Retirement Update – September 2019
- Unless a plan was significantly hedged, funded status almost certainly decreased during August as a result of the continual fall in discount rates and weakening equity markets
- Discount rates fell significantly in August (down about 1.25% since year-end 2018)
- Equity markets trailed with emerging markets experiencing the biggest losses
August 2019 Summary
August proved to be a difficult month for equity markets as continuing trade tensions and weakening economic data triggered a flight to safety. As a result, interest rates fell across the curve more so at the long end which caused a portion of the yield curve to invert. Emerging market equities were hurt the most in this off-risk environment. Given the above, funded status for plans that were not hedged likely decreased significantly for the month.
Discount Rates & Asset Returns
Discount rates plummeted in August, dropping 0.44%. Current rates are now down 1.22% since year end 2018 and are 1.07% lower than rates from this time last year. The FTSE pension discount index finished August at 3.00%.
Global equity markets were down, while bond markets rallied due to the flight to safety. On August 14th, the yield curve inverted and equity markets experienced the worst trading day so far this year. In the month, emerging markets were hit the hardest, falling 4.9%, while the US and international developed markets trailed by 2.0% and 2.6%.
What’s New at R&M?
R&M Directors to Speak at the UCS Mid-Sized Retirement & Healthcare Plan Management Conference in Nashville, TN
Directors, Michael Clark and Joe Anzalone, run their session, Pension Plan Pitfalls: Successfully Managing Your Risks on Monday September 16th. This session looks at the potential surprises lying in wait for your plan and what you can do to avoid these hidden traps.
Q: What can I do now that discount rates are down so much since year-end 2018 (in addition to offering voluntary lump sum payments) to protect funded status / mitigate future pension cost increases ?
A: The number one strategy is offering voluntary lump sum payments (which tend to use the higher rates from prior to January 2019 for calendar year plans, but need to be paid out by year-end 2019), there are some strategies/options to consider. Calendar plan year plans need to act very soon.
An investment strategy is to hold more long bonds (fully hedging interest rate movements), which can protect pension plans from funded status declines due to further rate drops (US rates are still higher than many other countries). Implementing this type of an investment strategy can be done on a short-term basis or over time based on pre-set triggers for funded status changes or interest rate movements. The year-to-date 122 basis point drop will cause a typical pension plan (duration 14) to lose 17% in funded status if not hedged and 8.5% of funded status if 50% hedged against rate drops.
Another strategy is to allow participant rollovers from the defined contribution plan into the pension plan at retirement in order to convert their account balance into a bigger life annuity benefit. This option can be attractive to participants as they are able eliminate investment and longevity risk, while getting fair annuity pricing without having to go to an insurance company to buy an individual annuity. The pension plan can invest the rollover money along with the rest of the plan or back the annuity payments with long bonds.
Have a question for R&M? Please submit it to firstname.lastname@example.org and look for a possible answer in next month’s update!