Bonds beat pension fund stocks, turning 60/40 upside down
The funding status – a measure of the extent to which pensions have enough assets to meet liabilities – of the 100 companies tracked by Milliman was 88.4%.
Since 2005, the funds have also increased their allocations to “other” investments, including private equity, real estate, hedge funds and money market securities to 17.9% from 9.5%. Most businesses have a year-end that coincides with the end of the calendar year.
“The main reason for the global shift from equities to fixed income is related to the change in pension regulations,” said Zorast Wadia, director at Milliman. “And as the funding position of these pensions improved, they continued to get rid of equity risk – moving more and more to fixed income.”
Under the Federal Pension Protection Act passed in 2006, companies had a set time frame to fully fund their pension plans and were required to use a specified market-based rate of return – linked to the returns of corporate bonds – to calculate the liability rather than their own forecast. This change made buying debt in an asset-liability matching framework more attractive than stocks.
The American Rescue Plan Act of 2021, the most recent Covid-19 pandemic relief bill, provides for two forms of general relief from the funding of single employer pension plans. It is not yet clear whether this can affect asset allocation decisions.
JPMorgan predicts that state and local government-run public pension funds are also on the way to shifting their focus to fixed income. These public defined benefit plans, with around $ 4.5 trillion in assets, have a funding status that is lower than their private sector peers at around 60%.
“Public pension funds therefore have less incentive to reduce risk in general,” Panigirtzoglou wrote. “But they have a problem. Their allocation to equities is already very high and their bond allocation is at a record high of 20%. From an asset / liability mismatch perspective, therefore, they are under some pressure to buy bonds. “
Purpose of pension plans
On the face of it, any preference for fixed income securities makes little sense. Since 2005, the Bloomberg Barclays US Aggregate Bond Index has risen about 5% per annum, or about half the return of the S&P 500. But after adjusting for volatility, equities performed 23% worse than that of the S&P 500. obligations.
While optimism in the equity bull market seems endless, aversion to pension funds persists. This month, clients of Bank of America Corp. were net sellers of stocks, continuing a yearlong trend of exits.
What corporate pension plans “are looking for is to be well funded, not necessarily for strong returns,” said Adam Levine, chief investment officer of Aberdeen Standard Investment’s client solutions group.
“It is possible that as rates rise, corporate repo’s will shift enough to fixed income to offset rising rates to some extent. You can certainly do this if the moves are big enough and the industry is big enough, ”Levine explained. © 2021 Bloomberg LP