A fully funded defined benefit (DB) plan reduces future financial risk to the company sponsoring the plan and enables the consideration of different investment strategies available to maintain full funding, notes a survey report from Prudential.
It can also lay the groundwork for the next stages of DB risk management, such as transferring pension obligations to a third-party insurer.
The survey shows that, while some companies still need to improve just to reach the minimum funded level required by law, others are working towards higher funded ratios. Sixty-four percent of respondents report either that their companies have already increased contributions (15%) or that they are likely to do so within two years (49%).
The issue of funding pension plans has risen to the attention of companies’ leadership. When asked if their board of directors and senior management are focused on the financial risk of their DB plans, four times as many respondents agree (48%) as disagree (12%). The remainder neither agree nor disagree.
However, uncertainties about the timing of interest rate increases, continued volatility in equity markets, and increasing life expectancies make it more difficult to calculate liabilities and returns over the long term. Accordingly, half of the firms in the survey (49%) report that they have modeled future DB contributions based on assumptions of extreme market volatility, while 62% have modeled for increasing longevity.
One way to manage volatility is through the use of liability-driven investing (LDI). Seven out of 10 respondents (71%) report that their companies already invest some portion of their DB plan assets in LDI strategies. Thirty-five percent (35%) of this year’s respondents view LDI as an initial step towards full DB liability transfer, and 32% say their adoption of LDI has significantly reduced DB risk.NEXT: Preparing for longevity risk
In addition to volatility, longevity risk continues to garner increased attention. The Society of Actuaries has published new mortality tables based on longer life expectancies, with the result that projected liabilities may increase for some companies.
The survey shows that most companies are preparing to account for the increase in life expectancies in their calculations. About six in 10 respondents (61%) say either that they have reviewed participant mortality experience within the past 12 months (46%) or are planning on doing so within the next 12 months (15%).
One option for managing the risk involved with mortality assumptions is longevity insurance. Nearly one-quarter of respondents (23%) believe that these types of transactions could be relevant for their own companies.
However, the largest proportion of respondents (35%) say that they do not yet know enough about the longevity insurance transactions to have an opinion, and an additional 9% are not aware of the transactions at all.
In a recent conversation with PLANSPONSOR, Rohit Mathur, head of Global Product & Market Solutions, Pension & Structured Solutions at Prudential Retirement in Newark, New Jersey, said borrowing to fund is a viable funding strategy for nearly all DB plan sponsors.
Results of the sixth annual survey CFO Research has conducted with Prudential Financial, are based on survey responses of 180 finance executives, most of whom (78%) work at large U.S. companies with more than $1 billion in annual revenues. All of the companies in the survey also have DB plans with more than $250 million in assets; 31% have between $1 billion and $5 billion in assets, and an additional 31% have more than $5 billion in assets.