Corporations have added $1 trillion in assets to their defined benefit pension plans in the last four years, only to see their average funded status remain essentially static and their aggregate unfunded level grow 15% to an estimated $441 billion, according to a J.P. Morgan Asset Management Inc. executive analyst.
Corporations run up against a “90% glass ceiling” trying to raise their funding level, said Karin Franceries, executive director at J.P. Morgan Asset Management in New York. Corporations face an almost insurmountable obstacle, even with a bright outlook in investment markets and further large contributions, Ms. Franceries said. The continuing low discount rate for valuing liabilities wipes out gains in assets from investments and contributions, Ms. Franceries said.
The average corporate funded status now ranges between 74% and 81%, according to Mercer LLC and J.P. Morgan data, respectively.
“To improve funded status to 85%, a plan would need growth assets to return 15%,” Ms. Franceries said.
For funded status to exceed 90%, a plan would need both a 15% increase in growth assets and a discount rate increase to 4.67% from the current rate of about 4.1%, Ms. Franceries said. The positive correlation between equity returns and corporate debt credit spreads, a key metric in determining the interest rate to discount pension liabilities, makes this scenario of both rising equity returns and interest rates unlikely, she added.
“Many sponsors are tired of the volatility that they've seen in the last several years in their plans,” said Jonathan Barry, principal with Mercer in Boston.
As a result, Ms. Franceries, Mr. Barry and others interviewed said pension sponsors will be taking more action to reduce risk in their portfolios.
“Asset returns were reasonably good in 2012 ... between 10% and 15% for most plans,” and contributions, while dampened because of funding relief enacted in 2012, are estimated to total possibly $80 billion, or about $10 billion to $20 billion more than in 2011, Mr. Barry said. Ms. Franceries estimates 2012 contributions were $70 billion.
Even so, “the combination of all those things actually ended up with an overall decline in the funded status,” because of a fall in interest rates in 2012, driving liabilities up about an average 10%, Mr. Barry said. By Mercer's calculations, the funding level fell to 74% at the end of 2012 from 75% a year earlier.