DB Funded Status Estimates Are Mixed in April

Sources say volatility will continue for pensions, and risk remains in equity markets.

Firms that track defined benefit (DB) plan funded status reported a range of estimates for April—from a decrease of 0.1% to an increase of 4%, depending on the group of plans being tracked.

The highest increase reported was 4% (to an 80% aggregate funding level), estimated by Mercer for pension plans sponsored by S&P 1500 companies. The firm says this was the result of an increase in equity markets, which offset a decrease in discount rates. As of April 30, the estimated aggregate deficit of $490 billion decreased by $86 billion as compared to $576 billion measured at the end of March, according to Mercer.

The S&P 500 index increased 12.68% and the MSCI EAFE index increased 6.29% in April. Typical discount rates for pension plans as measured by the Mercer Yield Curve decreased from 3.04% to 2.77%.

“Despite a dip in discount rates, we saw funded status rise in April due to a nice rebound in the equity markets,” says Matt McDaniel, a partner in Mercer’s Wealth business. “Equity volatility, while still high, trended downward in April, but significant risk remains in equity markets.”

He adds: “Plan sponsors looking to reduce risk should take note that pension risk transfer [PRT] markets have continued to function smoothly throughout the pandemic. Even in this uncertain market, insurers are offering very attractive pricing to take on pension liabilities, with many plan sponsors able to transact at or below their balance sheet liability.”

An estimate of the combined assets and liabilities of corporate pension plans sponsored by S&P 500 companies with a duration in line with the FTSE Pension Liability Index–Intermediate by Wilshire Associates finds a 2.2 percentage point increase in April to end the month at 83.2%. The firm says the monthly change in funding resulted from a 6.3% increase in asset values partially offset by a 3.6% increase in liability values. The aggregate funded ratio is estimated to have decreased by 5.4 percentage points and 7.6 percentage points year-to-date and over the trailing 12 months, respectively. 

“April’s increase in funded ratio was primarily driven by the third best monthly return ever and the best monthly return since January 1975 for the Wilshire 5000,” says Ned McGuire, managing director and a member of the Investment Management & Research Group of Wilshire Consulting.

Using a projection of December 31, financial statement data for S&P 500 DB plans, reflecting the impact of market returns and interest rate changes on pension funded status, Northern Trust Asset Management (NTAM) reported that the average funded ratio slightly improved in April from 77.8% to 78.3%. It says global equity market returns were up approximately 10.7% during the month, and the average discount rate decreased from 2.81% to 2.40%, leading to higher liabilities. Jessica Hart, head of OCIO [outsourced chief investment officer] Retirement Practice at NTAM says funded status remains down more than 8% year to date.

Both model plans October Three tracks managed gains of less than 1% for the month but remain substantially down for the year, with Plan A off 12% and Plan B down almost 4% through the first four months of 2020. Plan A is a traditional plan (duration 12 at 5.5%) with a 60/40 asset allocation, while Plan B is a largely retired plan (duration 9 at 5.5%) with a 20/80 allocation and a greater emphasis on corporate and long-duration bonds.

Brian Donohue, partner at October Three Consulting, says, “Over the past two months, stock markets and credit spreads have whipsawed, producing enormous volatility for pension finance. Through April, most plans have incurred a substantial loss so far this year, and, as yet, there is no clear end in sight to the pandemic and its fallout.”

Looking ahead, Donohue notes that given the current level of market interest rates, it is possible that pension funding relief that has reduced required plan funding since 2012 will reduce the funding burden through 2030. However, the rates used to measure liabilities will move significantly lower over the next few years, increasing funding requirements for pension sponsors that have only made required contributions.

“2020 experience, if it persists, will not increase required contributions until 2022, compounding higher funding requirements due to the fading of funding relief. There is a reasonable chance we get more relief this year, but at this point it’s too soon to say for certain,” he says.

River and Mercantile notes that markets experienced a strong rebound in April after COVID-19 roiled markets in March. In its monthly Retirement Update, it says unprecedented global government and central bank responses to the crisis provided support, but uncertainty and volatility remain. “Plans with equity exposure could have seen some increases in funded status for the month. Those plans with heavy allocations to liability matching assets and a better funded status position to start with would have seen little change to the funded status,” it says.

“What we’ve seen in March and April highlight the volatile ride that we’re most likely going to see for the foreseeable future, although hopefully not at such extremes,” comments Michael Clark, managing director at River and Mercantile.

The worst estimate for DB plan funded status in April was from Legal & General Investment Management America (LGIMA). According to its monthly Pension Solutions’ Monitor, pension funding ratios decreased throughout the month of April, with changes primarily attributed to tightening credit spreads and lower Treasury rates. It estimates that the average plan’s funding ratio decreased 0.1% to 73.4% throughout the month, with changes primarily attributed to lower plan discount rates.

“Our calculations indicate the discount rate’s Treasury component fell by 7 basis points [bps] while the credit component tightened 39 basis points, resulting in a net decrease of 46 basis points. Overall, liabilities for the average plan increased ~7.4%, while plan assets with a traditional ‘60/40’ asset allocation increased by ~7.2%,” LGIMA says.