Recent market volatility has dealt a severe blow to U.S. pension plans sponsored by S&P 1500 companies, this according to the latest figures by Mercer. Aggregate funded status decreased by US$191 billion to a funding deficit of US$496 billion and an aggregate funded ratio of 73% as of the market close on August 8.
The deficit corresponds to a 10% reduction from Mercer’s calculation of an 83% funded ratio as of July 31, and a 15% reduction from the peak funded status measured in April of 88%.
Pension plans are affected not only by changes in the assets they hold but also by the market value of their pension commitments—effectively a debt sponsor’s hold on their balance sheets. The recent flight to quality is bad for pension plans on two counts—reducing the value of their risky assets while increasing the market value of their pension debt.
The decline in funded status was driven by a 13% drop in equities, combined with a fall in yields on high quality corporate bonds during the first six trading days of the month. Discount rates for the typical U.S. pension plan decreased approximately 42 basis points over this period.
“What we are seeing is yet another “perfect storm” of equity losses combined with a drop in interest rates, similar to what we saw in 2000/2001 and 2008,” said Jonathan Barry, a partner in Mercer’s retirement risk and finance group. “The 73% funded ratio we saw at the end of the day on Monday is the lowest level since August 2010. While the drop in equity markets is getting most of the attention, it is important to realize that the 42 point drop in discount rates over the past six days is playing a major role in the decline.”
There is, however a bright side for some plan sponsors, said Barry. “There are some sponsors out there who have made major moves to de-risk their pension plans over the past few years,” he said. “Often times, these strategies were employed to move to lower risk positions as their funded status improved. These sponsors were able to take some of their chips off the table over the past year or so, and were not as exposed to the extreme market volatility that we are seeing today.”