The improvement in the health of Canadian pension plans slowed rapidly in the second quarter of 2014 after plans posted major gains last year when interest rates rose as stock markets soared.
A survey of pension plan solvency by consulting firm Aon Hewitt shows pension funding improved just 0.6 percentage points between March 31 and June 26, with the average plan in Canada now 96-per-cent funded.
Funding has improved 19 per cent since the end of June last year, but most of the gains came prior to the latest quarter. Plans posted a 25-per-cent improvement in their funded status in 2014, and a 2-per-cent improvement in funding in the first quarter of 2014.
Growth has slowed because long-term interest rates fell in the second quarter, leaving most pension plans treading water with minimal change in their funding. Pension plans use long-term interest rates to calculate the size of their liability for providing pensions to members, and lower rates raise the funding obligation.
Most of the improvement in funding in the quarter came from companies making contributions to their plans, and not from investment returns, said William da Silva, senior partner in Aon Hewitt’s retirement practice.
The exception, Aon Hewitt said, were those funds that have “derisked” or reduced their volatility by changing their asset mixes to make them less sensitive to interest rate movements. They posted better returns than pension plans with traditional asset mixes, typically in a mix of 60 per cent stocks and 40 per cent bonds.
Plans that have changed their asset mixes to implement derisking strategies had funding levels two-to-three percentage points higher those with traditional asset allocations, Aon Hewitt said.
Mr. da Silva said the survey findings suggest companies with traditional defined benefit (DB) pension plans should be rethinking their investment strategies.
“Canadian companies sponsoring defined benefit plans might be tempted to light some extra fireworks this Canada Day, but these results should be cause for preparation rather than celebration,” he said in a statement.
“As the solvency of Canadian DB plans has risen over the past year, we have been encouraging sponsors to rethink their funding and investing strategies to better manage risks. This quarter’s survey clearly shows the value of having a clear risk management strategy.”
Over all, plans reported an average 3.3-per-cent return on their investment portfolios in the second quarter, Aon Hewitt said, led by Canadian equities which were up 5.6 per cent so far this year as of June 26.
Pension funding is now at its highest level since September, 2007, prior to the global financial crisis, the survey says. The survey shows 37 per cent of plans had a surplus as of June 26.
Aon Hewitt examined the funded status of 275 pension plans, measuring the value of their assets compared to their liabilities, which are the estimated long-term costs of funding pensions for all members. Pension plans are at 100-per-cent funding when their assets are equal to their obligations.