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    The Butch Lewis Act: a solutions-based perspective

    The Butch Lewis Act: a solutions-based perspective

    June 30, 2021 Liability-driven investment
    As we await implementation guidance on the Butch Lewis Act, we believe eligible plans should lay the groundwork for high-certainty fixed income and liability management solutions.

    The Butch Lewis Act explained

    The Butch Lewis Act (the Act) was passed as part of the ‘American Rescue Plan’ in March 2021. It includes an estimated $86bn of special financial assistance to certain multi-employer pension plans facing severe economic challenges.

    The Act is expected to provide single lump sum grants to cover 185 eligible plans’ pension obligations for the next 30 years (up to 2051), with no obligation for plans to repay the government.

    Plans must invest the lump sums into segregated portfolios (i.e., outside the plan’s existing assets). The Act lists “investment grade bonds and other approved investments” as defined by the Pension Benefit Guaranty Corporation (PBGC) as eligible assets. The PBGC is expected to release final regulations to implement the Act in early July 2021, providing more details on this and other issues.

    Insight and BNY Mellon are proposing a key change to the discount rate

    The Bank of New York Mellon (BNY Mellon), Insight’s ultimate parent company, was an early supporter of legislative efforts to assist multi-employer plans. When those efforts culminated in the Act, BNYM was one of the leading financial institutions endorsing its passage.

    We believe the current discount rate is not in keeping with the spirit and objective of the Act. Insight and BNYM have had discussions with the PBGC, the Department of Labor, the US Treasury and the Department of Commerce. We are proposing a discount rate consistent with current investment grade corporate bond yields to help ensure the spirit and objective of the legislation is preserved, by ensuring plans can invest in high-quality fixed income portfolios to ensure a high degree of cashflow certainty. We estimate this would increase the proposed total funding relief under the Act from ~$86bn to ~$100bn.

    The Act currently states that lump sum values will be determined based on a liability discount rate we estimate to be ~5.7% for most plans1.

    This implies that plans’ investments must consistently return ~5.7% every year to keep pace with their liabilities. However, investment grade corporate bonds currently offer average yields of ~3.5%. Therefore, the assistance provided under the Act is likely to be insufficient for many plans to retain benefit levels through 2051. We project that, for many plans, under the calculation approach described in the Act, the assistance would be enough to maintain benefits only until ~2040, an 11-year funding ‘shortfall’ (Figure 1).

    Figure 1: There is a risk that plans will only receive lump sums to meet obligations to 20401

    Plans would therefore be incentivized to ‘re-risk’, by investing in higher risk and more volatile instruments such as equities to cover the potential shortfall. Although equities are not currently permitted investments for segregated asset pools, plans may choose to re-risk their existing non-segregated plan assets to rebalance their overall asset allocation mix accordingly. This re-risking also creates a potential inequality between participant shifts and an intergenerational risk transfer from current retirees to active participants.

    Our paper also explores:

    • Why plans need to consider the impact of 'decumulation' on funding relief
    • Governance and strategy implications of incorporating fixed income and liability management solutions
    • Details we are watching closely for in July
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