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Pension sponsors saw modest improvement in funded status last month, as higher interest rates more than offset lower stock prices. Both model plans we track[1] gained ground last month: Plan A improved more than 1% last month and remains up more than 8% this year through October, while Plan B gained a fraction of 1% and remains up more than 1% through the first ten months of 2024:
[1] Plan A is a traditional plan (duration 12 at 5.5%) with a 60/40 asset allocation, while Plan B is a largely retired plan (duration 9 at 5.5%) with a 20/80 allocation with a greater emphasis on corporate and long-duration bonds. We assume overhead expenses of 1% of plan assets per year, and we assume the plans are 100% funded at the beginning of the year and ignore benefit accruals, contributions, and benefit payments in order to isolate the financial performance of plan assets versus liabilities.
Assets
Stocks lost ground during October. A diversified stock portfolio lost 2% last month but is still up 15% for the year through October, with US large cap and tech stocks leading the way:
Treasury rates rose 0.4% during October, while credit spreads remain at historic lows. As a result, bonds lost 3%-5% during October, ending the month down 2% to up 2% for the year, with long duration bonds performing worst.
Overall, our traditional 60/40 lost more than 2% last month but remains up more than 8% for the year, while the conservative 20/80 portfolio also lost more than 2% last month, ending October up 3% for the year.
Liabilities
Pension liabilities (for funding, accounting, and de-risking purposes) are driven by market interest rates. The first graph below compares our Aa GAAP spot yield curve at December 31, 2023 and October 31, 2024 (along with the movement in the curve last month). The second graph below shows our estimate of movements in effective GAAP discount rates for pension obligations of various duration during 2024:
Corporate bond yields rose 0.35% in October. As a result, pension liabilities fell 3%-5% last month and are now close to flat (down 2% to up 2%) for the year through October, with long duration plans enjoying the best experience.
Summary
Despite the October pullback, stocks are on track for another strong year. At the same time, long-term interest rates have moved higher, confounding expectations and providing a tailwind for pension finances. As a result, most pension sponsors are seeing improved funded ratios this year. The graphs below show the movement of assets and liabilities during the first ten months of 2024:
Looking Ahead
Sustained higher interest rates since late 2022 have substantially diminished the impact of pension funding relief during 2023, 2024, and (it appears) 2025. Underfunded plans are likely to see higher required contributions in the next few years.
Discount rates for corporate financial reporting moved higher last month. We expect most pension sponsors will use effective discount rates in the 5.0%-5.4% range to measure pension liabilities on their balance sheets right now.
The table below summarizes rates that calendar-year plan sponsors are required to use for IRS funding purposes for 2024, along with estimates for 2025. Pre-relief, both 24-month averages and December ‘spot’ rates, are also included.