for institutional use only. not for public distribution. client-specific data is considered...

For institutional use only. Not for public distribution.Client-specific data is considered CONFIDENTIAL.

Frozen Pension Plans: Is immunization or termination the right choice?

May 2013

2For institutional use only. Not for public distribution.

Agenda

Frozen pension plans today

Cost factors for immunization

Considerations and conclusions

Assumptions and results

Cost factors for termination

Questions


Number of frozen plans has continued to increase over the past decade


PBGC data set Frozen - 2003 Frozen – 2012

> 5000 total parts 2% 18%

100-5000 total parts 9% 38%

Source for 2012: PBGC, Single-Employer DB Plan Freezes, May 2013. Source for 2003: PBGC, An Analysis of Frozen Defined Benefit Plans, December 2005

unms

unms7/20/2012Investment General\Pension Finance updateSME: Nathan Zahm (Kyle Morrison)Updates: Q (some slides -- Nathan to decide)



Insured LDI

Immunization

Plan termination

Lump sum windows

Partial group annuity purchase

Annuity buy-in

An array of options are available to frozen pension plan sponsors:


Assumptions and analysis


•Immunization vs. termination decision is most relevant for well funded frozen pension plans

– Underfunded plans can benefit from planning future objectives

•Look at 3 fully funded plans– Typical, Mature, and Young

•Baseline liability of $500M using a PBO or PPA Full Yield Curve style measurement

Assumptions

($ Millions) PLANS

Typical Mature Young

Active Liability $166.7 $100.0 $400.0

Terminated Vested Liability

$166.7 $100.0 $50.0

Retiree Liability $166.7 $300.0 $50.0

Total Liability $500.0 $500.0 $500.0

*See appendix for liability assumptions.


Variables impacting cost

Immunization cost factors

Bond underperformance relative to the liability

Administrative expenses

Offering lump sums

Termination cost factors

Group annuity costs

Lump sum acceptance rates

Early retirement benefits and plan features

Lump sum offer to retirees


•Cost for immunization or termination is generally close on a present value basis– Changes in the cost factors though can make one option more appealing

•Often the decision whether to immunize or terminate will come down to qualitative factors

Baseline results

($ Millions) PLANS


Baseline Immunization Liability

$537.6 $536.9 $540.0

Baseline Termination Liability

$532.8 $537.4 $530.3

Termination/Immunization Ratio

99.1% 100.1% 98.2%

Lower cost alternative Neutral Neutral Termination



Variable Baseline Value/Assumption


80 bps reduction in discount rate.

Plan expenses 10 bps reduction in discount rate.

Lump sums Offered to active and terminated vested participants in both immunization and termination alternatives.



Funded status based on assets using Barclays Long Credit Corp A or better index and liability using Barclays Long Credit Corp A or better index with adjustment for downgrades. Excess Treasury return based on the difference in rolling annual returns of Barclays Long Treasury Index and Barclays Long Credit Corp A or better Index.Source: Vanguard, Barclays

• Pension liabilities do not experience downgrades

• Corporate bond portfolios experience periodic losses relative to pension liabilities

12/29/199505/30/199710/30/199803/31/200008/31/200101/31/200306/30/200411/30/200504/30/200709/30/200802/26/201007/29/201112/31/201285%

90%

95%

100%

105%

Fu

nd

ed S

tatu

s


Credit headwind illustration

Matching corporate bonds don’t “keep up” with liability

Bond A

Bond B5.0%

6.0%

Bond A

Bond B

Discount rate = 5.0% Discount rate = 5.5%

Bond A

Bonds A & B make up liability universe

Market sees more credit risk in Bond B

Bond B is downgraded out of liability universe

Discount rate = 5.0%

Assets: lose valueLiability: decreases

Assets: no change in valueLiability: increases

Bond B

Yield yield

increases

unms

unms7/20/2012Investment General\Pension Finance updateSME: Nathan Zahm (Kyle Morrison)Updates: Q (some slides -- Nathan to decide)


Impact of increasing the annual underperformance of bonds relative to the liability from 0.8% to 1.0%

Credit headwind impact on the immunization vs. termination decision

($ Millions) PLANS



537.6 536.9 540.0

Change in Immunization Liability

8.8 8.6 9.4

Adjusted Immunization Liability

546.3 545.5 549.4


532.8 537.4 530.3


97.5% 98.5% 96.5%

Lower cost alternative Termination Termination Termination

Change in termination/immunization ratio

(1.6%) (1.6%) (1.7%)


Cost factors for termination



Variable Baseline Value/Assumption

Annuity purchase costs 110 bps reduction in discount rate for retirees and 150 bps reduction in discount rate for active and terminated vested participants.

Lump-sum acceptance rates (affects both immunization and termination)

75% of active and terminated vested participants elect lump sum.

Enhanced early retirement benefits (affects immunization and termination)

No enhanced early retirement benefits.

Offering retiree lump sums

No lump sums are offered to retirees at termination.


Impact of decreasing the lump sum acceptance rate from 75% to 25%

Lump sum acceptance rate impact on the immunization vs. termination decision

($ Millions) PLANS


Baseline Termination Liability 532.8 537.4 530.3

Change in Termination Liability 36.2 21.7 51.7

Adjusted Termination Liability 569.0 559.1 581.9

Baseline Immunization Liability 537.6 536.9 540.0

Change in Immunization Liability 10.7 6.4 15.3

Adjusted Immunization Liability 548.3 543.3 555.4

Termination/Immunization Ratio 103.8% 102.9% 104.8%

Lower cost alternative Immunization Immunization Immunization

Change in termination/immunization ratio 4.7% 2.8% 6.6%


Considerations and conclusions


Qualitative considerations

Immunization

Plan assets still under company’s control

Can gradually phase out of the pension plan

Can unfreeze plan in the future if desired

Participants receive an annuity at retirement; goals of plan still in tact

Termination

No more decisions/time on pension required by management

No more administrative or regulatory challenges

Pension off the balance sheet and out of P&L

Participants can choose own use for the money


Conclusions

Quantitative analysis will generally result in similar all in costs

Qualitative factors may become the deciding point

Answers and approach will vary greatly between sponsors

Assessing the impact of the variables and the current environment is important

The full cost of immunization or termination will be higher than the baseline liability


QUESTIONS?


Appendix


Impact of increasing the discount rate adjustment for plan expenses from 0.1% to 0.3%

Plan expenses impact on the immunization vs. termination decision

($ Millions) PLANS



537.6 536.9 540.0


8.8 8.6 9.4


546.3 545.5 549.4


532.8 537.4 530.3


97.5% 98.5% 96.5%



(1.6%) (1.6%) (1.7%)


Impact of not offering lump sums in an immunization strategy

Offering lump sums impact on the immunization vs. termination decision

($ Millions) PLANS



537.6 536.9 540.0


16.1 9.7 23.0


553.7 546.5 563.0


532.8 537.4 530.3


96.2% 98.3% 94.2%



(2.9%) (1.8%) (4.0%)


Impact of decreasing the group annuity discount rate by 35 basis points

Annuity cost impact on the immunization vs. termination decision

($ Millions) PLANS







Lower cost alternative Neutral Immunization Neutral



Impact of having special early retirement provisions in the plan

Early retirement benefit impact on the immunization vs. termination decision

($ Millions) PLANS



Change in Termination Liability (4.8) (2.9) (11.5)



Change in Immunization Liability (13.3) (8.0) (31.9)

Adjusted Immunization Liability 524.3 528.9 508.1


Lower cost alternative Neutral Immunization Immunization



Lump sums are offered to retirees in a plan termination

Offering lumps sums to retirees impact on the immunization vs. termination decision

($ Millions) PLANS







Lower cost alternative Neutral Immunization Termination



Liability assumptions

Assumed liability durations

Active liability 15

Terminated vested liability 13

Retiree liability 8

Assumed starting discount rates

Active liability 5%

Terminated vested liability 4.5%

Retiree liability 4%

for institutional use only. not for public distribution. client-specific data is considered...

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