Pension finances were mixed in November, as lower interest rates offset the impact of higher stock markets. Both model plans1 we track were close to even last month: Plan A lost less than 1% last month but remains up almost 10% for the year, while the more conservative Plan B gained less than 1% last month and is now up less than 1% through the first eleven months of 2022:
Stocks advanced strongly and broadly during November. A diversified stock portfolio gained 7% last month but is still down more than 15% so far during 2022:
Interest rates, which have risen steadily all year, fell in November, pushing up bond returns. Treasury yields fell 0.4% last month, and corporate bond yields declined 0.5%. As a result, bonds gained 4%-7% in November but remain down 13%-24% for the year, with long duration and corporate bonds performing worst.
The traditional 60/40 portfolio gained more than 5% during November but is still down 15% for the year, while the conservative 20/80 portfolio gained 5% last month but remains down 17% through the first eleven months of 2022.
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, 2021 and November 30, 2022, and it also shows the movement in the curve last month. The second graph below shows the change in effective GAAP discount rates for pension obligations of various duration so far during 2022:
Corporate bond yields fell 0.5% during November but remain up 2.3% this year. As a result, pension liabilities rose 5%-8% last month but are still down 16%-27% for the year, with long duration plans seeing the largest declines.
Pension assets and liabilities both increased 5% or more in November, while funded status held steady for most plans. With one month to go, 2022 is looking like a surprisingly positive year for pension finances, particularly in view of double-digit stock market declines. The graphs below show the movement of assets and liabilities during the first eleven months of 2022:
Pension funding relief was signed into law in March 2021 and additional relief was provided by November legislation. The new laws substantially relax funding requirements over the next several years, providing welcome breathing room for beleaguered pension sponsors. However, the surge in interest rates this year, if sustained, will reduce or eliminate the impact of funding relief.
Discount rates moved down 0.5% last month and the yield curve is flat right now. We expect most pension sponsors will use effective discount rates in the 5.0%-5.2% range to measure pension liabilities right now.
The table below summarizes rates that plan sponsors are required to use for IRS funding purposes for 2022, along with estimates for 2023. 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 11/30/2022