Tag Archives: pension

Defined Contribution Pension Plans are a Ticking Time Bomb Threatening Canada’s Future

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I’m ancient so I remember when defined contribution pension plans were new and different and when most people (if they had any pension plan at all) had defined benefit plans. The company I was working for then brought in DC pension plans gradually. They actually asked you to pick whether you wanted to go DC or DB. Once you chose, though, you were stuck with your decision. Now, though, most employees have no choice. Defined Contribution plans are almost all that is on offer.

Defined Contribution Plans are not Inherently Evil

The problem I see isn’t with DC plans in and of themselves. DC plans even have some advantages, particularly if you change jobs often. The problem is hidden but huge.

How Do Average Canadians Handle Their Financial Affairs?

If you read or watch the news the same themes keep coming up in business news stories:

  • small businesses complain they can’t hire part time workers who know basic math and who can make change
  • investors are losing millions of dollars by choosing high risk investments when they thought they were choosing secure investments
  • people are losing money by investing in mutual funds with high expenses, sometimes expenses that are so high they make no gains on their savings over 2, 5, or even 10 years
  • credit card debt is out of control
  • housing prices are extremely high but may crash at any moment yet people are still buying
  • Canadian debt is at an all time high
  • people are spending more than they are earning
  • Canadians approaching retirement are expecting to have to keep working because they can’t afford to stop
  • various groups are clamouring for required financial education courses in school

To me, it sounds like the average Canadian is not particularly good at handling money. They may not know how to budget. They may not have the basic math skills necessary to follow a budget if they do know how to set one. They may not understand more advanced math, even basics like “how much money do I get if my investment pays a 2% rate of return?”  Most don’t seem familiar with the effects of inflation on money. Investment risks don’t seem widely understood either.

The Danger of DC Pension Plans Lies in the Implementation

Now what happens when you put these same average Canadians directly in charge of their own financial future?

When Defined Benefit pension plans were the norm, the average Canadian had to show up, work hard and well, and after 40-50 years they could retire. They would keep getting a regular cheque, admittedly a smaller one, from their former employer’s pension plan. Some Canadians suffered when their companies went bankrupt or suffered because their pension cheques were unexpectedly small, but overall most managed reasonably well. OAS and GIS were invented to try to catch those in dire straits.

Behind the scenes, paid money management professionals were in charge of the Defined Benefit pension plan funds. They would invest in money markets, commercial paper, both government and corporate bonds, preferred shares, small, medium and large cap companies and frankly anything else that they considered a good decision. Keeping the fund solvent and sufficiently large to pay the claims was their job. This was their professional job. They were accountable to various other groups and they knew what they were trying to achieve and how to do that.

But with DC pensions that all changes. How hard you work or even for how long is not necessarily going to ensure you get a decent pension. And you have to be the professional money manager!

To Get a Decent Pension from a Defined Contribution Plan You Have to Invest Wisely and Have Luck

Suddenly, with DC Pension plans, the average Canadian worker is expected to replicate the job of trained, accredited, paid professional money managers. The average worker is expected to understand how and in what to invest their entire pension savings in order to accumulate enough capital to generate enough income to live on after retirement.

Really.

The same guy who can’t tell you what coin you should get if you give them $2.07 to pay a $1.82 bill is supposed to choose what to invest in, when and where and manage it for 40 years to generate a livable pension.

Doesn’t this frighten anyone else?

But Employers are Responsible for Helping Employees Make Reasonable Educated Choices, Aren’t They?

No, they’re not. In fact what we received from one of our employers along with the list of investments to choose from was the one line statement: “We suggest you discuss what investments best suit your needs and risk tolerance with your financial advisor.”

Oh, of course! That’s exactly what the average guy putting 12-pound bobbins of yarn into a box for twelve hours a day or night shift will do. He’ll just pick up the phone and discuss this with his financial advisor.

  • Did it say where to find a financial advisor?
  • How to judge the qualifications of a financial advisor?
  • How to PAY a financial advisor?
  • What to ask a financial advisor?

Don’t be silly.

The Hidden but Real Danger of DC Pensions

So we have a huge population of employees who have limited or no financial training left adrift trying to choose what to invest their pension savings in, for how long, and where. No one is warning them that as they approach retirement it might not be a good idea to keep 100% of their money in stocks of venture capital companies in BRIC countries. No one is warning them that keeping 100% of their money for 40 years in a money market fund will get them a pension of about $100 a month in retirement. If they make terrible personal investment decisions no group or advisory committee is stepping in and stopping them or even warning them. No one is providing them with education seminars, case studies, examples or interpretations. They are on their own and there are not enough lifeboats for all.

Will No One Warn Canadians There’s an Iceberg Looming?

I couldn’t watch the movie Titanic because I couldn’t stand the feeling of helplessness knowing they were driving straight into that iceberg. Unfortunately, I’m going to have to watch the disaster when the bulk of the Canadian population gets to retirement age with only the pittances in their mismanaged Defined Contribution pension plans to see them through their golden years.

Why is no one else talking about this?

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Retirement Planning: Don’t Invest Your Pension Primarily in Stock in This

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Tempting though it may be, it’s an inherently risky move to invest most of your pension in the stock of the company for which you work. Here’s an explanation and an example to consider.

Don’t Keep the Bulk of Your Savings in Shares of the Company for Which You Work

There may be some comfort in investing in your own company. You may have pride in your employer and in your own work. You may feel that you would “know” if there were accounting irregularities or any weakness that threatens the company. You may know your company has a long history of steady growth.

It’s a risky choice.

Having Too Many $$ in the Same Company is Risky

Many people who work in large Canadian companies are offered opportunities to invest directly in the company for which they work. Often, there is a work savings plan that allows employees to buy shares in the company without paying a trading commission. If the company has a defined contribution pension plan, and most now do, one of the investment choices is to buy stock in the company, often with no commissions charged. Depending on the type of employee rewards program, they may be granted SARs or RSUs where the award’s payout is based on the value of the stock on a certain day or during a certain period.

Now imagine where else these employees are putting their savings and retirement money? Chances are good that at least some of it is going into a stock market ETF or mutual fund that includes their own company!

Having so much of your personal monetary worth tied to one company is inherently risky.

Learn from the Disastrous Impact of Nortel’s Collapse on Its Employees’ Pensions

A relative of mine was once employed by Nortel Networks. Like many Nortel employees much of his pension was invested in shares in Nortel. After all, at that time, Nortel was a mini-Bell. It was a secure, stable, growing Canadian corporation. It was even viewed as being largely conservative.

This relative worked for a splinter group in Nortel that the company decided one day to sell off. Part of the terms of sale was that certain of the key employees, including my relative, would move to the new business. Another condition of the sale was that the employees of the new company had to sell off any holdings in Nortel, specifically the ones in their pension plan.

That forced change in pension investments saved my relative thousands of dollars. Because just after he sold, Nortel collapsed.

For those of you too young or otherwise new to the Nortel saga, here’s a quick review. Nortel was a subsidiary of Bell. According to the CBCNews article Key dates in Nortel Networks’ history in 1977 it incorporated. In July 2000, during the dotcom bubble, Nortel’s stock hit a high of $124.50 per share. In 2002, the share price had plunged to 67 cents. It never really recovered. In June 2009 Nortel was delisted from the TSX.

Virtually none of the Nortel employees saw this coming. The collapse was caused, it appears, by two major problems. One, the price of the shares skyrocketed on the same euphoria that swept all high tech companies in the late 1990s, now called the dotcom bubble. The price shot way above the realistic value of the assets and the production of the company. Two, there may have been some actual illegal activity on the part of Nortel management. That is still being decided in the courts. Either way, when the dotcom implosion occurred, Nortel was caught up in the tidal wave and left battered and broken on the beach.

Many Nortel employees lost their jobs. Many of them then realized in horror that their personal savings plans and their retirement plans had been heavily invested directly in Nortel stock. They had lost virtually everything, through no fault of their own, in less than a year. No one saw it coming. No one person could have stopped it.

Don’t let it happen to you. Stay diversified. Doesn’t let most of your worth become invested in only one asset no matter how safe and secure it seems.

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