The huge decline in equity markets plus a fall in corporate bond yields had a nasty effect on corporate defined benefit plans' funded status in August, according to three reports.
Among the 100 largest U.S. corporate DB plans studied by Milliman, funded status decreased $62 billion for the month, dropping the funding ratio to 79.3% from 83%.
BNY Mellon Asset Management, meanwhile, reported that the typical U.S. corporate plan's funding ratio fell 5.6 percentage points to 78% — the lowest level since the 75.9% in September 2010 — and Mercer said the funding ratio of S&P 1500 companies' plans fell four percentage points to 79%, with the overall deficit increasing to $378 billion last month.
According to the Milliman report, the 100 largest plans lost a total of $29 billion on investments and saw a $33 billion increase in liabilities, increasing the combined deficit to $314 billion from $252 billion in July.
John Ehrhardt, New York-based principal, consulting actuary and co-author of the Milliman 100 index, said in a telephone interview that while the August was a difficult month for pension funding ratios the plans recovered somewhat from the first six business days of the month, when funded status plummeted by $97 billion.
Mr. Ehrhardt said he anticipates discount rates used to determine liabilities will drop from a range of 5.75% to 6% to a range of 5% to 5.25%, which will result in a 10% to 15% increase in liabilities. Employer contributions will likely increase in 2012 to make up the difference. The $60 billion paid by the 100 companies in 2011 is likely to be closer to $90 billion by 2012.
“That's less disastrous for the plan sponsors because cash is not as tight as it was during the credit crisis,” he said.
The aggregate assets of the plans totaled $1.206 trillion in August, from $1.235 trillion, according to Milliman.
BNY Mellon's report said the decline in U.S. and international equities was the reason for the lower funded status, as was a rise in liabilities as the AA corporate discount rate fell 23 basis points to 4.94%.
“There is a lack of confidence in our economy that there is a concern with respect to risk, and so we have investors fleeing to Treasuries from other investments, driving down Treasury yields, and that's bad for pension plans,” Peter Austin, Boston-based executive director of BNY Mellon Pension Services, said in a telephone interview.
“We are going to remain in an environment where rates are low, which is bad for liabilities. So therefore it places the pressure on asset returns to improve the funded status of plans. And I'm certainly watching both markets, but it's the equity market that is likely going to be the driver of a recapture of the funded status that has been so quickly and dramatically lost,” Mr. Austin said.
According to Mercer's report, the decline in S&P 1500 company plans' funded status was attributed to a 5.4% decrease in equities and a fall in yields on high-quality corporate bonds. Corporate discount rates also dropped seven to nine basis points.
While the funding ratio drop in August was significant, there was enough recovery to gain back much of what had been lost in the first six trading days of the month, when the funding ratio had dropped 10 percentage points to 73%.
“The last week, there was a nice little recovery that came from kind of two places,” said Jonathan Barry, a partner with Mercer's retirement risk and finance group in Boston. “First, equities went up a decent amount, which was a good thing, and the second thing that happened was interest rates did go up, particularly the rates of AA corporate funds.”
Overall, “it was all over the map,” said Mr. Barry in a telephone interview. “If you really look at the day by day it really demonstrates the volatility that these plans are exposed to.”
Mr. Barry projected a 5% to 10% increase in liabilities because of the two-year smoothing period used to determine discount rates.
He also noted that pension funding relief measures — afforded through the Preservation of Access to Care for Medicare Beneficiaries and Pension Relief Act of 2010 — are scheduled to expire this year. Those relief measures allowed plan sponsors greater flexibility in choosing a discount rate and provided the option of longer or deferred debt amortization periods.
The estimated aggregate pension assets of the S&P 1500 were $1.37 trillion as of Aug. 31, with estimated aggregate liabilities of $1.68 trillion. n