Investors saw a market in January that was more volatile than in recent times, and according to analysts, this was a detriment to defined benefit pension plans.
“In just one month of 2016, we have seen the entire improvement in funded status for 2015 disappear,” says Jim Ritchie, a principal in Mercer’s Retirement Business.
Mercer estimates the aggregate funding level of pension plans sponsored by S&P 1500 companies decreased by 3% to 79% as of January 31, as a result of negative equity markets and a decrease in rates. As of January 31, the estimated aggregate deficit of $472 billion increased by $68 billion as compared to the $404 billion deficit measured at the end of 2015.
Meanwhile, Wilshire Consulting reported that the aggregate funded ratio for U.S. corporate pension plans decreased by 3.7% to 78.9% for the month of January 2016. January’s 3.7% deterioration in funding levels was the largest monthly drop since a 4.7% decline in January 2015, according to the firm.
Ned McGuire, vice president and member of the Pension Risk Solutions Group of Wilshire Consulting, says, the decline in funding levels was driven by a 2.8% decrease in asset value and a 1.8% increase in liability value. “The asset result is due to negative returns for public equity, and the liability result is due to declining corporate bond yields used to value pension liabilities,” he explains.
Mercer notes that the S&P 500 index dropped 5.1% and the MSCI EAFE index dropped 7.3% in January. Typical discount rates for pension plans as measured by the Mercer Yield Curve decreased to 4.13%.
“While many plan sponsors have taken steps to de-risk their pension plans, 2016 will be a test on how much risk pension plans still retain,” Ritchie says. “We recommend that plan sponsors have a sense of urgency to stress test their pension plans against equity losses and adjust their asset allocation strategy accordingly. While many believe interest rates will rise and help improve the funded status of pension plans, the recent action by the Federal Reserve was arguably already priced into long term rates and has in fact not prevented further reduction in yields, as investors make a flight to long term fixed income.”