Major pension systems worldwide powered to double-digit returns in 1997, despite fourth-quarter market weakness.
If anything, 1997 returns surpassed those of the year before, when strong performance had surprised many experts.
Last year, U.S. pension funds, with $5.6 trillion in uninsured assets topped the list, returning 19.5%, as estimated by Callan Associates Inc., San Francisco.
That compares with a 13.7% return in 1996.
Next came Swiss funds, returning 17%; U.K. funds, 16%; Canadian funds, 15.3%; and Australian defined benefit and defined contribution funds, up 12% and 11%, respectively.
What's more, continued low inflation helped generate hefty real returns, enabling pension funds to further pare their liabilities. In general, that means pension funds are better funded than ever. (Long-term bond yields, however, slipped anywhere from 58 to 147 basis points in the countries surveyed; lower rates tend to increase the value of liabilities.)
The exception to the rule, of course, were Japanese funds, which eked out a 3.6% gain last year. Although hit by a falling domestic equity market, Japanese exposure to bonds and foreign equities pushed pension fund performance into the black.
The story of 1997, noted John Stannard, managing director of Frank Russell Co., London, was that pension fund performance was dominated by the course of domestic equity markets, with international exposure providing diversification - positive or negative.
U.S. pension funds clearly were fueled by domestic stocks: The Standard & Poor's 500 index rose 33.4% last year. But the funds' 10.8% average exposure to international equities dampened performance, as the Morgan Stanley Capital International Europe Australasia Far East index returned only 2.1%
That story was equally clear in Switzerland, where Swiss equities rose 55.2% last year, but foreign stocks climbed less than half that amount.
Data for 1997 were estimated by several consultants, generally by linking actual performance data for the first three quarters and applying index returns to the Sept. 30 asset mix to generate figures for the fourth quarter.
Russell Analytical Services, a unit of Frank Russell Co., London, provided data for the Canadian, Japanese and Swiss markets. John A. Nolan & Associates Pty. Ltd., Victoria, provided data for Australian funds; and The WM Co., Edinburgh, estimated returns for U.K. pension funds.
Data for Dutch pension funds, the world's fourth-largest market after the United States, Japan and Great Britain, were not available.
Highlights of pension fund performance around the world:
Australia
Australia's separately managed corporate defined benefit plans benefited from their exposure to international equities, which returned 42.2% in Australian dollar terms last year. That helped corporate funds - which had 15.4% exposure to the asset class - achieve a 12% total return.
In contrast, separately managed Australian industrywide schemes had only 9.5% of assets invested in international equities. Those schemes returned 11% last year, said John A. Nolan officials. The figures are based on the returns achieved by John A. Nolan's clients.
Different weightings to domestic equities and bonds didn't matter: both asset classes returned 12.2% last year.
The defined contribution plans also had nearly double the exposure as corporate schemes to index-linked bonds, whose 7.3% return pulled down performance. Returns for industrywide schemes also were dragged down by a 14.4% exposure to cash, compared with an 8.4% weighting for corporate funds.
But the industrywide schemes picked up a 22.2% gain in Australian dollar terms on their 4% exposure to foreign bonds; corporate schemes had only 1% exposure to this asset class.
Australian pooled retail pension funds achieved a median return of 13.4% according to Sydney-based Intech, another Australian consulting firm, with top quartile funds returning 15.1%. The pooled funds generally have higher exposure to equities, including international equities, than the separately managed funds, accounting for the generally higher returns, according to Brian Hender, a consultant with John A. Nolan.
Canada
Domestic stocks helped Canadian pension funds chalk up a 15.3% gain last year - but the real boost came from the funds' U.S. exposure.
With nearly 40% of assets in domestic stocks, the Toronto Stock Exchange 300 index's 15% return was the key engine driving fund performance. But U.S. stocks - 8.4% of assets - provided a 39.3% gain, in Canadian dollar terms. Canadian funds had 5.1% of assets in other foreign equities; in local currency terms, EAFE returned 6.6% last year. Overall, international diversification aided returns as the Canadian dollar depreciated 4% on a trade-weighted basis. Canadian bonds, 37.7% of assets as of Sept. 30, provided a 9.7% return.
Japan
Japanese pension funds were sideswiped by the fall in their domestic equity market. Although performance was turbulent, the market was up around 1% through the first three quarters.
But the TOPIX index plunged 15.3% in the fourth quarter. That caused Japanese pension funds - whose performance was up 5.4% for the first nine months of 1997 - to slip to 3.6% for the year, estimated Frank Russell officials.
One saving grace was the 33% exposure to domestic bonds, which gained a reasonable though unspectacular 6.6% for the year.
More helpful was Japanese funds' exposure to foreign securities. At 14.3% of assets, foreign equities returned 40% in yen terms, according to the MSCI World ex-Japan index. International bonds, comprising 11% of assets, returned 13.7% in yen terms.
On top of eased regulatory constraints on investments and structural changes, Japanese pension funds are expected to continue diversifying abroad, said Colin Clark, director, global sales and marketing for Merrill Lynch Mercury Asset Management, London.
Japan is the world's second-largest pension market, with $1.14 trillion in assets at year-end 1996, according to InterSec Research Corp., Stamford, Conn.
Switzerland
The Swiss stock market's 55.2% performance provided a huge boost to Swiss pension fund performance. But with domestic equity allocations averaging just less than 20%, there was a limit to its impact.
Of course, the hands of Swiss pension executives are tied by the country's restrictive investment rules, which allow a maximum of 30% of assets in stocks - domestic and foreign. With 13.4% of assets invested in foreign stocks, as of Sept. 30, Swiss funds are exceeding that limit. International equities returned 25.2% in Swiss franc terms. (Regulators won't force funds to sell stocks if market movements push them past their limit. Pension funds often get permission from cantonal authorities to exceed the caps.)
Depressing performance were domestic bonds, which account for nearly half of Swiss pension assets. Swiss bonds returned only 6.6% last year. Still Swiss pension funds managed to chalk up a healthy 17% return, Frank Russell officials estimated.
United Kingdom
U.K. pension funds returned 16% in 1997, up from 10.7% the year before, according to estimates by The WM Co.
Last year's returns were buoyed by a 22% return from U.K. equities, making up 54.1% of British pension assets at year end. But U.K. active managers generally underperformed relevant indexes, since nearly half of the growth in the market came from six major banking and pharmaceutical stocks, said Peter Warrington, director at WM.
U.K. pension funds continued to heavily underweight North American equities, again missing out on spectacular returns. In sterling terms, North American equities provided a 33.9% boost, but at only 4% of assets, their impact on British pension funds was limited.
European equities, 9% of assets, provided a 28.4% return.
Returns were dragged down by negative Asian equity returns. Japanese equities, at 3.1% of assets, lost 18.7%. Pacific Basin (ex-Japan) stocks, at 2.5% of assets, fell 31.3%.
In addition, loss of tax credits on U.K. advanced corporation tax - stemming from budget changes announced in July - cost U.K. pension funds 1.2 billion pounds in 1997.
United States
U.S. pension funds were propelled by the bull market. Domestic equities, making up just more than half of pension assets, returned 31.1%, according to the Callan Broad 2000 index. Last year's total return of 19.5% compares with 13.7% and 25.1% in 1996 and 1995, respectively, according to Callan Associates. The three-year annualized figure is 19.5%.
International equities, however, continued to provide disappointing performance: EAFE returned 2.1%, marking the third consecutive year of weak returns.
Domestic bonds, at more than 30% of assets, provided a modest 9.6% return. International bonds were disappointing as the dollar appreciated against many currencies. The Salomon non-U.S. Government Unhedged index lost 4.3% last year. But international bonds amounted to only 1.5% of U.S. pension assets.
