Galliard Capital Management Galliard www.galliard.com March 26, 2009 Update An article ran in today’s Personal Journal Section of The Wall Street Journal, titled “Stable Funds in your 401(k) May Not Be” (Page D1 or online at http://online.wsj.com/article/SB123802645178842781.html). The article suggests that stable value funds crediting rates have fallen in recent months and wrap providers have become “leery” of writing new business. The article also cites instances where plan sponsors experienced difficulty transitioning to a new manager and distributing assets in the event of a plan termination. While the stable value market has not been immune to the challenges of the unprecedented environment we are facing, in the vast majority of instances stable value portfolios continue to provide plan participants a conservative investment option that provides safety of principal and a competitive, stable rate of return. Galliard-advised stable value portfolios have steadfastly continued to meet their primary objectives of capital preservation and positive returns. Our conservative investment philosophy and approach continues to serve our clients well, as it has during other difficult periods in the financial markets over the last 20 years. Our management style – which emphasizes broadly diversified, high quality portfolios and a conservative, risk controlled approach to all aspects of stable value management – has helped to insulate our clients’ portfolios from recent market turbulence. To better understand the exposure participants or plan sponsors have as it relates to current market conditions, let’s address the article’s main points: Crediting Rates Crediting rates have come down in recent months, and most plans’ crediting rates are likely to experience continued gradual downward pressure over the rest of 2009. While underlying asset performance has played a role in reducing crediting rates, another key driver of lower crediting rates is the lower prevailing reinvestment rates in the market generally. With the Federal Reserve keeping short term rates near 0% and the yield on 5-year U.S. Treasury notes at approximately 1.8%, stable value crediting rates (still well above 3.0% in most cases) should be naturally declining as higher yielding securities (bought when prevailing yields were higher) payoff and are replaced with new securities at current (lower) yields. It should be noted that stable value portfolio yields are near historic highs relative to money market funds (3+% vs. 0.5% for money market funds). Page 2 of 2 March 26, 2009 Market to Book Ratios The article points out that since the end 2007, market to book value ratios (MV/BV) have been declining. This is true as the majority of securities in the underlying portfolios (such as corporates, mortgage/asset backed securities, etc.) have suffered price declines in the current environment. While the article details the challenges of a plan with an 85% MV/BV ratio, it is important to note the average stable value portfolio’s MV/BV ratio is in the mid -90s, as also highlighted in the article. As the U.S. Government efforts to improve market liquidity take hold in coming months, we expect prices on the underlying securities to improve and MV/BV ratios to rise. Wrap Provider Capacity As the article also mentions, the wrap market does face a capacity constraint at the present time. Many of the banks and insurance companies providing the book value guarantees are holding off on accepting new deposits until the market improves. Despite this capacity constraint, Galliard has continued to selectively obtain new capacity for our clients. In addition, wrap providers are instituting fee increases as well as requiring tighter investment guidelines for new portfolios. The increase in fees and more conservative investment guidelines now in place are paving the way for new providers to enter the market. Galliard is making good progress with new providers to expand capacity and expect to have more wrap coverage available in the coming months. Summary The difference in stable value yields relative to money market funds are near historic highs (approximately 3.0+% versus 0.5% for money markets). The average market-to-book ratio of Galliard-advised portfolios remains healthy in the mid-90s. Wrap capacity is currently tight, but we believe higher fees, tighter investment guidelines and improved market stability will attract new entrants and improve overall capacity. The stable value market is over $520 Billion strong with stable value options found in the majority of defined contribution plans across the nation. The wrap providers and investment managers, such as Galliard, remain strongly committed to continuing to provide stable value solutions to participants. If we can supply you any additional information or you would like additional commentary for a participant communication, please feel free to contact a member of your client service team.
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