Entering Q3 2018, corporate pension plans had broken through post-crisis highs and were on course to notch a second year of strong funded status gains, notes J.P. Morgan’s “Corporate Pension Peer Analysis 2018,” written by Michael Buchenholz, head of U.S. Pension Strategy, Institutional Strategy and Analytics.
But because average funded status declined an estimated 7.2% in Q4 2018, J.P. Morgan’s analysis of the largest 100 corporate defined benefit (DB) plans by assets found only a 1.5% improvement to an 87.2% funded status on average for the year.
Returns for almost every public market asset class fell in 2018, with the exception of extended credit exposures. Agency mortgages/collateralized mortgage obligations (CMOs), commercial mortgage loans (CMLs), bank loans and other securitized assets had small positive returns. “These asset classes are increasingly being utilized as hedge portfolio diversifiers and did their job in 2018,” says Buchenholz.
Generally, the only plan sponsors with positive total returns for the year were those whose fiscal year ended prior to the Q4 market rout. The peer set’s average calendar year return, -3.9%, was the worst performance since a flat 2015 and, before that, the 2008 financial crisis.
Preceding Q4, rising rates, accelerated contributions, improved funded status and concerns about equity market valuations led to the largest asset allocation de-risking year since 2011. Buchenholz notes that while the pension industry has been steadily increasing fixed income duration every year since at least 2010, data from regulatory filings show that 2018 brought a large shift in actual fixed income allocation. More than 20 of the top 100 plans moved 10% or more of assets into fixed income over the year. J.P. Morgan expects this de-risking trend to continue along with constructing more diversified hedge portfolios and shifting more assets into low-equity-beta alternatives like infrastructure equity.
This shift in fixed income allocation corresponded with lowered return assumptions. The average expected return assumption for plans with 70% or more in fixed income assets was 5.70%.
Buchenholz cites LIMRA research that shows the pace of pension risk transfers continued unabated. One of the major drivers of pension risk transfer activity over the last several years has been the accelerating costs of Pension Benefit Guaranty Corporation (PBGC) premiums. Buchenholz points out that DB plan sponsors have attempted to reduce these outlays by improving funded status, reducing head count, off-loading small balance participants to minimize the variable rate cap, and other “actuarial engineering” transactions, such as the reverse spinoff, which was rebuffed by the PBGC. PBGC data suggests that despite the continued march higher in premium levels, plan sponsors have been successful: The average premium paid as a percentage of assets declined two years in a row, to 16bps for the top 100 plans, and closer to 20bps for all pension plans.Other topics explored in the review are pension contributions versus other uses of cash and the impact of changes to pension accounting and reporting rules.