A U.S. Labor Department official says a defined benefit retirement plan fiduciary can consider the risks associated with a plan’s liability obligations when developing a prudent plan investment strategy.
Louis Campagna, chief of the Division of Fiduciary Interpretations at the Employee Benefits Security Administration, an arm of the Labor Department, has ruled on the issue in an advisory opinion, 2006-08A.
“The department believes that plan fiduciaries have broad discretion in defining investment strategies appropriate to their plans,” Campagna writes. “The department does not believe that there is anything in the statute or the regulations that would limit a plan fiduciary’s ability to take into account the risks associated with benefit liabilities or how those risks relate to the portfolio management in designing an investment strategy.”
Campagna wrote the advisory opinion in response to a question from Donald Myers of Reed Smith L.L.P., Washington, a lawyer who was representing a national bank subsidiary of JPMorgan Chase & Company, New York.
Myers said JPMorgan, a plan fiduciary, wants to “‘risk manage’ the assets of defined benefit plans by better matching the risks of a plan’s investment portfolio assets with the risks associated with its benefit liabilities, with a goal toward reducing the likelihood that liabilities will rise at a time when the assets decline,” Campagna writes in the advisory opinion.
“According to your letter, these liabilities most closely correlate with fixed-income assets, so that one approach for risk managing assets would be to invest directly in a portfolio of fixed-income securities with a duration of the plan’s benefit obligations,” Campagna writes. “However, you note that there may be aspects of a plan’s obligations that correlate more closely with other types of investments, and it may not be possible to match liabilities precisely with fixed-income securities due to limitations in the fixed-income market… You indicate that a variety of approaches may be used in practice.”
The asset-liability risk-matching approach might reduce the volatility of the sponsor’s financial statements and reduce minimum contribution obligations, but it also could reduce the need for the plan to rely on the plan sponsor to meet its funding obligations, protecting the plan participants and beneficiaries in the event of the sponsor’s insolvency, Campagna writes.
Campagna notes that Sections 403(c) and 404(a)(1)(A) of the Employee Retirement Income Security Act require plan fiduciaries to discharge their plan duties solely in the interest of plan participants and beneficiaries.
A Labor Department regulation, 29 CFR 2550.404a-1, requires that a fiduciary must consider whether a particular investment course of action is reasonably designed to further the purposes of the plan, taking into consideration the risk of loss and the opportunity for gain (or other return) associated with the investment course of action, Campagna writes.
The same regulation also requires the fiduciary to consider factors such as portfolio diversification, the plan’s liquidity and the plans current returns, and the projected return of the portfolio relative to the plan funding objectives, Campagna writes.
If a fiduciary adopted a risk-matching investment strategy that reduced volatility in plan funding requirements, that alone would not amount to a violation of the fiduciary’s duties under sections 403 and 404 of ERISA, Campagna writes.
A copy of the advisory opinion is on the Web at Document Link