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With a potential of a General Motors’ bankruptcy growing by the day the likelihood of another windfall addition to the PBGC’s obligations grows apace. GM’s pension underfunding is estimated at $12.3 billion by Credit Suisse First Boston and $31 billion by PBGC. Spliting the difference, let’s say GM will add another $18.7 billion to the size of the hole at the PBGC, effectively doubling it. So, Conquer the Crash’s “take your money” advice is now hits very close to home for the single largest group of corporate  pensioners.

The PBGC was started by the Federal Government in 1974, at the end of the last major bear market. Since the beginning of the current bear market, Elliott Wave International has contended that the safety net that was erected at the end of preceding bear markets (government generally only acts at the end of a downtrend when the decline is ending or over) will be shredded by the emerging bear market. Remember this is all happening before the worst of the attack on pension fund assets has even begun. Many are comparing the problem to the savings and loan debacle of 1987-1993. But the unfolding pension fund problem is much worse. It will only be compounded by the all the real estate, venture capital, foreign stock, hedge funds and junk bonds that pension fund managers have piled in to in an effort to earn back the shortfalls that many now face. Since the PBGC was one of the last threads of the federal government’s social safety net to be put in place and it has no explicit “full faith and credit” backing of the U.S. government, it will probably be among the first major strands to give way.

EWFF, October 2004
The Pension Wind Reverses
A wave of concern is shaking other former bull market bastions as well. Remember back in the bull market when pension funds were considered to be overfunded and corporations were using the surplus stock gains to pump up their earnings? And whatever happened to the rising wall of baby boomer retirements that was supposed to drive stock prices higher until at least 2008? In late August, Alan Greenspan blew the whistle on the pension “miracle.” According to one account, the “most famous economist in the country put out a red flag” and declared that “increasingly stark choices” must be made to avoid a boomer-induced meltdown. “We must recalibrate our public programs.” The President and Treasury Secretary parroted Greenspan with compatible public statements. 

[A wave recent news items] shows that Greenspan’s comments were just the leading edge of a wave of agitation over “pension woes” and revelations about the pension Benefit Guaranty Corp.’s wobbly finances. With the government’s pension insurance fund already running a deficit of $9.7 billion and the airline industry on the verge of raising its obligations by another $31 billion, the threat of “one or more generations retiring in poverty” looms. On September 14, the agency’s former economist called the fund “the ultimate Ponzi scheme” in The New York Times. His projections show that the pension Guaranty Corp. will go under even if the airlines don’t. This inevitability is explored in Chapter 11 of Conquer the Crash, which includes this excerpt:
In Argentina in recent weeks, the government suspended state pension payments to 1.4 million retired state employees. It had no money to pay because times got tough, and it had never saved when times were good. The same thing could happen to many governments around the world, whether national, state or local, which pay billions of dollars annually in pensions. All of them are dependent either upon wealth transfer or upon managed funds that may or may not be properly invested.

The potential for exponential growth in pension turmoil is clear from the travails of the City of San Diego, where a $1 billion pension fund shortfall is finally being addressed. For 16 months, a whistle blower’s effort to expose the “ticking time bomb” was ignored. “When people finally started listening, San Diego became engulfed in a scandal that now threatens to push the country’s seventh-largest city into bankruptcy.” The latest reports reveal that San Diego is “far from unique.” In fact, it is widely considered to be a “model of fiscal probity.” As more cities which have strayed into exotic and illiquid venture capital and real estate partnerships measure their obligations against their investments, the damages will rise rapidly. Long-time readers should be safely protected already, but you may want to use the emerging crisis as a reminder to review retirement accounts as discussed in Chapter 13 of Conquer the Crash. Know everything there is to know about their structure, sponsors and penalties for liquidation. As the depression develops, be prepared to forego any tax advantages for the safety of a rock-solid annuity, government bills or bank account.

Third waves are “recognition” waves in which investors grasp the implications of the dominant trend. Pension-dependent seniors are prime candidates to lead the charge out of stocks because they have more immediate needs and at least some experience with the ferocity of a bear market. The potential for several more years of bear market is no stretch to older investors because they experienced a bear market that lasted from 1966 to 1982. 81% of pension funds are already underfunded, so retirees will probably opt to beat the boomers to the punch and bail out. In an article headlined, “Older Investors Jittery as U.S. Markets Disappoint,” The New York Times reports that many “who thought that 2004 would repeat last year’s 26 percent rise in the S&P are beginning to face the fact that their expectations will not be met.” For the first time in years, there are reports that “some investors may finally be dumping the shares they have held so patiently.” In a rare moment of lucidity, a 70-year old Florida retiree confessed to selling a stock: “I just held on too long. I had Lucent when it was up to $62 a share. I sold it at $3.” Self-preservation is a powerful, non-rational instinct. The wave count depicts a market that is a tightly wound. As a few more investors “face the fact that their expectations will not be met,” a chain reaction of limbic-inspired selling should ensue.

EWFF, April 2004
The move to riskier financial plays is also evident in U.S. pension funds’ aggressive investment in hedge funds. According to the latest study, the percentage of pension funds, endowments and foundations using “alternative investments like hedge funds and equity real estate” jumped from 12 percent in 2000 to 23 percent in 2003. As the markets fall to levels that are not even considered by Wall Street’s current trading strategies, firms will be forced to reel in these bets. Falling prices will shift the emphasis, possibly very suddenly, from profit to preservation. At that point, brokers and hedge funds will do whatever it takes to stay solvent, which will only intensify the decline as it seals the fate of many firms.

Conquer the Crash (2002)
Obfuscation and Rationalization
As I write this chapter, the “watchdog” of earnings, Standard & Poor’s, has just bowed to pressure to change the basis of its earnings reports to “operating earnings” rather than total company earnings. As a result, the reported P/E ratio has suddenly changed to about half of what it really is. Analysts are expected to tack these ratios onto the old ratio’s eighty-year history as if they are the same thing. Operating earnings omit several items, the main one being “non-recurring expenses.” Hello! All expenses affect a company’s performance. A creative accountant can drive a truck through that loophole and manipulate operating expenses to almost any desired level. Yet another proposal, to report only “core earnings,” will exclude gains or losses due to companies’ pension fund obligations. If my outlook is right, these obligations will soon be killing the profitability of industry. Leaving potentially massive drains on capital out of the earnings calculation is like leaving torture equipment out of a description of a dungeon. Real investors want real numbers, and these changes provide the opposite. The desperation within the financial world to avoid reporting “bad news” (i.e., the truth) is obviously immense.

EWFF, November 1999
The “new era” has been officially endorsed by the government, as the Bureau of Economic Analysis has reclassified software purchases as investments rather than spending! These are the only investments we know of that are guaranteed to fall 90% in value in three years, so why would the government do this? One answer is that the change will provide a retroactive boost to measures of economic output and thereby magically narrow the puzzling gap between the parabolic growth of stocks and the slowing growth of most economic fundamentals. The gains created by this bookkeeping breakthrough are more than offset by unrecognized expenses and other questionable practices like the padding of profits with gains from stocks in corporate pension funds. In 1998, earnings from pension surpluses inflated the earnings of the S&P 500 by 3%.The flip side of these papered-over cracks in the fundamentals is that in a bear market they will be an enormous weight on growth. Combined with the unprecedented global economic dependence on a rising stock market, the likelihood is that they will exert their drag with stunning speed. For most of the third quarter, for instance, the S&P 500 has been going down, which means all those pension fund gains that were pumping up the bottom line will turn to losses on the September 30 quarterly statements.