Demand soaring for pension transfers to insurers

[pb4uski]

......I shudder to think what could have happened if AIG had truly failed and the CDOs went bad. I'm pretty sure lots of insurance companies were using these to hedge their portfolios.

Better check your facts before you shudder too much. AIG's problems were with derivatives written by the parent company, the insurance companies were fine and are what AIG is divesting and using the proceeds from those sales to pay the government back.

Below is a synopsis of the counterparties who received payments - mostly banks - only one insurer that I saw. You still pretty sure lots of insurance companies were using them to hedge their portfolios?

A.I.G. Payments to Counterparties

 

[Chuckanut]

Read Retirement Heist.

 

[JOHNNIE36]

From HTown Harry:
Perhaps that's why they "bracketed' the offer to include only relatively recent retirees? Still, there's bound to be some pretty sick 70-80 year-old retirees who retired in the last 15 years.[/QUOTE]

Don't understand this part of your post. Older retirees aren't getting screwed if that's what you meant. They can just elect to continue with current payments, although, paid out through Prudential.

 

[Htown Harry]

I was wondering about adverse selection from the perspective of GM and the insurance company.

Here's what I mean. Say the pool of 40,000 retirees has a median age of 75, a 60/40 male-female mix and a mean life expectancy of 10 more years based on age alone. The single premium paid to Prudential might be an average of $X per person. However, if the portion of the pool with bad health (or the male portion) disproportionately takes a lump sum of $X in lieu of GM paying Prudential $X for an annuity, then the premium paid on behalf of the other 30,000 would be too low.

 

[Independent]

I wonder how the adverse selection factor is figured into the pro-forma for a one-time, all-at-once offer of lump sum payments to a retiree pool. If I'm a retiree in declining health with heirs, I'm jumping all over the lump sum offer.

On a different forum, I saw a post from a GM retiree which seemed to say that her lump sum offer was noticeably less than the premium for a private SPIA with the same monthly benefit. That could be their approach.

 

[2B]

Better check your facts before you shudder too much. AIG's problems were with derivatives written by the parent company, the insurance companies were fine and are what AIG is divesting and using the proceeds from those sales to pay the government back.

Below is a synopsis of the counterparties who received payments - mostly banks - only one insurer that I saw. You still pretty sure lots of insurance companies were using them to hedge their portfolios?

A.I.G. Payments to Counterparties

It's good to know that the banks held almost all of these. If they croaked, I'm sure it wouldn't impact any of the insurance pools.

So, have the banks announced who they had as counter parties? These things were apparently sold, re-sold, etc. The nest of snakes is probably pretty snarled. I had heard that some pools had bonds that were "protected."

 

[pb4uski]

It's good to know that the banks held almost all of these. If they croaked, I'm sure it wouldn't impact any of the insurance pools.

So, have the banks announced who they had as counter parties? These things were apparently sold, re-sold, etc. The nest of snakes is probably pretty snarled. I had heard that some pools had bonds that were "protected."

What insurance pools are you talking about?

As I suspect you are aware, the banks are not required to disclose who their counterparties are. As explained in the link of the prior post, AIG wasn't required to disclose its counterparty payments either but did so due to the unusual circumstances and with the consent of the counterparties.

It is fascinating to me how your rationalization changes when confronted by facts. To me your new and improved speculation has the same validity as your earlier disproven assertion that "lots of insurance companies" were using AIG derivatives to hedge their portfolios. The core problem is that you don't know what you are talking about on this subject but are groping in the dark.

 

[rodi]

Read Retirement Heist.

I agree. Excellent, fact filled book.

On a different forum, I saw a post from a GM retiree which seemed to say that her lump sum offer was noticeably less than the premium for a private SPIA with the same monthly benefit. That could be their approach.

This would be the case with my frozen "portable" pension. I am no longer allowed to take a full lump sum because they are significantly underfunded (and it's getting worse each year - went from 87% funded in 2008 to 70.52% funded for 2011... trend in the wrong direction.).

When I compare the annuity they say I'd get to what a SPIA would cost - the lump sum is significantly lacking. When I get closer to actually collecting I'll do the comparison again, but at this point the annuity is worth a lot more than the lump sum. Still not enough to make a dent in my retirement income, but I will be prudent with the decision.

Most of my coworkers plan on taking the half lump sum (can't take the full lump sum because of underfunding) just to get control of the money. But they haven't done the comparison.

 

[ziggy29]

It seems to me that if the insurance companies think that it is a good deal; that is, good enough to buy from MegaCorp, I am surprised that MegaCorps wouldn't self insure and make the commission. I guess that at the right number, it's worth it to lay it off.

Bottom line is, Wall Street hates uncertainty more than just about anything else, and this removes one of the largest sources of uncertainty for businesses that still have legacy DB pension plan liabilities. I think this is more about eliminating uncertainty than saving money in the long run, assuming these corporations are paying pretty richly for the ability to get rid of the uncertainty. It's not like they aren't collectively sitting on trillions of cash earning almost nothing. They have to find something to do with the cash; it's not like many will pay out huge special dividends or (heaven forbid) stop overworking their remaining salaried employees and start hiring again with the cash.

 

[JOHNNIE36]

Here's a link to the GM announcement that is the lead in the OP's story link:

GM Announces U.S. Salaried Pension Plan Actions

​

I wonder how the adverse selection factor is figured into the pro-forma for a one-time, all-at-once offer of lump sum payments to a retiree pool. If I'm a retiree in declining health with heirs, I'm jumping all over the lump sum offer.

Perhaps that's why they "bracketed' the offer to include only relatively recent retirees? Still, there's bound to be some pretty sick 70-80 year-old retirees who retired in the last 15 years.

Htown Harry, I read your second post and coupled with this OP, still don't understand the meaning of this last sentence ""Still, there's bound to be some pretty sick 70-80 year-old retirees who retired in the last 15 years".
Why would this group be sick? What do you see that I don't see? Maybe I'm missing something. I mention this because that is the group I would be in except I retired a lot earlier than 1997. Please explain.

 

[Htown Harry]

Sure Johnnie, here ya go.

When I refer to "adverse selection", I'm suggesting that an individual retiree may have information that the insurance company doesn't have, then rationally acts on that information in a way that is not beneficial to the insurer. From Investopedia:

The term adverse selection was originally used in insurance. It describes a situation where an individual's demand for insurance (either the propensity to buy insurance, or the quantity purchased, or both) is positively correlated with the individual's risk of loss (e.g. higher risks buy more insurance), and the insurer is unable to allow for this correlation in the price of insurance. This may be because of private information known only to the individual (information asymmetry)...

The standard example is a smoker being more likely to buy insurance than a non-smoker if the product is offered at a rate equal for all applicants, regardless of smoking history.

I'm probably not using the term precisely enough to describe this particular situation, but the principle is very relevant.

Looking at the information from the insurer's position first...

GM calls Prudential and asks "what will you charge me to take this bundle of 40,000 pensions off my books? I'll send you the list":

• 1212 males age 57: 12 at $1000/ month, 27 at $1100/mo.....
• 755 females age 57: 16 at $900 / mo., 39 at $1000 / mo....
• 1345 males age 58....
• etc., etc. until all 40,000 lines of the spread sheet are filled

Prudential then uses their standard mortality / life expectancy measures and premium calculation methods to arrive at a premium for each of the 40,000 lines, then provides the individual premiums and the bottom line total to GM.


GM then makes an offer to all 40,000 retirees on equal terms for all, adjusted only for age, marriage, gender and pension payment. I assumed (and now contradicted by Rodi's post) that the offer to that first 57-year-old on the list (Joe) was: "keep $1000 a month or take a lump sum equal to the premium Prudential will charge us for taking the $1000-a-month-for-life off our hands."


Now from Joe's perspective. He may be anywhere in this range:



a. "Mom and Dad lived to over 95. I'm in perfect health. I'm taking the security of a $1000 per month pension that provides longevity insurance."


Or...


b. "Daddy and Momma both had heart attacks at age 60. Doc tells me that my cancer is spreading and I've got about 6 months to live. The way I figure it, GM says I can get $6000 (6 x $1000) if I keep taking the monthly payment vs. $200,000 lump sum. DD has college debt up to her eyeballs and I want to help her anyway I can. I'm taking the lump sum."


Joe has acted on asymmetric information. He knows the lump sum is a much better deal for him because he has information not made available to Prudential.


Back to Prudential...


If 10,000 of the "Joe B's" with excellent odds of coming out ahead monetarily by taking the lump sum choose to do so, then the premium calculations Prudential used for the remaining 30,000 are not accurate.



Prudential comes out behind, a victim of adverse selection, because they have charged a premium based on the average life expectancy of a pool of 40,000 people of average health. The liability they will get, however, will be to make payment for life to a pool of 30,000 healthier-than-average individuals.

 

[pb4uski]

Great explanation of adverse selection.

 

[JOHNNIE36]

Htown Harry, gotcha! I understand where you were going with this. I don't fall into this category because I retired before 1997; however, even if I retired after the 1997 date I still have the option of staying with what I have, $X/month with survivor benefits. I guess the only thing that changes for me is that pensions no longer covered by federal PBGT.