-run return was 9.4% (source: Credit Suisse). Over the years this has trended down to an average 8%, and we believe it will drop further by the end of 2011. The rising spread indicates that plans expect their risk assets to work harder and carry more now than they have expected historically. It seems paradoxical that expectations should be greater for contributions from risk assets going forward when they have disappointed so much over the past decade.
Given the data above and the pension plan asset allocations presented in sponsors’ annual reports, we can derive a sponsor-assumed equity risk premium (ERP) over the 10-year Treasury. Figure 2 shows the implied equity risk premium values estimated for the S&P 500 plans in aggregate (based on Credit Suisse data). The time series mirrors the asset-discount spread rising over the past 17 years. What is more notable is the degree to which it rises and the ERP currently implied. The implied ERP rises from a low of 2.4% in 1994 to a previous high of 9.6% in 2008. Assuming rates hold their current levels and aggregate S&P 500 plans’ expected returns drop to 7.5%, the current implied ERP would be 11% (as of September 2011). If expected returns instead remain unchanged from year-end 2010, the implied ERP would be 12%.

Aside from the extremity of these implied ERP levels, note the pattern of volatility. The equity risk premia display local peaks in 2002 and 2008 at the depths of recessions and local troughs in 1999 and 2006 at the end of cyclical expansions. This is consistent with both the countercyclical nature of the 10-year Treasury yields and the notion that equities (represented by S&P 500) tend to be cheaper at times of great strife and despair and tend to be richest after runs of prosperity.
More worrisome is the rise in the implied risk premium and its current level. For comparison, we can use Pastor and Stambaugh’s estimates of equity risk premia from 1834–2000: They find a range of 3.9%–6.0% over that long period. Current estimates for consultants and asset allocation practitioners vary quite a bit depending on models and biases, but are largely spanned by a 3%–7% range.
What do these levels imply? In the early nineties, plan sponsors, if biased in their forecast, were generally biased toward conservatism. From 1997 through 2007, expectations, although a bit rosy at times, were largely within the realm of reasonableness. In our view, a long-run equity risk premium of 11% is pure jibber-jabber. It is wishful thinking. I dare not predict the level of the S&P 500 ten years out, but an ERP this high suggests the S&P would have to reach unprecedented levels. If this is what plan sponsors are counting on, I, like Clubber Lang, predict Pain.

Rocky III was released Memorial Day weekend, May 1982. Times were tough – real tough. The U.S. was in the depths of recession. Inflation was at 7% and the 10-year Treasury was priced to yield 13.7%. Unemployment was at 9.4% and heading higher. Part of the reason Rocky III resonated with its audience and was a box office smash was they too were beaten down and overcoming obstacles to rise against adversity.
Rocky rebounded from his loss to Clubber Lang, but he did not rely on hope in preparing for his rematch. Hope is neither a training plan nor an investment strategy. Anyone familiar with the Rocky series’ ubiquitous training montages will know the keys to success are hard work, sweat, an adrenaline-firing score, and some measure of pain. The answers to our pension problems are not all that different. I pity the fool who expects an easier answer.

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GeneMarchbanks's picture

Pensioners please die faster we have no plan for you. Sincerely Timmy G.

We have to start a new Ponzi and quick...

SheepDog-One's picture

Nevermind the pensioners...imagine when the Uber Congress this month cuts $400 billion in 'costs' to food stamps, unemployment, and general welfare! Then we'll see the streets occupied with rioters.

tickhound's picture

The Squid, Bank of Amurikkka, JPMorgue, ShittyBank, UnTrust, and HSBC-FU declare NYPD pension plans to be safest in the country.  Brown-shirts remain loyal... for now.

trav7777's picture

does the idiot who wrote this article ACTUALLY believe the government could pay the coupon that the retirees seem to believe they're entitled to?

Oh gee, BB bought down the curve, and DROVE UP THE BONDS' price!  The revenue doesn't exist to pay a higher coupon

Nascent_Variable's picture

Long cat food and generic medications.

scatterbrains's picture

long fungi and beechnuts bitches

Bicycle Repairman's picture

The discount factor in pensions is based on two things: interest rate and mortality rate.  Interest rates are going in the wrong direction.  Hmmmmmm.........

dirtbagger's picture

Fasting growing market sector in US - assisted suicides

slewie the pi-rat's picture


i'm thinking of canning cats

bong city, BiCheZ!


Haddock's picture

Exactly. The pension managers (remember Leo?) can fudge it any way they want, but the demographics are too powerful - there's not enough to go round for the boomers to enjoy the retirements they promised themselves but passed the bill down the line.


SheepDog-One's picture

Rocky III sucked. And times in '82 we're no worse than today, we just didnt have the outright massive lying and manipulation. In '82 did we have ZIRP for 3 years? QE trillions? Rampant bond manipulation thru primary dealers? $15 trillion debt? 20%+ real unemployment? No.

bigdumbnugly's picture

i pity the fool who thought anything after Rocky I was worth the price of admission.

zorba THE GREEK's picture

BD&U, I would go see a sequel to Rambo, where he goes after the bankers who destroyed his pension plan.

MachoMan's picture

Tie it in with military retirement and you're golden.  You'll just need to have a few screens of "this film is dedicated to the great people of ___________________________" (insert whatever country is going to be officially blamed for destroying a couple world wide landmarks, symbols of the country, and killing a few thousand folks...  and in which we subsequently invade).  Bet he felt like an asshole after rambo 3.

Freddie's picture

I pity and really loathe dumb fuxx who watch TV or anything from Hollywood because they are supporting their overlords and enjoy being little serfs. 

I might pay to see Clubber Lang jibber jabber and break The Bernank's f**king jaw.

duo's picture

No, we had high interest rates which attracted the capital that funded the PC and semiconductor revolution...and Max Headroom...and piles of coke.

SheepDog-One's picture

SPX 1212 peaking out on the range on lowest range volume....well it needs to pop CONVINCINGLY over that on volume quick or its 'fake rally over' time.

firstdivision's picture

Look at the veloicy of that 10 year...after Gross goes all in on longer duration.

SheepDog-One's picture

Well good luck to Gross and the primary dealers on their Tbond purchases, I wouldnt touch that crap myself. Banksters and club members sloshing fake money around...big deal.

afdestruction's picture

The slow stochastic is at 95.49, almost maxed out. Expect another >75-100 point drop soon like the last several times this maxed out.


SheepDog-One's picture

One of these times, it wont come back!

zorba THE GREEK's picture

Does this mean my 201K is now a 101 K soon to be a 51K?

SheepDog-One's picture

.004.1K. The FED moves the decimal point to the right, everyone else moves their decimal point to the left.

duckhook's picture

Anyone who can add can see that that the implied rate of return is irrational.Thst will mean only one thing,that the states and municplaities are even mre underfunded then they assume and that the minicpalities are going to have to raise taxes and cut services consistently into the future.or they are going to have to default on their obligations. This does not take rocket science and it is inevitable

Vincent Vega's picture

Bingo! But try explaining that to J6P or many Fortune 500 employee and their eyes glaze over. I was making this same point to a close friend last night. He's been with the same company 32 years and is 3 years to retirement. He can not fathom any potential problem.

Uncle Sam's picture

Eventually, according to accepted accounting math, every municipality will eventually have only one employee, whose job it is to disburse pension checks to former employees (the Schwarzenegger interview is only background fluff, get to the part about the municipalities):


Mededith may be a little behind the time curve, but, without bailouts, she's absolutely right.

France is now, through a new state bank, giving money to municipalities and businesses that need supporting. My guess is that they're printing their own Euros. The Irish did it, so legally everyone else can do it, too:


This is the global financial system of the future - Central Banks will print unlimited amounts of fiat to pay everything, without any capital reserves.

So the question is, how far can the world go, printing unlimited amounts of fiat out of thin air, until the system breaks? Any investing strategy is completely dependent on this premise.

Throw in the fact that nowhere in the world is any legal/regulating authority chasing high level financial fraud.

If the "NWO" is the replacement of existing governments with a new, global centralized one, isn't the complete control over the world's financial systems by unregulated, non-democratic Central Banks, with every country under their thumb, the ultimate proof? The "coup" has already taken place.

And to think, it all started with Alan Greenspan and the complicity of the American government:


If you're short of time, go straight to 18 minutes in.

Interesting that no political candidate - anywhere in the world, in any country - is pushing for legal accountability of high level financial fraud. We already have the "NWO". The question now is not how to prevent it, but how to reverse it.

Bicycle Repairman's picture

If you've ever modeled a pension plan you know that it's all about the assumed interest rate.  Increasing contributions is like digging with a teaspoon.  If you want to cut benefits, you have to slash.  Interest rates must rise.  ZIRP must be ended now.

dick cheneys ghost's picture

"Prepare to write another bigger one every year for the next 30 years, even if public pension fund investments match historic indexes of the past 30 years —  which would put the Dow above 65,000 — and managers actually earn what they promise."



samsara's picture

I am more concerned about the return of my money than the return on my money.

 --Mark Twain

Corn1945's picture

Ben Bernanke doesn't give a fuck about your pension or retirement. He doesn't work for you.

SheepDog-One's picture

Thats right. Neither do any of the politicians.

Logans_Run's picture

The flattening of the curve is also putting the hurt on financial services companies that sell annuity products. 3rd quarter results will not be good.

buzzsaw99's picture

I predict Pimpco's fund managers will get rich no matter what happens.

riley martini's picture

 He didn't include the lost from fraud and theft by the Corporate-Government Fascist . Any pension plan left solvent after the Paulson panick are allowed to amortize their losses for up to 30 years . Anyone in a pension plan could be paying for losses for years before benefits can be increased if the plan survives . An act of congress .

ZeroPoint's picture

You can extend this over to 401ks too. Doesn't matter how many shares you own, it will never be enough to live without a job.

SheepDog-One's picture

Step right up! Pin ya retirement pension monies to high risk equities! Everyones a WINNA! 

No, really...what could possibly go wrong?

BadKiTTy's picture

11% returns...... No problemo (nominal of course). With inflation at 15-20% we would be about where we are today.

Now.... Where the f@&k did I put that paddle??


Blank Reg's picture

"pensioners who hope to see their life savings generate some...any... return (on capital, or of capital) in their lifetime, to simply skip this article and read some of our cheerier fare"

Uh, guys? You don't HAVE any "cheerier fare".

slewie the pi-rat's picture

we are freaking doomed, BiCheZ! 

feel better?

Blank Reg's picture

There! See what I mean? Come on. Buck up little troopers. Hey, I know how we can save the country. Let's put on a show! We have some costumes in the barn, and my dad knows music.....

slewie the pi-rat's picture

i know!

pain is so commonplace, you'd think we'd be able to see it coming, by now

when mars rescues us, they will help us understand that we are living in a pain factory

take a food chain to lunch, BiCheZ!

Dingleberry's picture

Step 1. Send pension money to Wall Street

Step 2. Banks literally steal from bid/ask spreads, currency redemptions, shorting their own endoresed investments, etc.

Step 3. Pension fund loses money and/or collapses


What's the problem?  The banksters got away with robbing the average Joe again.  As if that matters anymore......

The Alarmist's picture

Considering I finished Q3 up 56% on the long- dated zeros that are 25% of the LDI part of my pension scheme's portfolio, 11% is what passes for conservative these days.

the grateful unemployed's picture

Recently CaPers rate of return was projected at around 4.75%? Recall that when they proposed lowering it 1/4% Wall Street had a seizure. (the audience in this piece is the investment board of these funds, and who are they? The elected CaPers board for instance, gives almost no pushback, even when Goldman was nailed for frontrunning them for a few million. I guess its like everything else, we have a voice, but no one listens.) In other states its worse, in AZ the pension fund is completely opaque. They raised public employee contributions when the fund lost money in the stock market.(referred to me anecdotally by a relative who works for AZ) In CA fund shortfalls are addressed by the state.

and this is the rub, because the states are not in good enough fiscal shape to handle that. the incumbency is of course deeply dependent on these blue state voters, and their pension funds. red states much less so, which is why they act so moral about the debt ceiling and all the market bailouts. a lot of it is simple politics, and Geo Bush proved you could move the red state voters as a monolithic block.

who is Pimco talking to here? Any pension fund managers, which means Wall Street types, who are over leveraged in their pension fund investments. This is shorthand for you better be a little less leveraged and propose some austerity measures if you're in this group. if bonds are less attractive then fund buying should go into equities, or risk assets. The Texas Employees fund bought how much gold?

and if the Fed is printing money, equities should get an (inflationary) asset lift from that policy. Meanwhile Obama has to protect what few constituents he has left, most of them on Wall Street, and not part of the protest.

in this less than conservative world we live in, some retirees are using their retirement check to pay a mortgage, (while home asset prices remain artificially high).

should we have an Argentine like crash, where the bond holders (in that instance widows and orphans in Italy) are haircut for 50% and the stock market is made whole again, who would you want to be. You buy risk assets, and when the market crashes you buy some more, and throw your bond certificates in the fire.

Pimco can preach all they want, that's the only way to game it. the chart proves it.

twotraps's picture

funny that all that pension fund math makes sense....interest rates and risk asset returns, over time etc....all this based on markets that are barely recognizeable.  ZIRP??  Insolvent banks, contagion in Europe??  Oh...and the mkt is up another 150 today.  I get it.

beaker's picture

There is only one way to fix these pension plans.  Present value these benefits, write a check for the hit, and shut the plan down. 

Alex Kintner's picture

Converting all retirees to Soylent Green solves all the deficient problems by 2013 -- without gutting Soiled Security.

Side benefit -- Green Brick Oven Biscuits with Tea are delicious.