On February 12 the Pension Benefit Guaranty Corp., which insures private pensions for 44 million Americans, unveiled a more aggressive investing strategy. Abandoning a four-year-old liability-driven approach, director Charles Millard said PBGC would increase stocks to 45 percent of assets from 15 to 25 percent and shift 10 percent of its portfolio into real estate and private equity. Previously, PBGC had allocated 75 to 85 percent of its $55 billion trust fund to Treasury bonds.
“We need to get the best returns we prudently can,” says Millard, 50, a former president of the New York City Economic Development Corp. and before that a senior manager at Lehman Brothers, where he gave investment and trading advice to very wealthy families.
He says the more diversified approach should reduce risk and yield higher returns, helping shrink PBGC’s $14 billion unfunded liability.
Critics, including pension expert Zvi Bodie, a professor of finance and economics at the Boston University School of Management, say PBGC is increasing risk. Bodie compares PBGC to a hurricane insurer investing in beachfront property in Florida. PBGC, he notes, is already exposed to equities because the corporate plans it insures are heavily invested in stocks.
Millard says critics err in equating the PBGC with an insurance company or a pension plan when it is neither. He spoke with Institutional Investor Senior Editor Steven Brull in late February.
1 Institutional Investor: Why the change in your strategy?
Millard: For a long time the PBGC has zigged and zagged over whether it is an insurance company or a pension plan. It has similarities to both, but it’s very flawed to simply adopt one model when neither really fits.
2 How so?
We’re like an insurance company in that we insure people’s pensions. But there is no insurance company found in nature that can operate with a deficit like ours. So it’s a false premise to begin by saying that we are an insurance company and should invest heavily in fixed income. Similarly, we are not really like a corporate pension plan, which has to meet its liabilities on an ongoing basis without having pension liabilities swamp the company itself. We don’t have a company, we don’t have a stock price, and we can’t fund up like a corporate plan can.
3 So what’s the goal of the new strategy?
The PBGC needs to be more diversified to mitigate risk and get the best returns we can over a long-term horizon measured in decades, not years. After looking at hundreds of possible portfolios through tens of thousands of stochastic simulations, this was the portfolio that had the best return-and-risk profile for our circumstances.
4 But critics say you’re doubling down on risk because more corporate pension plans may fail during a period of low stock prices.
This is such an incomplete understanding of the situation. Some of the biggest plans we got, such as United Airlines and Delta, came to us when the economy was robust and the stock market was performing very strongly. If we inherit a plan with 60 percent in equities when share prices have gone down and we sell them into a 20-80 stocks-and-bonds strategy, then we would be selling the least expensive asset and buying the most expensive. That doesn’t sound to me like a good policy.
5 Should Social Security and the Federal Deposit Insurance Corp. follow your lead into equities?
It’s frighteningly facile to jump to a conclusion that one organization should invest like the other. They have different liabilities, different obligations, different degrees to which the federal government backs them. The federal government doesn’t back us, and we don’t use tax dollars. Each needs to be analyzed on its own.
