Pension Plans Benefit from Gains in Equity Markets

BNY Mellon Asset Management keeps track of the performance of pension funds through benchmark indexes and has announced that typical U. S. pension plans are better funded now than at the beginning of 2007.

Pension plans need to track their performance against financial markets and against other similar pension plans. Benchmark indexes allow pension plan managers to do just that by comparing a range of asset and risk investment options that allows for evaluation of the effectiveness of asset-to-liability strategies under a variety of market and economic conditions.

Benchmark indexes collect data on pension plan assets and liabilities and compare plans against each other. At one time, liabilities were not considered in the equation for evaluating pension plan performance, but in the late 20th century that changed and benchmark indexes that look at asset and liabilities began to be inaugurated.

The funding of a particular pension plan is determined by the ratio of assets to liabilities: if the ratio is 1.0 or better, the plan is fully funded or is in a surplus position. If the ratio of assets to liabilities is less than 1.0--if liabilities exceed assets--then the plan is underfunded.

Assets are the equity and debt (stock and bond) market holdings of the pension plan. Liabilities represent, among other general liabilities, the obligation of the plan to its promises to pensioners, both in the present and in the near future.

The increases in September in the equities market, which are due to lessened volatility in the stock market and a lowered interest rate, has prompted the increase in funding in typical pension plans. In September, assets based on the equity market and long-maturity Treasury bonds increased 2.6 percent while liabilities increased only 0.2 percent, leaving a net advance in fundedness of 2.4 percent for September.

The year to date (YTD) picture for typical U. S. pension plans shows a general gain since the beginning of the year with an overall improvement in funded status of 4.6 percent. Within the plans, moderate risk equity assets increased by 7.3 percent while liabilities increased by 2.7 percent, leaving the net 4.6 percent. Some of the increase in liability was due to an unexpected change in plans' demographics, which is the age, income, size, etc. of a plan's pensioners.

As stated by Peter Austin, executive director of BNY Mellon Pension Services, "Lower volatility and an easing Federal Reserve brought relief to the capital markets in September...Long-maturity Treasury bond yields rose slightly, but high-grade corporate bonds tightened 10 basis points."

The combination of a more stable stock market (smaller degree and range of market level fluctuation) and an interest rate lowered by the Federal Reserve resulted in higher values in stocks and long-term government bonds. Near-term high-grade corporate bond interest rate values dropped slightly. It is a rule of thumb that when equity prices rise, near-maturity bond interest rates lower. Lower interest rates paid to pension plans from bond investments increase liabilities for pension plans and increases the value of long-maturity Treasury bonds, which makes moderate risk assets more attractive to pension plan managers.

BNY Mellon Asset Management, part of The Bank of New York Mellon Corporation, is announcing that for typical U. S. pension plans the ratio of assets to liabilities is such that their funded ratio is 1.0 or better.

Mike Dunn, "Rising Equity Markets Benefit Funded Status of Typical U.S. Pension Plan," Mellon Asset Management/The Bank of New York Mellon.