Average Funded Status of DB Plans Reaches Five-Year High in July

Companies that estimate funded status for defined benefit (DB) plans say this is due to equity returns, as interest rates remained relatively flat.

The estimated aggregate funding level of pension plans sponsored by S&P 1500 companies increased by 2% in July 2018 to 91% at the end of the month, as a result of an increase in equity markets, according to Mercer.

The S&P 500 index increased 3.6% and the MSCI EAFE index increased 2.4% in July. Typical discount rates for pension plans as measured by the Mercer Yield Curve increased by 1 basis point to 4.15%.

“Interest rates held steady in July, letting equity markets do the work in running up gains,” says Matt McDaniel, a partner in Mercer’s Wealth business. “This improvement drove funded status to a five-year high in July. Plan sponsors are now faced with a tough choice: do they continue to ride an equity bull market that is approaching 10 years long or do they move to lock in gains through de-risking?”

According to Wilshire Consulting, which estimates average funded status of defined benefit (DB) plans sponsored by firms in the S&P 500, the aggregate funded ratio for U.S. corporate pension plans increased by 1.5 percentage points to end the month of July at 91%, which is up 7.5 percentage points over the trailing twelve months.

The monthly change in funding resulted from a 0.1% decrease in liability values and a 1.5% increase in asset values.

“July saw funded ratios increase due to positive market returns for most asset classes,” says Ned McGuire, managing director and a member of the Pension Risk Solutions Group of Wilshire Consulting.  “July’s 1.5 percentage point increase in funding brings the aggregate funded ratio to a high point for the year and over 90% funded for the first time since the end of November 2013.”

Northern Trust Asset Management (NTAM) says strong asset returns—global equity markets were up approximately 3% during the month—and a steady discount rate—the average discount rate remained flat at 3.87% during the month, led to an improvement of the average U.S. corporate pension plan from 89% to 90.2% in July.

The estimated deficit for pension plans of the S&P 500 corporations has declined from $319 billion at December 31, 2017, to $196 billion at July 31, 2018, NTAM adds.

October Three also says stocks were up and discount rates held steady last month. Both model plans it tracks gained ground last month—traditional Plan A improved more than 1% while the more conservative Plan B gained less than 1%. For the year, Plan A is almost 8% ahead, while Plan B is up more than 1%. Plan A is a traditional plan (duration 12 at 5.5%) with a 60/40 asset allocation, while Plan B is a largely retired plan (duration 9 at 5.5%) with a 20/80 allocation, with a greater emphasis on corporate and long-duration bonds.

According to Legal & General Investment Management America (LGIMA), the average DB plan’s funded ratio increased 0.8% during July to 90.5%.

“As funding ratios continue to grind higher, plans may give equity replacement strategies further consideration to meet their investment objectives,” LGIMA says. “One implementation approach is to consider selling physical equity allocations and replace exposure with attractive equity derivatives.”