Pension Funded Status at a 10-Year High

The increases in interest rates throughout 2022 improved pensions’ funded status and provided attractive yields for sponsors wanting to de-risk by increasing their allocation to fixed-income assets, according to a new report.

A decade of volatile stock markets, including during the once-in-100-years pandemic, reveals growth in U.S. corporate pensions’ funded status. MetLife Investment Management (MIM), the institutional asset management business of MetLife, estimates that, as of November 7, 2022, the average U.S. corporate pension’s funded status was at 106.3 percent—the highest in 10 years. The quarter-end average was 104.7 percent, which is 4 percentage points above the end of the second quarter.

“The increase in interest rates seen in 2022 has improved pension funded status and provided attractive yields for sponsors wanting to de-risk by increasing their allocation to fixed income,” said Stephen Mullin, head of long duration and LDI [liability-driven investing] strategies at MIM. Furthermore, according to LDI strategist Jeff Passmore, “asset returns outpaced liability increases, resulting in improved funded status during the fourth quarter.”

MIM says that pension liabilities have increased due to the passage of time and benefit accruals. Discount rates fell by 4 basis points (bps), with spread tightening offset by increases in long-term interest rates. Benefit accruals decreased funded status by just 0.5 percent, and changing interest costs decreased funded status by 0.7 percent. However, asset returns resulted in a 5.2 percent increase in funded status, of which stocks represented 3.3 percentage points, bonds 1.1 percentage points, and alternatives 0.7 percentage points.

Predicting the future is difficult, and the move of the Fed is uncertain at this point. Says Passmore: “It’s difficult to call the direction and timing of interest rate movements. Rate prognosticators, the Fed, and even future rates implied by the forward curve are notorious for being wrong as often as they are right. All our fixed-income strategies are duration-neutral; we find security selection to be a more consistently rewarded source of excess returns.”

Given that liabilities are down and funded status is at all-time highs, however, “we expect continued interest in liability-hedging strategies,” adds Passmore. “Over time, these have evolved from Long Gov/Credit to Long Credit, and now often include allocations to Intermediate Credit and STRIPS.  We’re also seeing interest from plan sponsors in LDI overlays, both with physicals and derivatives.”

From: BenefitsPRO