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Best Practices

De-Risking Glide Paths, Five Years On

Best practices are still emerging in some areas, but LRAA has caught on rapidly. Heres how we think you can do it right.

By Bob Collie, James Gannon | Updated on June 18, 2014

The idea that pension plan asset allocation should be tied to funded status is surprisingly young. It was not common practice before 2008. In April 2009, when we wrote a paper called “Liability-Responsive Asset Allocation,” it was (as far as we are aware) the first time that this approach was formally described in any detail. Just five years later, it’s taken as a given. Nobody is surprised when the financial statements of major corporations talk of “a broad global pension de-risking strategy” or note that a pension plan’s “interest rate hedge is dynamically increased as funded status improves.”1

Two developments together acted as the catalyst for this change in the industry. The first was that more and more pension plans began freezing new benefit accruals. For a frozen plan, investment returns become less important once full funding is achieved.  If there’s already enough money in the plan and no new benefits are being accrued, then there’s not much to be done with any additional returns that might be earned. The obvious route of turning them over to the plan sponsor comes with a hefty tax bill attached.

The second development—less obvious, but equally important—has been the emergence of technology that makes it possible to monitor a plan’s funded status between the regular actuarial valuations. Even five years ago, estimating funded status on a daily basis seemed futuristic. Early versions of liability-responsive asset allocation (LRAA) tended to be based on monthly estimates. But today daily updates of funded status are standard practice.

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