To the Editor:
What interest rate have you been getting on your savings lately? Not a lot, right?
The Bank of Canada has been holding interest rates low now for several years, part of its way of dealing with the five year global financial crisis.
Lending rates - aside from credit cards - have followed. Good for mortgages and lines of credit.
Still, what about your pension plan? How has it been doing?
Most pensions are managed to try and get an eight per cent annualized return from the pool of assets and new contributions made to the plan.
A decade ago, eight per cent wasn't that hard a job, and it didn't require taking on a lot of risk to achieve.
For the past five years, though, it's been a tough challenge.
That's one of the reasons pension contribution holidays by organizations have stopped, and, indeed, many have made supplemental assessments against their budgets to contribute more. The fund managers haven't been able to make the gains elsewhere, and the money is needed.
Pension fund managers are just like you and me when we invest. There's some instruments that, no matter how good the return, are just too risky to take on: we don't like the possibility of losing the capital we invest.
You might like to get 8 per cent in your self-directed RSP, but you don't like what you'd have to buy and put in there to get that. So you settle for 5 per cent and load up on the banks' preferred shares, even though they're already highly tax efficient and probably don't belong in a shelter.
A safer five per cent beats the chance of losing everything to get eight per cent.
That's why pensions may be at risk. Every day, more of us hit retirement age. We're living a long time after that, too.
Added to that are all the people currently be sloughed out of organizations with buy-out and early retirement plans. Most of them end up qualifying to be in their pension plan (most of the buy outs are occurring in the broader public sector, where defined benefit pensions still are the norm) and take it, because this continues their extended health care benefits.
All of this makes the pension fund manager's life that much more difficult. More is flowing out - not just the pensions being paid, but the "employer portion" of extended health-care benefits as well.
Meanwhile, what's on the horizon?
An earnings crunch, for one thing. It's already starting to show up, as the global economy has slowed in 2012. Earnings season for the second quarter starts serious reporting within the next week, and most financial analysts aren't expecting stellar results.
That's going to show up as a hit on stock prices. There goes the chance of getting eight per cent out of that market.
Meanwhile, the bond market continues to be driven by interest rates.
When the real estate market was rocking, our banks would raise capital by selling bonds to handle the mortgage business. Hot markets meant more bonds had to be sold, and decent coupon rates could be found there.
But our real estate markets are chilling rapidly, both from the mortgage lending rule changes kicking in on July 9, and because in so many places in Canada prices had gotten far ahead of affordability, or rental income returns. Realtors continue to paint rosy pictures where they can, but listings are up and lasting longer, sales are down, bidding wars are over.
What that means is less demand for new lending - fewer bonds - and no joy in the bond market for gains.
Derivatives - things like credit default swaps - might have been chosen, but pension fund managers would really rather get rid of any they're still holding. These are the underlying cause for the endless Eurozone crises, and for the never-ending leniency toward the banks in the UK and U.S. There's far more of those out there than anyone has capital to pay off should they be triggered, leading to widespread defaults.
Pension fund managers do not need instant capital wipe-outs in their portfolio.
Needless to say, it's also a tough time to find wins by investing in new construction, or commercial real estate holdings.
So the managers turn back to the organizations whose pensions they run, looking for more contributions - which triggers another round of buy outs - which makes the job tougher. Add a looming downturn in the economy, and it's no wonder they're worried.
Be glad they're being prudent - and follow their lead. For the next few years, big returns will come with far too much risk.
Bruce A Stewart, Toronto, ON.
