Pension Benefit Guaranty Corporation Research Articles

Do pension buyouts help or hurt employees (retirees)?

AbstractThis article compares expected pension default losses of employees and retirees before and after pension buyouts. The comparisons are made using a stochastic model calibrated with market data. The analysis shows that the lower protection level provided by the State Guarantee Association relative to that of the Pension Benefit Guaranty Corporation (PBGC) is a critical factor that explains the welfare reduction, or equivalently, larger expected pension default losses, of most retirees who become annuity holders in the buyouts. The analysis also shows that the employee welfare, or equivalently expected pension default gains or losses, depends on the continued PBGC protection and, critically, their employers' postbuyout default risk and pension funding status. Moreover, these employee welfare changes are quite different for the corporations included in this analysis. Our results suggest that welfare improvements depend on the PBGC and state insurance regulators' cooperation in protecting pension participants and supervising buyout insurers.

Valuing Losses of Pension Benefits

Valuing Losses of Pension Benefits

The Pricing Model of Pension Benefit Guaranty Corporation Insurance with Regime-Switching Processes

This paper aims to evaluate Pension Benefit Guaranty Corporation (PBGC) insurance values through regime-switching models. We separate periods of the economy with faster growth from those with slower growth to observe long-term trends in the economy. We derive a fair PBGC insurance pricing formula under distress termination and intervention termination using regime-switching processes. We set parameters by estimating the S&P 500 index and one-year treasury bills via expectation maximization particle swarm optimization (EM-PSO)-Gradient, which is an extension of the EM-Gradient method. Then, we conduct sensitivity analysis to investigate the impact of model parameters on insurance values. According to the maximum likelihood estimation results, the Akaike information criterion (AIC) and Bayesian information criterion (BIC) estimators show that the regime-switching process has better goodness of fit than the geometric Brownian motion. Scenario analysis also supports the adequacy of our pricing formula.

Missing Participants and Beneficiaries From Private-Sector Pension Plans

This article examines the problem of missing and nonresponsive participants and beneficiaries from defined-benefit (DB) and especially defined-contribution (DC) pension plans, mainly in the private (for profit) sector of the United States. It focuses on the current search requirements of the three government agencies involved in finding missing participants and beneficiaries: the Pension Benefit Guaranty Corporation (PBGC), the Department of Labor (DOL) and its Employee Benefit Services Administration (EBSA), and the Internal Revenue Service (IRS). The article also reviews the efforts of the Social Security Administration (SSA) in this area. It then reviews proposed legislation, the Retirement Savings Lost and Found Act of 2020 (now S. 1730; RSLFA). The issue of missing participants and beneficiaries often becomes critical when an employer goes out of business or for some other reason stops sponsoring a pension plan. The missing participants are owed their earned retirement benefits. They, not the employer, own them.

Pension insurance schemes and moral hazard: The Pension Benefit Guaranty Corporation should restrict the insured pension plans’ portfolio policy

The pension insurance schemes existence leads to moral hazard: the insured defined benefit pension plans tend to invest more heavily in risky assets. A possible countermeasure mentioned in the literature, but not yet analyzed, is the introduction of a restriction on the pension plans’ portfolio policy. The US context is chosen for analysis. We argue that a portfolio restriction is needed in the case of a sponsoring firm in financial difficulty having an underfunded pension plan. We prove that the restriction should respond to the objective of liability hedging. Estimation results suggest that the corresponding portfolio strategy is a low-risk policy. The paper recommends that the maximum equity proportion is fixed at 30%.

Single-Employer and Multiemployer Pension Plans: Problems and Prognosis

This article examines the state of single-employer and multiemployer pension plans for the period 1980s to 2020 with particular attention to funding, Pension Benefit Guaranty Corporation benefit guarantees and intervention procedures, financial status, participant experience, employer premiums, and benefit payments. It then shifts to congressional efforts to save the plans beginning with the Multiemployer Pension Reform Act of 2014 and continuing through the complex development of the HEROES Act with its conflicting EPPRA and GROW Act provisions. Due to an unresolved conflict between the Senate Republicans and the House Democrats, the pension provisions were removed from the compromise legislation that was signed into law at the very end of the Trump Administration. The matter will be further addressed by the new Democratic-controlled Congress and the Biden/Harris Administration. However, that may take a while. The issues are complicated and the Congress may be busy with more pressing matters for some time to come.

Risk-based premium evaluation with jump diffusion process for PBGC

In this paper, we mainly focus on the valuation for the risk-based premium of private pension plan with termination provided by the Pension Benefit Guaranty Corporation (PBGC). The dynamics for assets of both the pension fund and the sponsoring company are described by jump diffusion processes. We obtain the pricing formula for the risk-based premium with premature termination and analyze the impact of certain parameters on the premium through numerical simulations. Results indicate that the risk-based premium for PBGC increases with the increase of the risky asset investment proportion, the volatility of risky asset, and pension benefits.

Premium Valuation of the Pension Benefit Guaranty Corporation with Regime Switching

The Pension Benefit Guaranty Corporation (PBGC) provides insurance coverage for single-employer and multiemployer pension plans in private sector. It has played an important role in protecting the retirement security for over 1.5 million people since it was established about half a decade ago. PBGC collects insurance premiums from employers that sponsor insured pension plans for its coverage and receives funds from pension plans that it takes over. To address the issue of underfunded plans that the PBGC has, this work studies how to evaluate risk-based premiums for the PBGC. Inspired by a couple of existing work in which the premature termination of pension fund and distress termination of sponsor assets are analyzed separately, our work examines the two types of terminations under one framework and considers the occurrence of each termination dynamically. Given that market regime might have a big impact on the dynamics of both pension fund and sponsor’s assets, we thus formulate our model using a continuous-time two-state Markov chain in which bull market and bear market are delineated. We thus formulate our model using a continuous-time two-state Markov Chain in which bull market and bear market are delineated. In other words, the pension fund and sponsor assets are market dependent in our work. Given that this additional uncertainty described by regime switching makes the market incomplete, we therefore utilize the Esscher transform to determine an equivalent martingale measure and apply the risk neutral pricing method to obtain the closed-form expressions for premium of PBGC. In addition, we carry out numerical analysis to demonstrate our results and observe that premium increases according to the retirement benefit irrespective of the type of terminations. In comparison to the case of early distress termination of sponsor assets, the premium goes up more quickly when premature termination of pension funds occurs first due to the fact that pension fund is the first venue of retirement security. Furthermore, we look at how the premium changes with respect to other key parameters as well and make some detailed observations in the section of numerical analysis.

The End of Leisure and Retirement, Covid-19: Innovations, Jobs, pensions, and Keynes: Guaranteed Income or Future Poverty and Redundancy?

The history of the support by society of the aged is discussed in cross cultural and historical context. Various cultural traditions are compared with the forms developed in complex societies from ancient Egypt and Greece and Rome, to China, the Aztec, Inca and Maya, to those of religious organizations, or those developed under different modern ideological systems like capitalism and communism as well as social democratic nations. It is found that the way a society values the aged and views their contribution to society determines largely their willingness to provide for their support. An increasing number of companies have gone bankrupt in recent years following the 2007 credit crisis and stock market collapse. More have raided their pension funds to stay afloat or have closed them and transferred liability to the federal Pension Benefit Guaranty Corporation. Major changes to federal law concerning pensions and the responsibility of corporations to fund them has made under the Pension Protection Act of 2006. World wide workers’ retirement payments are under assault as are investments by pension funds due to laws governing priority of payment in different countries concerning stock holders vs bondholders and liability for pension funds. The need for retirement of some kind in the post-Covid-19 world will require new forms as well as recovery of pre-Covid-19 savings and investments. Changes in the law are proposed to increase the stability of pensions and reliability to workers of pension payments.

Risk-Based Premiums for Pension Insurance

The present paper develops a model to compute risk-based premiums for the USA pension insurance administered by the public Pension Benefit Guaranty Corporation (PBGC). Pension insurance is shown to he analogous to a financial put option, and pricing equations and their analytical solutions are obtained. The model includes costly audits that follow a Poisson process, whose average frequency is determined by the policymaker in order to attain Pareto-optimality. The model is estimated for a sample of us firms for the period ¡982-1986. The main policy implication is that risk-based premium rales increase at an increasing rate with the level of underfunding, in contrast with the current law of flat premium rates after certain level of underfunding.

Retirement Security: Trends in Corporate Restructurings and Implications for Employee Pensions

Over the past 20 years, corporate restructurings, particularly mergers and acquisitions (M&A) tended to happen more frequently during periods of economic expansion. GAO's analysis found that from 1999 through 2018, M&A activity comprised the largest share of corporate restructurings. In terms of dollar value of completed deals, M&A activity experienced relative peaks in 2000, 2007, 2015-2016, and 2018. The number of M&A deals followed a similar trend. Further, GAO found that company takeovers comprised the largest share of completed M&A activity during the time period, and many completed deals included private equity involvement, that is generally a transaction involving equity capital not quoted on a public exchange. Since 2009, M&A deals, on average, have tended to be completed in shorter time frames. In contrast, large bankruptcies — those $305 million or more in 2018 dollars — occurred during periods of economic distress and peaked during the two most recent recessions. The effects of corporate restructuring on retirement plans are generally unclear. Limited data make it difficult to understand or determine the effects, if any, of corporate restructurings on pension benefits. Two key sources of data we analyzed, the Bloomberg Terminal and the UCLA LoPucki Bankruptcy Research Database, may not contain the full array of restructuring events and do not include data or other key information on pension plans. In addition, pension benefit changes may be made with or without regard to any underlying restructuring event and such restructurings could result in business and economic efficiencies. One expert stated that, as with corporate restructuring events, the acquiring firm will often harmonize their benefits so the target firm's benefits are made similar to the acquiring firm. Thus, some employees could obtain access to another company's pension and benefit programs. Other experts told GAO that a restructuring may prompt a company to re-think its employee benefit structures. Moreover, a few experts said there is less time for some stakeholders, including employees and retirees, to determine how the restructuring will impact their pension plan. As a consequence, these experts said affected stakeholders, including retirees and the Pension Benefit Guaranty Corporation may be excluded from certain negotiations. As noted in previous GAO work, bankruptcy transactions may have adverse effects for employees as bankruptcy can be a contentious process where stakeholders compete for assets that are often diminishing in size. On average, firms that emerge from bankruptcy do so with over one-quarter fewer employees than they had prior to filing for bankruptcy.

An Actuarial Perspective on Pension Plan Funding

The Pension Benefit Guaranty Corporation (PBGC) was established by the Employee Retirement Income Security Act (ERISA) to provide insurance guarantees for qualified pension plans insufficiently funded to provide accrued vested benefits. The PBGC’s annual reports on the liabilities for plans it has taken over and the agency’s assets show that the Single Employer Program has seen this net position vary from a surplus of almost $10 billion in 2000, to a deficit of over $29 billion in 2012. The PBGC uses a proprietary Pension Insurance Modeling System to model future scenarios for their obligations. This paper offers observations on future pension plan funding and how this could affect the PIMS model, based on the current environment, and how the agency might respond to change.

Modeling Risk-Based Pension Insurance Premiums

This paper describes how the Pension Protection Fund (PPF) in the U.K. quantifies and prices the risks it carries. It also discusses how the PPF interprets these outcomes in terms of a levy or premium to be charged to the pension plans that it protects. PPF has existed since 2005: it has experienced rapid growth as a consequence of the failure of U.K. pension scheme sponsors and the persistent underfunding of their plans, and it has withstood the global financial crisis, partly due to the Fund’s ability to charge a levy consistent with the risks it faces and its skill in securing stakeholder acceptance of its process. Considering the example of the U.S. Pension Benefit Guaranty Corporation (PBGC), the PPF was able to introduce the world’s first risk-based pension protection levy, a key step in winning stakeholder support for the pricing mechanism; the components of the levy-setting process are described in this paper. We examine the PPF’s goal to be self-sufficient by 2030. We also review the framework whereby investment and levy strategies can be evaluated in the context of the PPF’s long-term objectives, and we describe the internal model at high level to compute measures of success of different strategies. The Board has been able to use this framework to assess the impact of a change to the basis of indexation of PPF compensation, the cost of removing its compensation cap, and the effect of a potential change in pension scheme funding valuations to permit smoothing of discount rates.

Actuarial Perspectives on Defined Benefit Pension Risk -- Modeling Emerging Issues

This paper reviews documentation provided on the Pension Benefit Guaranty Corporation’s (PBGC’s) Pension Insurance Modeling System (PIMS). It also discusses priorities for future development of the system, based on emerging issues in pension plan design and environment, and it suggests particular emphasis be placed on improvements in refining the modeling of the multiemployer program.

Technical Review Panel for the PIMS Model: Final Report

In April of 2013, the Pension Research Council of the Wharton School at the University of Pennsylvania convened a Technical Review Panel, comprising ten experts whose task it was to review the Pension Benefit Guaranty Corporation’s (PBGC) Pension Insurance Modeling System (PIMS), including inputs, outputs, and model assumptions. The review was intended to provide a formal evaluation of the technical adequacy of the model by outside experts. Each expert participating on the Technical Panel was asked to review background material (see References) and focus on a particular aspect of the PIMS model. The list of panelists and topics was developed by the Council in discussion with the Social Security Administration (SSA). This report and the appended papers herein from our Technical Panel comprise the Final Report under this project.The Panel’s key findings may be summarized as follows:1. The PIMS models are an important and valuable tool in modeling the Agency’s liability risk. To the best of our knowledge, there is no other model that can do a comparable job.2. Nevertheless, some improvements could be integrated in the Agency’s approach to modeling. Those deserving highest priority attention in the experts’ view are the following:a) Incorporating systematic mortality risk (i.e., treat mortality and longevity as stochastic variables);b) Including new asset classes increasingly found in defined benefit plan portfolios (e.g. commercial real estate, private equity funds, infrastructure, hedge funds, and others);c) Developing a more complex model for the term structure of interest rates; andd) Incorporating an option value approach to pricing the insurance provided.3. The Agency could also do more to communicate the range of uncertainty and potential for problems associated with the PBGC’s financial status. This could include additional information including the Conditional Value at Risk (CVaR), and perhaps an ‘intermediate,’ ‘optimistic’, and ‘pessimistic’ set of projected outcomes, as well as the expected ‘date of exhaustion’ for assets backing pension benefits insured by the PBGC.

Averting the Multiemployer Pension Solvency Crisis

The Pension Benefit Guaranty Corporation (PBGC) multiemployer pension insurance program faces projected insolvency, driven by systemic underfunding of multiemployer pension plans. To address this brewing crisis, Congress has established a joint select committee to develop multiemployer pension reforms. Primary causes of the crisis include lax funding rules and inaccurate valuations of pension assets and liabilities. Explanations frequently offered for underfunding, such as financial market downturns and the declining proportion of active workers, fail to account for the relative weakness of multiemployer pension finances. Reforms should establish accurate asset and liability measurements, safeguards against further deterioration of underfunded plans, improved incentives for plan trustees, stronger funding requirements, and risk-based premiums. Legislators may wish to consider authorizing the PBGC to relieve plans of so-called orphan liabilities, subject to strict requirements that any relief must reduce projected claims on pension insurance. Lawmakers must be firm in declaring that no taxpayer funds will be used to bail out multiemployer pensions.

Valuation of risk-based premium of DB pension plan with terminations

This paper concentrates on the premium valuation of pension insurance provided by the Pension Benefit Guaranty Corporation (PBGC). The PBGC provides a defined benefit pension sponsor with coverage in case that the pension fund fails to make pension payments as promised or that the plan sponsor does not stay in business any more. In practice, both the pension fund and the sponsor assets play a critical role in fulfilling the commitment of pension payments, and thereby it is not reasonable to isolate the risk of distress termination of the sponsor assets from that of the premature termination of the pension fund. Different from previous works in which the premature termination of the pension fund and the distress termination of the sponsor assets are analyzed separately, our model examines the situation in which retirees suffer the risk of two types of terminations at the same time. We evaluate the risk-based fair premium under the framework that the pension fund and the sponsor assets are correlated and subject to the risk of the involuntary termination (i.e., premature termination) and the distress termination, respectively. In this framework, we manage to obtain closed-form pricing formulas. Our model is more practical because of the realistic design of termination schemes. Numerical simulations are also carried out to demonstrate our findings. Our numerical experiments validate that a variable rate premium is more appropriate for the PBGC to implement.

PBGC Solvency: Balancing Social and Casualty Insurance Perspectives

Concern has been voiced regarding the financial viability of the Pension Benefit Guaranty Corporation (PBGC) and whether, as with the savings and loan episode, a general taxpayer bailout will be necessary. The focus is on PBGC's net worth deficit of $2.5 billion in the single-employer fund; an estimated $31 billion in underfunding within individual insured plans; and $13 billion which PBGC classifies as a “serious risk” because of financial problems of the sponsor company. The overall defined benefit pension system, however, presently has $1.3 trillion in assets to cover $900 billion in liabilities. Therefore, while there is $31 billion in underfunding within individual plans, there are also sufficient resources available within the defined benefit system itself — the payers of PBGC premiums — to cover this underfunding, making a general taxpayer bailout unnecessary. The urgency surrounding PBGC's current financial condition and what, if any, legislative changes are necessary varies with whether the corporation is viewed from a pure social insurance or a pure casualty insurance perspective, or a mix of the two. The social insurance perspective was the foundation of Title IV of ERISA, but legislative changes since 1974 have introduced casualty insurance provisions. The social insurance perspective maintains that PBGC should encourage the maintenance of defined benefit pension plans and function as a transfer agency in a social insurance system where the insured cross-subsidize one another in the event that a definable loss should occur. It argues for the insurance of all reasonable benefits that a sponsor is willing to provide for its employees. The casualty insurance perspective argues that the PBGC insurance scheme is flawed in its design and that these flaws are the cause of any existing deficit problems. The system is not designed on sound insurance principles even though it is supposed to be an insurance system protecting participants' pension benefits. The design creates financial incentives for undesirable sponsor behavior and allows the opportunity for underfunding of defined benefit pension plans. Four proposals have been introduced to change PBGC's current operation. The proposals, while maintaining PBGC's social insurance tradition, represent a further movement toward casualty insurance concepts. The proposals minimize PBGC's exposure by increasing recoveries and minimizing claims. The proposals maintain a social insurance program's objectives by attempting to alter the behavior of the participating plans and plan sponsors while maintaining cross subsidies and the present premium structure. A balance between social insurance and casualty insurance principles is most likely to sustain an overall strong and continuing defined benefit pension system, providing a continuing base of premium payers for the PBGC.

Underfunding or distress? An analysis of corporate pension underfunding and the cross-section of expected stock returns

The pension underfunding anomaly (Franzoni & Marín, 2006) is mainly concentrated in financially distressed sponsors. The predictability of pension underfunding levels on the cross-sectional stock returns disappears after considering sponsor financial distress. It exists when underfunding is primarily due to poor operating performance and during the initial five years of underfunding; it diminishes when underfunding is due to bad pension investment returns and when firms underfund for more than five years. The potential financial distress inherent in the most underfunded firms and the prospect of intervention by the Pension Benefit Guaranty Corporation make the arbitrage opportunity not entirely risk free.

The New Mortality Tables, Life Expectancy and Pension Plans

The Internal Revenue Service will adopt new regulations replacing outdated mortality tables RP-2000 and improvement factor AA with RP-2014 and MP-2016 (RP for “retirement plan” and MP for “mortality projection”) for plan years beginning on or after January 1, 2018. The new tables will affect plan valuation (that drive employer contributions), Pension Benefit Guaranty Corporation’s variable rate premiums and the calculation of lump sum distributions. They will substantially increase the cost of sponsoring a traditional defined benefit pension plan. This article explains the workings and function of mortality tables and life expectancy, traces the development of the new tables by the Society of Actuaries and their adoption by the IRS, assesses their likely impact and examines probable responses by plan sponsors.