Pension Funds Would Love To Help Market But Hands Are Tied

NEW YORK --Pension funds may be a drag on an already stressed stock market.

The most sturdy long-term investors in stocks, pension funds are licking their chops at unprecedented valuations in the market but say their hands are tied by previous commitments and by the knowledge that next year will bring little reinforcements to their balance sheets.

Corporate pension funds are entering 2009 with underfunded plans, high equity exposure and knowledge that little help will come from company employees more concerned with the present than ever.

State pension plans are expecting tax revenue and contributions to dry up and are preparing for a possible influx of capital requests from private equity.

"It depends on the individual fund; some funds have it set up so that they have to sell to free up cash," said a chief investment officer for one large pension fund. "Some funds may need to rebalance their private equity portfolios, selling interests to the secondary market, and some funds always have sufficient liquidity."

While hedge fund redemptions have been commonly cited as a major reason for the stock market's more than 40% decline in October, many of these redemptions are coming from pension funds. Generally speaking, pension funds cannot "go short," and so when many of them foresaw a stock market decline early this year, they used exposure to hedge funds as a way of betting on that drop.

However, as the market has now dipped significantly, pension funds are beginning to ask for their money back to pay pensioners, while also unwinding their own equity holdings. And it just so happens that the next wave of redemption requests occurs near Dec. 31, around the time many states will begin ramping down budgets in anticipation of a weak 2009 tax year, while the list of pensioners receiving benefits continues to grow.

"It looks like almost every state will have a difficult if not horrible decline in revenue over the next few months," said Scott Pattison, executive director of the National Association of State Budget Officers.

   Commitments To Private Equities 

At issue for many of these pension funds are capital commitments they made to private equity firms. Pension funds typically commit years in advance to these groups. So far this year, though, private equities have not been drawing down on those prior commitments, called a capital call, as the tight credit markets make it difficult to finance buyout deals. For example, Clayton Dubilier & Rice Inc., a big private equity firm that has raised over $4 billion for its latest vehicle, had yet to make a capital call.

Credit markets, however, have begun to thaw recently, thanks to unprecedented government intervention, with several pension funds expecting capital calls possibly as soon as early 2009. In one sign of possible deal activity picking up, Apria Healthcare Group (AHG) closed its takeover by private equity firm Blackstone Group LP (BX) on Tuesday after fear over whether the deal would be completed had sunk Apria's shares earlier this month.

The Wall Street Journal recently reported that the nation's largest public pension fund, the California Public Employees' Retirement System, or Calpers, is unloading stocks to make sure it can meet its obligations to private equities and real estate partners, something several other state pension managers are also worrying about.

"We committed two years ago for some of these and the equity group would need to wire that over. That's the only way to raise money for a capital call, considering what's happened everywhere else," said a state pension fund manager who asked not to be identified.

Corporate pension funds aren't on much better footing, especially considering the state of employees. As the economy remains under pressure and consumers feel pinched, pension funds expect defined-contribution plans to take a hit. These plans, which despite their name are based on discretionary contributions from employees, could see a significant decrease in contributions.

"We have seen an increase in plan participants doing transfers into cash. They hear the market is down and it's 'Oh my gosh, the market is crashing and I should just get out,'" said Theresa Conti, president of Sunwest Pensions and president-elect of the National Institute of Pension Administrators.

   Defined-Benefit Plans Taking A Hit Too 

Even defined benefits, which don't allow employees to alter their contribution levels, are taking a hit, thanks to the market collapse. Roughly a week ago, Continental Airlines Inc. (CAL) said the value of the assets for its defined-benefit pension plans had seen a significant decline since December 2007. The airline now estimates minimum funding requirements for the defined-benefit pension plans will be $110 million, and should the company drop below that, Continental will have to push money in.

Lori Calvasina, head small- and midcap equity strategist for Citigroup, said equity exposure for companies at the beginning of 2008 was around 60% with the recent stock market declines eating into a significant portion of that. For now, she said, companies are just trying to stay above an 80% funding threshold that would trigger participant notification and benefit payout limitations.

If equity declines are then coupled with capital calls, levels could near the 65% threshold where funding requirements kick in and already stressed companies have to push money in themselves. In terms of the types of companies most likely to be at risk for pension funding problems, Calvasina highlighted consumer discretionary, health care and technology companies.

Still, Calvasina said that should pension funds be able to ride through a stressed 2009, they could become buyers later on.

"There is a real incentive to put that cash back to work because they can bail themselves out a little bit," said Calvasina.

Bill Quinn, chairman of American Beacon Advisors, a mutual and pension fund manager for AMR Corp.'s (AMR) American Airlines, said equities may not be the place for that money. He expects a lot of opportunities in distressed debt and high-yield debt that pension funds will try to take advantage of if some of the stresses subside.

In the near term, however, he said all pension funds are worried about their funding status in the wake of Calpers and Continental. And for now, reining in equity holdings is the only way to ensure the fund has enough cash.

"As the government plans start to liquefy markets, there will be opportunities. But markets are still experiencing a lack of liquidity and it's hard to know the real values and opportunities," said Quinn.

-By Geoffrey Rogow, Dow Jones Newswires; 201-938-5360; geoffrey.rogow@dowjones.com

(Keenan Skelly contributed to this report.)