How to hedge against loss in lump sum value due to GATT rate rising?

[myfire123]

Hi all, this is my first post here although I've been visiting this site for quite a while. I work for a big company that offers a lump sum pension payout. I'm not quite ready to retire yet, however I have been getting closer and so I do go on my companies corporate website every month to see what my lump sum pension payout amount would be if I did choose to go. So I looked at my lump sum amount a couple of days ago and apparently the rising GATT rate is theoretically giving me a $45,000 drop in lump sum payout if I were to retire next month VS this month. This amount is like 6% or 7% of my lump sum and sure seems like an excessive amount of money to disappear into the ether just because of a quarter point rise in interest rates! Let me also add that this is the second time within a year that I'm seeing my lump sum amount drop by more than $40k. DAMN! I'm wondering if if any of you smart FIRE people can tell me if there is any way for a person to protect against this? Can you maybe invest in something in or out of your 401k (ETF, options, futures, binary options) to counterbalance the lump sum $$ drop caused by GATT rate rises ? Maybe insurance companies should sell GATT rate insurance for people who have lump sum pensions available to them! Thanks in advance for any ideas.

 

[braumeister]

What is the formula used by your company to determine this?

It should be available to you you on their website, or maybe by asking your HR department if it isn't.

Once you know that, it might be possible to devise a strategy.

 

[Sunset]

Besides the better answer by braumeister .

How to hedge would be to NOT take the lump sum. I am guessing that their lumpsum is going down as interest rates go up. The idea being that the lumpsum would equate to some pension amount over X years.

 

[myfire123]

What is the formula used by your company to determine this?

It should be available to you you on their website, or maybe by asking your HR department if it isn't.

Once you know that, it might be possible to devise a strategy.

I am going to call them on Monday and see if they have documentation they can send me which would allow a layman to figure out his lump sum amount and also figure out the actual dollar amount that the lump will go up or down depending on what the gatt rate does. Thanks.

 

[braumeister]

Try to get a full definition of their formula. With luck, it will be comprehensible to mere mortals.

The GATT Rate is the 30-year Treasury Bond interest rate, and is used as a benchmark for calculations of lump sum distribution from defined benefit plans.

Also, welcome to the board, and please consider introducing yourself here:

Hi, I am... - Early Retirement & Financial Independence Community

 

[myfire123]

Besides the better answer by braumeister .

How to hedge would be to NOT take the lump sum. I am guessing that their lumpsum is going down as interest rates go up. The idea being that the lumpsum would equate to some pension amount over X years.

Of course you are technically correct, BUT (without mentioning the name of the company) I don't trust the upper management of my company as far as I can throw them. They've done things in the past to pensioners which make the current pensioners and active employees very leary of what the future holds.

 

[FIRE'd@51]

I would take a look at buying puts (or put spreads) on TLT, which is an ETF that tracks the long Treasury bond. You may need to over-hedge a bit since the duration of the ETF is less than that of the 30-yr Treasury bond.

 

[RobbieB]

The pension fund is heavily invested in bonds whose value is going down?

 

[Texas Proud]

I am wondering why they would use a ST rate to calculate...


The long rate has not changed that much due to the recent 1/4 pt increase... the yield curve is getting flatter...


I would also see if the amount is worth taking the lump sum... IOW, compare it to an annuity you can buy... if the pension is higher than the annuity then keep the pension...


Now, if you are planning on investing and making more money that is a different decision...


Finally, talk to HR and see if there is a way you can take your pension now and keep working if you wish... if not, I would think about taking it this month before it goes down (but the skeptic in me thinks it already has gone down) as giving away $45K means you are working for free until you make $45K from wages...

 

[myfire123]

I would take a look at buying puts (or put spreads) on TLT, which is an ETF that tracks the long Treasury bond. You may need to over-hedge a bit since the duration of the ETF is less than that of the 30-yr Treasury bond.

Thanks for this info. I was thinking the answer to this problem (if there was one) would lie somewhere in the options/futures world. I'm definitely going to have to become more familiar with this. I believe I am allowed to buy and sell them within my 401k as long as I sign an agreement stating that I know the risks. Besides learning about options I also need to learn exactly how the lump sum dollar amount is figured and what a certain interest rate move will add/subtract from the total dollar amount. This could get pretty hairy! Fired@51 could I ask you if you have any idea approximately how much money you'd have to put up in TLT options in order to hedge an amount like the $45K that just evaporated from my lump sum? Also, I assume you mention using TLT (20 year treasuries) because there's no 30 year treasury ETF, right? Thanks n advance for any tips.

 

[Telly]

I have no wisdom to share... the GATT can giveth, and GATT can taketh away!

A GATT taketh away short story -- Years ago, when I went out the door and became Early-Early Retired, the computations of lump-sum were open and clear. I signed an anti-lawsuit package (being age 45 or over) that had certain extended benefits. One was, they would add enough Years Of Service (just the years, no $ with those added years) onto my service and salary history to reach the magic "can-take-unreduced-retirement-at-age-55". This was allowed only as a lump-sum. No GATT involved, so far.

So the whole $ amount was figured up correctly, but since I was years from reaching age 55, getting the lump-sum early, the lump sum amount at age 55 was stepped down into the (then) present, at the specified time frame's GATT Rate, which IIRC was 5.48%.
"Compounding interest" is great... but not negative compounding! It took a big whack off of the lump-sum $. And just a few months later, the GATT took a big dive. If it would have been calculated just a few months later, I would have had many more $.

 

[FIRE'd@51]

Fired@51 could I ask you if you have any idea approximately how much money you'd have to put up in TLT options in order to hedge an amount like the $45K that just evaporated from my lump sum?

I took a quick look at the option chain for TLT, and it would cost about 3.5% of the lump sum amount to buy an at-the-money put expiring in January 2019. This would be like having full insurance (no deductible) on GATT's effect on your lump sum. 3.5% is a fairly high cost so, if it were me, I would look at some different possibilities. For example, a 5% deductible (put strike=114) would cost about 1.4%. You could also consider put spreads or collars to further reduce this cost, although you may run into problems doing these in your 401K. Of course, you could always do the hedge in a taxable account, which has both advantages and disadvantages from a tax point of view.

In terms of the number of contracts needed to hedge the lump sum, divide the amount of the lump sum by 100 x TLT, which is about $12,000. So if your lump sum were $960,000 you would need 80 contracts. The duration of the 30-yr Treasury at 3.1% is about 19. You can check the duration of TLT on its web page. I believe it's currently about 17, so you might want to increase the number of contracts by about 10%.

Also, I assume you mention using TLT (20 year treasuries) because there's no 30 year treasury ETF, right?

Yes

 

[Winemaker]

Rising and lower interest rates, whether GATT or PBGC, have sparked more retirements just for the reason you point out. Many fellow employees watched the rate like hawks, and since it is reported a month in advance, knew of the impending fortune or peril. Many had their retirement papers filled out and sitting in an envelope in the car. My solution was to gamble and take the monthly annuity as part of my 5 legged stool. Purchasing TLT or similar puts would be the "onliest" way I know that one could hedge.

 

[gauss]

Rising and lower interest rates, whether GATT or PBGC, have sparked more retirements just for the reason you point out. Many fellow employees watched the rate like hawks, and since it is reported a month in advance, knew of the impending fortune or peril. Many had their retirement papers filled out and sitting in an envelope in the car. My solution was to gamble and take the monthly annuity as part of my 5 legged stool. Purchasing TLT or similar puts would be the "onliest" way I know that one could hedge.

+1

Do you not have any market based investments outside of your pension? Are you free of any known current chronic health conditions that will likely lead to a shortened life? If not then maybe take the lump sum. Otherwise consider the annuity. Better diversification.

I use to think like you in the past. I was actually active in the options/futures market. The problem you will find is that these options/futures already have the rate increases baked into the prices. You may end up loosing more than the $45k. Also you will be competing against the institutional professionals, and the market makers will be taking their spread on each transaction.

Although anecdotal, another thing to note is that the only people I know who are having "trouble" in retirement are those who cashed in perfectly good pensions then proceeded to loose the majority of the principal.

Under current Federal law (ERISA), there are limits to what the company can do with your pension (ie they can't claw back an accrued benefit). The devil is in the details.

-gauss

 

[Texas Proud]

Anybody know the current rate? I tried to look it up but April is the latest rate I can find... and it did not change much from the previous months..






2018 GATT Rates % December
November
October
September
August
July
June
May
April 3.07
March 3.09%
February 3.13%
January 2.88%

 

[braumeister]

May should be 3.13%

 

[FIRE'd@51]

Anybody know the current rate? I tried to look it up but April is the latest rate I can find... and it did not change much from the previous months..

2.88% to 3.13% is 0.25%. Multiply that by a duration of 19 for the 30-yr and you get a drop in price of 4.75%, which is $47.5K on a $1,000,000 lump sum.

 

[Sunset]

I would urge caution against OP trying to use Options to hedge his pension. Options are not as easy as some people think.
I learned that with my first option trade....

Worst thing would be for OP to lose tens of thousands of dollars attempting to hedge his pension lumpsum, as then OP would be in a much worse state.

 

[myfire123]

2.88% to 3.13% is 0.25%. Multiply that by a duration of 19 for the 30-yr and you get a drop in price of 4.75%, which is $47.5K on a $1,000,000 lump sum.

This is why I need to find out exactly how the lump sum amount is figured out, because I seem to be losing $45k on only a $619K lump sum. This seems excessive. I admit it's entirely possible that there is something else going on that factors into the loss which I'm not currently understanding. Are we allowed to post pics in this forum? I would gladly scan and post my lump sum payout document (minus my name and company's name of course) showing amounts for three theoretical retirement dates one month apart. The parameters of this form are as follows
Lump Sum
Quarterly GATT rate
Quarterly Gatt Lump Sum
Deferred Quarterly Gatt Lump Sum
PBGC (100%) rate
PBGC (120%) rate
Winning PBGC Lump Sum
Quarterly PPA Rate 1
Rate 2
Rate 3
Quarterly PPA Lump Sum
Deferred Quarterly PPA lump sum

As the saying goes "It's all Greek to me!"

 

[flimmy]

Lump Sum
Quarterly GATT rate
Quarterly Gatt Lump Sum
Deferred Quarterly Gatt Lump Sum
PBGC (100%) rate
PBGC (120%) rate
Winning PBGC Lump Sum
Quarterly PPA Rate 1
Rate 2
Rate 3
Quarterly PPA Lump Sum
Deferred Quarterly PPA lump sum

As the saying goes "It's all Greek to me!"

Sounds like you work for the same co I do. On $600k mine is dropping $51,000 on July 2nd

 

[myfire123]

Sounds like you work for the same co I do. On $600k mine is dropping $51,000 on July 2nd

Wow, you're taking a worse beating than me! If you don't mind telling, how many years do you have and how old are you?

 

[flimmy]

Wow, you're taking a worse beating than me! If you don't mind telling, how many years do you have and how old are you?

I'm 50 yrs old and just got 30 yrs in March. I'm not going to be able to retire next week due to still owing about $70k on my house. So I'm going to see what my options are and watch the lump sum for the rest of the year and see if I can make it happen by then. Worse case is I wait until the house is paid off in 4 yrs. Not the end of the world but it sucks seeing the lump sum drop like that.

 

[Texas Proud]

I'm 50 yrs old and just got 30 yrs in March. I'm not going to be able to retire next week due to still owing about $70k on my house. So I'm going to see what my options are and watch the lump sum for the rest of the year and see if I can make it happen by then. Worse case is I wait until the house is paid off in 4 yrs. Not the end of the world but it sucks seeing the lump sum drop like that.

If you lump sum payout is dropping $51K in a month and it does it a couple of months it would be best to take the lump sum and pay off the mtg with the extra money....



But I would only pay off the mtg if interest rates are high.... that is a different thread...

 

[iloveyoga]

GATT rates were standard practice when I worked in the biz. They take your immediate monthly benefit and multiply it by the GATT rate for the month you retire. Where I worked the actuaries determined the GATT rate. Rates are so low that even a small change will make a big difference as noted above.

 

[flimmy]

If you lump sum payout is dropping $51K in a month and it does it a couple of months it would be best to take the lump sum and pay off the mtg with the extra money....



But I would only pay off the mtg if interest rates are high.... that is a different thread...

I'm pretty sure the mortgage intrest rate is 3% .

The dropin the jump sum is on July 2nd and I wont be able to make that decision that fast. I planned on retiring in 4 yrs then heard about the drop in lump sum for a few guys at work that decided to retire now. One problem I have is my emergency fund isn't as high as I would like it to be or to the level that my wife is comfortable with either. The calculate the lump sum using the rate in thev2nd mo of ea quarter. So come Aug I will know what it will be ea mo for the next quarter.