Goldman: Things Looking Up on the DB Funding Front

May 13, 2004 ( - A new Goldman Sachs research report has good news on the defined benefit funding front: the worst of the perfect pension storm is apparently over, and many companies are now in a comparatively strong pension position.

Goldman researchers found that overall health of U.S. DB plans was much improved in 2003 compared to previous years. Specifically:

  • The S&P companies’ overall underfunded status dropped to about $114 billion last year, from $165 billion the year before.
  • The aggregate funding ratio rose to 90% in 2003 over the 84% seen in 2002.
  • 2003 total pension expense was about $22 billion, compared to pension income of about $800 million the year before. Goldman predicted many companies will see higher pension expenses in 2004 because of the effects of pension smoothing. However, Goldman said many employers – particularly those that made sizable 2003 pension contributions – should see a 2004 expense decline.

“While the past few years brought a few unfortunate stories of individual companies folding under the weight of their pension plan and the individual retirees seeing their pension benefits reduced or eliminated, the vast majority of U.S. companies weathered the recent pension crisis with little difficulty,” Goldman said in the report. “Predictions of more far-reaching, dire results from the pension crisis never materialized.”

Goldman’s review of benefit-related disclosures from all S&P 500 companies also found that many have continued to downwardly revise the expected return assumptions – a development the company attributes to continuing regulatory pressure and a general conservative drift in accounting policy by some executives.   The 2003 asset-weighted expected return assumption for the S&P 500 was 8.7% – down from 9.3% the year before.

Goldman pointed out that the U.S. Securities and Exchange Commission has already warned companies using a return assumption of 9% or higher they should be ready to justify the move to regulators. “In response to these pressures as well as an overall effort to adopt more conservative accounting policies, many companies have been lowering their expected return assumptions,” Goldman wrote.

Larger Plan Assumptions

Interestingly, Goldman said weighted expected returns indicate that employers with larger DB plans are putting forward higher return assumptions than their smaller plan counterparts. Goldman commented: “Companies with sizable plan assets may be motivated to maintain high expected return assumptions since they can apply them to their high asset base and, therefore, enjoy the benefits of high expected return income. Perhaps they believe that the relative sophistication of their plan management will generate superior returns.”

Also. because of new mandated disclosures, Goldman said it’s now possible to tell that equity allocation was up by about 4% in 2003 – not only because of strong 2003 performance, but because of “disciplined rebalancing activities” by pension managers.

With asset weighted allocations lower than equal weighted, it appears larger plans are setting aside less to equities. That could be because of some mega plans taking more of a position in alternative investments. Goldman researchers said.

With at least some sunshine on the DB funding horizon, Goldman said many investors are now focusing on other benefits such as health care. ‘These plans tend to be dramatically underfunded, a source of much confusion and consternation among investors,” Goldman wrote in the report. “Importantly (other benefit) plans are not governed by ERISA rules and, therefore, do not have the same mandatory funding requirements as do DB pension plans. In addition, contributions to these plans are generally not tax deductible, as are most contributions to DB plans.”

As have numerous other studies, Goldman’s report said companies are fighting back. Goldman cited a survey by Hewitt Associates and the Kaiser Family Foundation finding that 71% of companies had increased retiree benefit contributions and 53% had stepped up their cost-sharing requirements for retirees.