Increased Interest Rates Boost DB Plans’ Funded Status in April

The estimated aggregate funding level of pension plans sponsored by S&P 1500 companies increased by 2% in April to 89% at the end of the month, as a result of rising discount rates and gains in the equity markets, according to Mercer.

 

As of April 30, the estimated aggregate deficit of $242 billion decreased by $44 billion as compared to the $286 billion measured at the end of March.

 

Mercer notes that the S&P 500 index increased 1% and the MSCI EAFE index increased 1.5% in April. Typical discount rates for pension plans as measured by the Mercer Yield Curve increased by 21 basis points to 4.13%.

 

“April was friendly to pension plans with both favorable equity markets and increasing discount rates.” says Scott Jarboe, a partner in Mercer’s Wealth business. “For those sponsors with glidepaths in place, conditions support systematic de-risking to lock in gains, while we expect others are reviewing whether this is the tipping point for additional de-risking and risk transfer”

 

Wilshire Consulting finds the aggregate funded ratio for U.S. corporate pension plans increased by 1.7 percentage points to end the month of April at 88.9%, which is up 6 percentage points over the trailing twelve months. 

 

The monthly change in funding resulted from a 2.2% decrease in liability values partially offset by a 0.3% decrease in asset values. The aggregate funded ratio is up 4.3 and 6 percentage points year-to-date and over the trailing twelve months, respectively. 

 

“April reversed the two month decline in funded ratios as interest rates rose and equity values turned positive,” says Ned McGuire, managing director and a member of the Pension Risk Solutions Group of Wilshire Consulting.  “April’s 1.7 percentage point increase in funding offset the total declines in funded ratio from February and March. The improvement in funding was led by a decline in liability values that resulted from a nearly quarter point increase in the bond yields used to value pension liabilities,” he added.

 

S&P 500 aggregate pension funded status increased in the month of April from 86.6% to 87.7%, according to the Aon Pension Risk Tracker.

 

Aon says pension asset returns were up and down throughout the month of April. Returns started negative and increased through the middle of the month before declining to end with a -0.3% return. However, the month-end 10-year Treasury rate increased by 22 bps relative to the March month-end rate and credit spreads narrowed by 5 bps. This combination resulted in an increase in the interest rates used to value pension liabilities from 3.64% to 3.81%. Given a majority of the plans in the U.S. are still exposed to interest rate risk, the decrease in pension liability caused by increasing interest rates overshadowed negative asset returns, resulting in a positive effect on the funded status of the plan.

 

Aon finds that year-to-date, the aggregate funded ratio for U.S. pension plans in the S&P 500 improved from 85.6% to 87.7%. The funded status deficit decreased by $60 billion, which was driven by a liability decrease of $120 billion, offset by an asset decrease of $60 billion year-to-date.

 

October Three also says higher interest rates boosted pension finances in April. Both model pension plans it tracks gained ground last month. Traditional Plan A gained more than 1% in April while the more conservative Plan B improved less than 1%. For the year, Plan A is now 4% to 5% ahead, while Plan B is up almost 1%. Plan A is a traditional plan (duration 12 at 5.5%) with a 60/40 asset allocation, while Plan B is a cash balance plan (duration 9 at 5.5%) with a 20/80 allocation and a greater emphasis on corporate and long-duration bonds.

 

October Three notes that stocks were marginally higher in April: the S&P 500 and NASDAQ each gained a fraction of 1%, while the small-cap Russell 2000 added 1% and the overseas EAFE index increased almost 2%. Through April, the NASDAQ is up more than 2%, the EAFE index is up more than 1%, the Russell 2000 is up almost 1%, and the S&P 500 is down less than 1% for the year so far. A diversified stock portfolio gained less than 1% in April and is up about 1% for the year.

 

Bonds lost 1% to 2% during April, as interest rates rose by 0.15% during the month. For the year, a diversified bond portfolio is down 3% to 4%.

 

Overall, the firm’s traditional 60/40 was flat during April and remains down 1% for the year, while the conservative 20/80 portfolio lost 1% and is now down 3% after the first four months of 2018.

 

According to Northern Trust Asset Management, during the month of April, the average funded ratio for corporate pension plans improved from 87% to 88.5%. Northern Trust attributes this to positive returns in return-seeking assets: Global equity markets were up approximately 1% during the month; and higher interest rates:  average discount rate rose sharply from 3.66% to 3.83% during the month.

 

Northern Trust says the average funded ratio is based on a projection of financial statement data. The actual year-end 2017 funded ratio is about 2% higher than previously estimated since contributions in 2017 were higher than expected.