Genius! Federal Pension Guarantor Switched From Bonds To Risky Stocks Last Year

In the highly competitive race for the title of “Stupidest Recent Financial Decision Made By A Government Official”, this one’s got to be a strong contender….

The Boston Globe reports:

Just months before the start of last year’s stock market collapse, the federal agency that insures the retirement funds of 44 million Americans departed from its conservative investment strategy and decided to put much of its $64 billion insurance fund into stocks.

Switching from a heavy reliance on bonds, the Pension Benefit Guaranty Corporation decided to pour billions of dollars into speculative investments such as stocks in emerging foreign markets, real estate, and private equity funds.

Who was responsible for the switch? Meet Charles Millard, a former Lehman exec (great pedigree there) who ran the agency from 2007 until the end of the Bush administration. Millard told the Globe: “The new investment policy is not riskier than the old one,” and added that a riskier strategy was justified to give the agency a chance to raise enough money to eliminate its deficit.

It appears to have had the opposite effect though. The agency’s stock-related investments were down 23 percent since the end of last September. But as the Globe notes, that was before the major downturn in the market triggered by the financial crisis. So the losses now are probably considerably higher. “This could be huge,” Zvi Bodie, a finance professor who in 2002 advised the agency to rely on bonds, told the Globe. “This has the potential to be another several hundred billion dollars.”

And those losses, of course, are coming at the worst possible time — when many private pension plans are themselves suffering losses, so the need for a robust and healthy PBGC is greatest. For instance, if the auto companies go bust, the responsibility for enormous pension plans would fall on the PBGC.

That’s the whole point of the agency. Mark Ruloff, who works for an independent monitor of pension plans, told the Globe that the agency directors “fail to realize that they are an insurer of pension plans and therefore should be investing differently than the risk their participants are taking.” Ruloff added: “The worst case scenario is coming to pass.”

It’s not like no one warned the PBGC against this approach. In addition to Bodie’s 2002 advice, Peter Orszag, the respected numbers geek who runs the White House Office of Management and Budget, flagged the problem last year, when he headed the Congressional Budget Office. Orszag warned that the PBGC was “investing a greater share of its assets in risky securities,” making it “more likely to experience a decline in the value of its portfolio during an economic downturn the point at which it is most likely to have to assume responsibility for a larger number of underfunded pension plans.”

And the Government Accountability Office concluded that the strategy “will likely carry more risk,” which the agency wasn’t acknowledging.

For his part, Millard appears sanguine. Asked by the Globe whether, given the market’s decline, the strategy was a mistake, he replied: “Ask me in 20 years. The question is whether policymakers will have the fortitude to stick with it.”

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