Pension Buyout Index Hits 2013 Low

The cost of purchasing pension annuities from insurers fell to 108.3% of liabilities during October, down from 108.9% to reach the smallest margin measured in 2013.

The long-term economic cost of maintaining pension liabilities remained level at 108.2% of balance sheet liability, according to the Mercer U.S. Pension Buyout Index.

The index tracks the relationship between the accounting liability for retirees of a hypothetical defined benefit plan and two important cost measures: The estimated cost of transferring pension liabilities to an insurance company (i.e., a buyout) and the approximate total economic cost of retaining the obligations on the balance sheet.

Low margins between buyout costs and the economic cost of retaining liabilities are potentially attractive for sponsors considering pension risk transfer (PRT) activities, according to commentary from Mercer issued with the October numbers.

The commentary suggests rising interest rates during 2013 have led to a decrease in the absolute cost of pension buyouts. While interest rates decreased slightly in October, many pension plans benefited strongly from positive equity and fixed-income market performance.

As such, the aggregate funded status of pension plans sponsored by companies in the S&P 1500 stands at an estimated 91% as of October 31, up from 74% at the end of 2012. For many plans, this rise in funding levels has reduced the potential cash and funded-status impact of a buyout.

Sponsors considering a buyout in the future should review their plan’s investment strategy and consider increasing allocations to liability-hedging assets, according to Mercer’s commentary. This can reduce the likelihood of a company experiencing future declines in funding status or unexpected cash requirements during annuity purchases.

More on Mercer’s pension buyout index is available here.