New results show pension plans recouped Q1 2020 losses as equity markets rallied through the year
After suffering a major setback in Q1 2020, Canadian DB pension funds staged a return to health thanks to a comeback in the equity markets and slightly better bond yields.
As of the end of December, the Mercer Pension Health Index – which represents the solvency ratio of a hypothetical defined benefit pension plan – stood at 114%, 7 percentage points above where it was at the end of September. Over the same period, the median solvency ratio of Mercer clients’ pension plans rose from 93% to 96%, ending the year just short of the 98% level they exhibited at the beginning of the year.
DB plans’ funded positions continued a trend of recovery from first-quarter losses as gains from roaring equity markets were supplemented by slightly higher bond yields.
“Canadian DB plans remain well-funded by historical standards, even with liabilities measured at today’s ultra-low interest rates,” said Ben Ukonga, principal in Mercer’s Financial Strategy Group.
The signals from Mercer’s index align with the Aon Pension Risk Tracker, which found that the aggregate funded ratio for Canadian pension plans among companies within the S&P/TSX Composite Index rose from 90.8% to 91.2% during the past 12 months. That came with a slight $0.2 billion decrease in the funded status deficit, which came as asset increases of $18.7 billion were offset by liability increases of $18.5 billion year-to-date.
“After a wild ride throughout the year – funded status cratered in late March, to almost 80% – Canadian pension plans ended 2020 in a similar, if slightly better, funded position compared to how they started the year,” said Nathan LaPierre, partner, Retirement Solutions at Aon. He said plan sponsors in de-risking mode should exert greater effort to lock in improved funded positions, while those with ongoing DB plans will have to wrestle with lower return expectations due to ultra-low interest rates.
According to Aon, pension assets returned 9.9% over 2020 and were in positive territory in Q4 as assets gained 3.9% for the quarter. Interest rates used to value pension liabilities, meanwhile, slid from 2.92% to 2.50% as credit spreads widened by 13 basis points and the year-end long-term Government of Canada bond yield declined 55 basis points relative to the last year-end rate.
“Equity markets performed strongly in 2020 and helped funded ratios improve,” said Erwan Pirou, Canada chief investment officer, Retirement Solutions at Aon. “However, some pension plans did not realize the full benefit of the equity market rally, as some active equity managers underperformed their benchmark.”
And while pension plans have several threads of optimism to tug at – including the rollout of the COVID-19 vaccine and the expected re-opening of the global economy – they are still confronted with risks arising from substantially increased debt levels, geopolitical tensions, and the prospect of the pandemic dissipating at a slower-than-expected pace.
“Looking ahead, we have to expect continued volatility as markets react to how governments and business leaders transition to the post-COVID global economy,” Ukonga said. “Plan sponsors should not be complacent now that the end of the pandemic appears in sight.”