Most Global Pension Funds Close Funding Gaps in Q4: Towers Perrin

March 14, 2005 ( - A year-end rally in the equity markets led to an increase in the funded status of benchmark pension plans in most major retirement markets around the world in Q4, except for Canada and the Euro-zone.

For 2004, the overall funded status of benchmark plans in major markets was mixed. The benchmark plan in the Euro-zone saw a large decline in funded status – a drop of more than four percentage points; the status of plans in Canada and the US showed little change, and gains were recorded in Australia, Brazil, Japan, and the UK, according to a Towers Perrin analysis of defined benefit (DB) pension plans.   .

Assets, Liabilities Rise

Towers Perrin cited falling oil prices, a decisive US Presidential election, increasing corporate M&A activity and healthy corporate earnings in helping boost equity markets in the fourth quarter, but cautioned that those gains were largely offset by increasing pension liabilities as longer-term nominal bond yields fell in most markets, reducing benchmark discount rates and increasing future obligations for pension plans.

US pension assets enjoyed a strong Q4, driven at least in part by increased returns from overseas stock investments, the value of which was compounded due to the depreciation of the U.S. dollar, according to the report.   Benchmark plan liabilities were only marginally affected by the 11 basis point reduction in the benchmark discount rate, to 5.83%, which followed a slight drop in long-term bond yields.   Overall, positive asset returns outweighed increased liabilities, and the funded ratio of the benchmark U.S. plan improved 2.5 percentage points, to 65%, although funding levels for the year as a whole remained relatively flat when compared with 2003.

The Towers Perrin Global Capital Market Update: Fourth Quarter 2004 Results also noted that:

  • Most benchmark plans, except those in the Euro-zone and Canada, posted higher funded ratios for the quarter due to the year-end equity market rally, which tended to offset the effects of flat or lower discount rates
  • Major equity markets had double-digit percentage gains in 2004, the second year in a row of above-average returns
  • Pension liabilities fluctuated due to discount rate adjustments throughout 2004, and long-term nominal bond yields remained at historically low levels in most markets

For 2004 as a whole, liability changes and asset improvements were competing forces.   In most markets, positive capital market movements had only a marginally positive effect on the funded status of pension plans.

“Even with two consecutive years of outstanding returns in the equity markets, the overall effect of capital market movements on the funded status of pension plans has been only marginally positive,” said Leon Potgieter, a Towers Perrin principal and head of the firm’s HR Services business Global Consulting Group.   “The main driver of this has been continued low long-term bond yields, which result in low discount rates for pension liabilities, offsetting positive investment results.   Multinational companies should continue to assess their pension investment strategies at both the local and global level, while also critically analyzing the impact the general decline in funded ratios may have on their future earnings.”

National Treasures?

As for the status of pension plans in individual countries, Towers Perrin noted the following:

  • The Australian stock market had an excellent fourth quarter and year, posting an 11.2% and 27.6% return, respectively, the best of any major geography.   International equity returns were also positive, although the appreciation of the Australian dollar relative to the U.S. dollar hampered returns for unhedged investors.   Long-bond yields fell slightly, but discount rates remained unchanged at 5.50%, and pension liabilities remained fairly constant as a result.   The strong performance in capital markets led to more than a three percentage point increase for the quarter in the funded status of the benchmark plan, which reached 83% at the end of the fourth quarter.   Australia also saw a seven percentage point increase in funded status for 2004 overall   the largest among the major developed geographies.
  • Brazilian pension assets enjoyed a strong end to the year, as positive reports on the trade and current account balances, solid GDP growth and a stronger currency fueled year-end optimism in the equity markets.   Brazil’s central bank sparked a rally in short-term bonds when it increased rates by 1.5% to 17.75% in response to inflationary pressures, longer-term bond yields rose, and the benchmark discount rate was revised upward to 10.76%, reducing pension liabilities.   For the year, funded status increased by more than three percentage points.
  • Robust equity gains buoyed Canadian pension assets in Q4, but overall asset returns, however, were hampered by the mining sector, which was hurt by falling commodity prices.   Even though the Bank of Canada tightened interest rates in the third quarter, the strong Canadian dollar dampened the outlook for growth and inflation, and long-bond yields ended the quarter lower and the benchmark discount rate dropped to 5.8%.   In the fourth quarter, the overall funded status of the benchmark plan remained unchanged at 76%, as positive asset returns almost precisely offset higher pension liabilities.   The funded status remained virtually unchanged in 2004.
  • Equity markets performed well across the European continent in the fourth quarter, but overseas equity returns were lower, due to the strength of the euro. Long-term nominal bond yields fell, and the benchmark discount rate was reduced by 50 basis points, to 4.5% – and this led to significantly higher future pension liabilities, which far outweighed higher equity returns, according to Towers. The result was a slightly more than four percentage point drop in the funded ratio of the benchmark plan, to 54%.   The Euro-zone posted the worst results in pension funding levels of all the markets surveyed in the fourth quarter and is currently the most underfunded region.   For the year, pension funded status fell five percentage points.
  • Japanese equity markets posted reasonable gains in the fourth quarter, and bond yields were virtually unchanged, as was the benchmark discount rate of 2%.   With rising asset returns and stable liabilities, the benchmark pension plan funded ratio increased by 1.5 percentage points to 67%.   Funding levels increased by almost the same amount for all of 2004.
  • Towers Perrin described equity returns as relatively healthy in U.K. markets, and short-term bond yields were also strong, but long-term nominal yields fell due to lower inflationary expectations.   Pension plan liabilities increased following a reduction in the benchmark discount rate to 5.29%.   Overall, however, increased liabilities did not offset strong asset returns, and the funded ratio for the benchmark U.K. plan ended the quarter almost a single percentage point higher, at 60%.   For the year, the funded ratio improved by 1.49 percentage points.