Pension Finance Update May 2023
Pension finances were flat during April, with assets and liabilities increasing modestly during the month. Both model plans we track1 lost a fraction of a percent last month. For the year through April, Plan A remains up more than 1% while Plan B is still up a fraction of 1%:
Stocks saw mixed experience in April. A diversified stock portfolio added 1% in April, led by strong developed markets overseas:
Interest rates moved modestly lower during April. As a result, bonds gained about 1% last month. For the year through April, a diversified bond portfolio has earned 4%-7%, with long duration bonds performing best.
Overall, both plans we track gained 1% during April. For the year, the traditional Plan A is up almost 7% while the more conservative Plan B has improved 5% through the first four months of 2023.
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.
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, 2022 and April 30, 2023, and it also shows 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 so far this year. Rates at different durations are nearly identical, underscoring the “flatness” of the current yield curve:
Corporate bond yields fell 5 basis points in April. As a result, pension liabilities rose 1% during the month and are now up 5%-7% for the year through April.
Through April, pension plans have managed to hang on to the significant improvement in funded status over the previous two years. Interest rates have drifted lower this year, but positive stock market returns have enabled sponsors to keep pace so far. The graphs below show the movement of assets and liabilities during the first four months of 2023:
Pension funding relief was signed into law during March of 2021, and additional relief was provided by November 2021 legislation. The new laws substantially relaxed funding requirements over the next several years, but the increase in rates seen in the past year has eroded the impact of relief.
Discount rates didn’t change much last month. We expect most pension sponsors will use effective discount rates in the 4.7%-4.9% range to measure pension liabilities right now.
The table below summarizes rates that plan sponsors are required to use for IRS funding purposes for 2023, along with estimates for 2024. Pre-relief, both 24-month averages and December ‘spot’ rates, which are still required for some calculations, such as PBGC premiums, are also included.
* October Three estimate, based on rates available as of 4/30/2023