Corporate Pension Funding Mixed Amid Equity Drop, Strong Interest Rates

April saw a mix in the average funding levels of the largest U.S. corporate defined benefit plans. While increased interest rates had a positive impact, lower stock returns counteracted some of these gains, as reported by monthly pension trackers from major pension consultancies. These fluctuations follow record highs recorded in March.

Meanwhile, pension fund investors are on interest rate watch, with the Federal Reserve still expected to cut rates later this year depending on how inflation, employment and other economic indicators perform in coming months. To prepare for that eventuality, some pension consultants continue to recommend making liability-matching allocations to take advantage of the current higher rates.

In its monthly pension finance update, October Three Consulting found slight declines for its two pension plan trackers. Plan tracker A, which follows pensions with traditional 60% stocks and 40% fixed income asset allocations improved modestly at less than 1%; its B tracker, which follows a “retirement” track of 20% stocks and 80% fixed income allocation slipped only a fraction of 1%.

Although funding status was slightly down, October Three sounded a positive note on the expectation of continued higher rates continuing to “provide a lift to pension finances this year.”

Pension watchers at Wilshire echoed that optimism both for April and the longer-term, with its aggregate funded ratio for U.S. corporate pension plans seeing an estimated increase in April of 1.1 percentage points, ending the month at 110.8%. The month’s uptick was based in part on a 5.2% decrease in liability value from rising Treasury yields, which outpaced the 4.2% decrease in asset value from the market declines among the corporate plans Wilshire tracks.

“April’s funded status increase resulted from the increase in Treasury yields, which led to the largest monthly decline in liability values since September 2022,” Ned McGuire, managing director at Wilshire, said in a statement. “Corporate bond yields, used to value corporate pension liabilities, are estimated to have increased by over 45 basis points.”

The 110.8% estimated funding ratio remains the “highest in decades” according to Wilshire’s tracking.

Liability Savior

Actuarial and investment consulting firm Agilis also found that the increase in interest rates, which bolstered pension discount rates by almost half a percentage point, enough for liability declines to offset losses in the market.

“For many pension plan sponsors, the decreases in liabilities most likely outweighed any asset losses creating funded status gains once again,” Agilis found. “More mature plans most likely saw slight declines in their funded status, while those with liability durations of 10+ years most likely experienced slight improvements.”

The firm cautioned, however, that pension plan sponsors looking to lock in funded status gains “want to do so quickly” with the Fed potentially dropping rates depending on how economic data turns out in the coming weeks and months.

In April 2024, the WTW Pension Index also saw gains. Despite negative investment returns, reductions in liabilities resulting from higher discount rates compensated enough for positive funding, pushing the index up by 1.3% compared to the previous month. As of April 30, 2024, the index stood at 115.8%, marking its peak since early 2001.

Additionally, as of March 29, the Mercer Pension Health Pulse, which monitors the median solvency ratio of defined benefit pension plans in Mercer’s database, stands at 118%, up from 116% recorded on December 31 of the previous year. That is the most recent quarterly data from Mercer, which notes that the solvency ratio serves as an indicator of a pension plan’s financial well-being.

In April, the overall financial health of pension plans backed by S&P 1500 firms saw a one-percentage-point rise, reaching 108%. This boost was fueled by higher discount rates, although it was tempered by a dip in equity markets. As of April 30, the total surplus stood at $117 billion, marking a $3 billion increase from the end of March.

“Pension funded status for the S&P 1500 rose one percent in April as interest rate increases more than offset losses on equities,” Scott Jarboe, a partner in Mercer’s wealth practice, said in a statement. “Equity markets fell in April as signs pointed to the Fed holding off on rate cuts. Despite the equity sell off, with inflation coming in higher than anticipated in April, discount rates also sharply rose, leading to a favorable month for pensions.”

In April, the financial health of the top 100 corporate defined benefit pension plans saw a positive boost of $14 billion, according to the Milliman 100 Pension Funding Index. This improvement was driven by a rise in the interest rates tied to corporate bonds, resulting in a $60 billion reduction in pension liabilities for the month. By the end of April, the PFI funded ratio climbed to 103.4% from March’s 102.2%, marking the fourth consecutive month of improvement in the funded status.

Off Highs

LGIM America’s Pensions Solutions Monitor didn’t see many bright spots in April’s figures. The firm estimates that pension funding ratios decreased throughout the month with the average funding ratio estimated to have dropped to 107.6% from 108.2%.

LGIM attributed the drop in part due to a decline in global stocks as tracked by the MSCI AC World Total Gross Index, down 3.2%, as well as the S&P 500, down 4.1%. Meanwhile, plan liabilities only “modestly” decreased due to rising discount rates—not enough to offset the asset decline, according to the firm.

Moreover, according to the most recent 2024 Corporate Pension Funding Study by Milliman, the funded ratio of 100 pension plans of U.S. public companies dipped marginally to 98.5% in fiscal year 2023 from 99.4% in fiscal year 2022. Despite a 7.2% investment return, it fell short of offsetting the liability growth, exacerbated by a 17-basis point decline in discount rates. Consequently, the pension deficit more than doubled  to $19.9 billion from $8.5 billion.

Milliman also noted that funding is significantly improved compared to the period 2008 to 2020, when deficits ranged from $188 billion to $382 billion. The current deficit of $19.9 billion brings corporate DB plans of Milliman 100 companies close to achieving full funding.