Human Capital & Careers

PBGC Panned for Risky Investment Plan

New Government Accountability Office report suggests that the nation's "high risk" pension insurer may be preparing to take unwise gambles as it tr...
Alan RappeportAugust 18, 2008

America’s pensions could be in safer hands. The Pension Benefit Guaranty Corp., the government agency that backs the retirement benefits for more than 40 million Americans, is about to take a step to make overly risky investments, according to the Government Accountability Office. And it suggests that the PBGC move may be a dangerous path to easing its own debts.

The congressional watchdog says that the PBGC has $68 billion in assets, but that its $14 billion deficit places it on the GAO’s “high-risk” list of federal programs. The pension insurer used to limit its investments in equities to a range of 15 to 25 percent of its holdings, but announced plans to lift that rule in 2008.

The rule is designed to limit the agency’s exposure to financial risk by prevent the PBGC from investing more in higher yielding areas such as equities, emerging market, debt and private equity funds. In the PBGC’s view, however, the elimination of the rule could mark a return to the PBGC’s days of high returns in the 1970s and 1990s.

The agency’s investment targets now include 40 percent fixed-income, 39 percent equities, 10 percent real estate and private equity, 6 percent alternative equities, and 5 percent alternative fixed-income. The PBGC has about $55 billion to invest under the new investment policy.

The GAO finds this risky because the PBGC functions both as an insurer of defined benefit pension plans, and as a trustee of plans it takes over. Since it does not have business revenue, cannot change its premiums, and cannot choose which plans to insure, the agency faces greater risk from market volatility than other types of insurers. And since the PBGC often needs to make frequent payouts — sometimes more than $4 billion a year to retirees — a sudden shortfall would pose a big problem.

“While the new investment policy aims to reduce PBGC’s $14 billion deficit by investing in assets with a greater expected return, we found that the new allocation will likely also carry more risk than acknowledged by PBGC’s analysis,” according to the GAO.

The GAO recommended that the PBGC conduct “sensitivity analyses” before putting its new investment strategy in action, and that it create ways to monitor the strategy’s progress and create accountability, so that riskier strategies do not end up proving costly to American taxpayers.

“The agency faces unique challenges, such as PBGC’s need for access to cash in the short term to pay benefits, which could further increase the risks it faces with any investment strategy that allocates significant portions of the portfolio to volatile or illiquid assets,” according to the GAO.

In response, Charles Millard, PBGC director, said that the agency’s biggest risk is not being able to meet its liabilities, or that it will require a government bailout. Looking at this “funded status” risk over the course of the next 20 years, Millard said, the worst-case scenarios for the new policy would be much safer than the worst-case scenarios for the current policy. Moreover, he noted that the PBGC had already tested hundreds of portfolios against 5,000 different economic scenarios and that institutional investors would see less risk and investment gains up to $40 billion over the next 30 years under the new policy.

“The new investment policy will readily allow PBGC’s trust fund to meet the projected cash flow needs of the corporation over the next 20 years,” Millard said.

The PBGC’s deficit is the result of it taking over several large pension plans that failed during the last several years. The insurer is funded by fees from firms it insures, assets from failed pensions, bankruptcy liquidations and returns on its investments.