How IBM Went LDI: Ray Kanner’s Exit Interview

 CIO: How goes retirement? What have you been up to?

Ray Kanner: I’m taking it relatively easy. I’m still involved with CIEBA [Committee on Investment of Employee Benefit Assets]. They don’t have an executive director at the moment so I’ve been helping out. I also serve on the investment committees of two philanthropic organizations and am spending more time with my four grandchildren. 

CIO: You had a long career at IBM—38 years, including 23 at its pension fund. How did you first get into investing?

Kanner: My graduate degree was in computer application systems with a minor in finance, and after about seven years on the tech side I decided I would like to try finance. So I went over to the global financing organization—it was called IBM Credit Corporation in those days. I managed a mortgage portfolio for the treasury group and then moved to manage the credit group. But it was about that time that IBM was running into some difficulties. The CEO of the Credit Corporation called me into his office and said, “I think you’ll do better in your career if you move to the pension fund.” And so I found myself in the next building over managing the 401(k), which was relatively modest at the time. Over time I managed different parts of the organization, and when Jay Vivian left [in 2007], I was picked to run the fund. 

CIO: What do you remember from your first days on the pension side?

Kanner: It was a very traumatic time—for the fund that is. I joined an organization that was about 75 people, and within three months, 50 people were laid off. At the time I thought, “What’d I get myself into?” But the fund survived and, eventually, thrived.

CIO: A big change like that—there must have been a major strategy shift taking place at the fund.

Kanner: We were no longer doing active management in-house. Pretty much all active management done internally was outsourced after that. 

CIO: How else did the pension fund change during your tenure?

Kanner: IBM’s pension plan underwent a number of different changes, but in the end we decided that it made a lot of sense for us to figure out why we’re in this business—and it wasn’t just to achieve a return. It was to meet our liabilities. So we gradually shifted the portfolio from one that was heavily growth- and return-oriented to a portfolio that is considerably more liability-oriented and risk-oriented.

Our approach to liability hedging predated me as the CIO—we started in the late ’90s originally with a small part of the portfolio. As the markets moved and as the company made the decisions to close and then freeze the plan, it made increasingly more sense to focus on this raison d’être: making sure we have enough assets to pay the liabilities.

We also slightly increased our active management within equities. As we de-risked and looked at the fund in a risk budget framework, we saw more opportunity to take active risk. To support our decision, we’ve had positive excess returns in all major asset classes over all trailing periods, including large-cap equities.

CIO: IBM really started to lean into liability driven investment [LDI] right around the time of the financial crisis. How did you come to that decision and manage to time it well?

Kanner: I took over as CIO right before the financial crisis. In the second part of 2007, we increased our liability hedge significantly. We also de-risked in that period—reducing equities by about 10 percentage points. As a result, we were much better positioned for the crisis than we would have been otherwise.

In the middle of the crisis, we got spooked by how bad things were and we went full throttle, ratcheting the hedge all the way up. We were effectively almost fully hedged on our liabilities, and when rates dropped we were shielded from their impact. I wish I could say it was good market timing but we were never big into tactical allocation. This was one of the few times we made a market timing call—and it was only because we were so nervous about the environment and the crisis. I would attribute it as much to luck as to skill.

But in hindsight, it was a prudent decision. Nobody could have predicted that rates would keep dropping. We acted as we did because we weren’t prepared to gamble with the retirements of our beneficiaries.

CIO: It’s not just IBM that’s undergone changes—the corporate pension industry as a whole has transformed during your career.

Kanner: The industry has moved away from defined benefit (DB) toward defined contribution (DC). When I joined IBM, we all thought we would have a pension for life. But since then many plans—certainly not all, but many—have closed their pensions to new entrants and others have gone even further and frozen so that no new liabilities accrue. When that’s the state of your pension fund, it only makes sense to hedge. There’s also less focus on peer results. With the understanding that we’re there to fund our own liabilities, it doesn’t make sense to compare ourselves to others with different liabilities.

We were fortunate because we had been close to fully funded since the crisis, so hedging was obviously the right decision. It could be different for a pension fund that is 75% or 80% funded that really needs to focus on growth. But even with quite low interest rates, the level of LDI implementation has picked up in the corporate pension industry.

There’s also the realization that there should be an LDI focus in DC plans, though it’s not yet widely adopted. It is more difficult to implement because you’re not dealing with one pension but thousands of individual pensions, and you don’t have their full financial picture. Despite all its drawbacks, I am a big fan of DC, because it’s going to be rare for anyone to have a 38-year career with one company and DC is better from a portability perspective.

CIO: How did you approach DC differently from DB?

Kanner: Instead of there being one CIO in the organization, you have 200,000 CIOs. We tried to make it very easy and accessible. It has an orientation toward trying to help the participant (whether active or not): defaults, auto-enroll and other automated features, recently introduced managed accounts, and a great company match. And for those who want to do it themselves, we provided the tools for individuals to manage their plans and introduced a unique mutual fund window that we created over 10 years ago. Our DC plan was extremely innovative so hopefully that will continue, especially since I remain a participant.

CIO: You left the pension plan in a good position—the DB plan is frozen, it’s well funded, and it’s liability-matched. What else should your successors focus on?

Kanner: I’m a bit biased here but I think more of the same. There are still returns that can be earned out of the pension fund—when I left we still had about a third of it invested in growth assets. As we get more surplus, there can be another round of de-risking. Being fully funded isn’t necessarily the ultimate destination; the goal may be 105% or 110% funded. So you still need to be earning some return but as you get closer to that destination you can take risk down even more.

Another challenge for any successor—not particular to IBM but for any company—is maintaining the culture and the staff. And I do think that’s key to successfully shepherding a pension fund that is winding down. The team that I worked with was instrumental in our success. It was not a solo affair. I worked with a great group of people and we built a respectful, professional culture. I sincerely hope that continues.

CIO: What about asset owners who are just starting out? What advice do you have for them?

Kanner: A couple of points. First, keep learning. People who succeed have intellectual curiosity and never stop learning. Also, focus on process. Asset-owning is a very difficult job. The times to make unpopular decisions—like rebalancing during the financial crisis—frequently are the right ones. Finally, never invest in something that you don’t understand and certainly not because others are doing it. 

CIO: You mentioned you’re still involved with CIEBA. What else does retirement mean for you?

Kanner: I plan to stay engaged in the industry—most likely at a reduced pace than I was accustomed to. But the time was right to leave the 38-year career behind and see what else the future has in store.