The swift rise in U.S. bond yields in February may be whipsawing some stock market portfolios but it may bring relief to corporate America’s largest pension plans.
For pension funds, rising interest rates can generate more investment income to cover their obligations to pay pensioners.
The prolonged low-rate, low-volatility environment since the 2008 financial crisis posed a challenge for pension fund managers. Not only were returns on bonds low, but the market value of their liabilities was rising, reducing the so-called funding ratio of pension funds.
Rising bond yields can be good for pension plans because it can lower the required annual cash infusions while still meeting their liabilities, said Michael Schlachter, a partner at pension fund advisor Mercer Investment Consulting in Boulder, Colorado.
The estimated aggregate funding status of pension plans sponsored by S&P 1500 index companies increased by 3 percent in January to 87 percent at the end of the month, as a result of both an increase in discount rates on liabilities, tied to bond yields, and a rise in equity markets to a new record, according to Mercer.
Last week’s volatile stock markets worldwide were accompanied by surging bond yields though which worked in favor of pension funds.
Across America’s largest 1,000 companies, 491 offer defined-benefit plans which pay a fixed pension, and these plans have most of their assets in fixed income, followed by equities, then other assets like private equity and cash, according to Willis Towers Watson.
As annual reports are published throughout February, the average funded status of the plans, or the gap between what corporations owe for their pension plans versus what they have set aside for the obligation, will likely show the first year-over-year increase in four years.
“Continued rises in interest rates, equity values, and contributions could further augment funded ratios in 2018,” said Michael Moran, chief pension strategist at Goldman Sachs Asset Management in New York.