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An Aon Hewitt analysis found that more than 35 per cent of the firm’s Canadian pension-plan clients were fully funded or had a surplus by the end of 2016, up from 10.7 per cent at the start of the year.Zerbor/Getty Images/iStockphoto

Canadian pension plans ended 2016 with an average 95-per-cent solvency funding level, a dramatic improvement from the start of the year due to major gains from equity investments and climbing bond yields following Donald Trump's election victory.

An analysis by pension-consulting firm Aon Hewitt shows more than 35 per cent of the firm's Canadian pension-plan clients were fully funded or had a surplus by the end of 2016, up from just 10.7 per cent at the start of the year, giving many more plans a cushion to weather future volatility.

Ian Struthers, investment consulting practice director at Aon Hewitt, said pension plans posted a remarkable turnaround in 2016, with their funded status declining most of the year until a major rally reversed the trend in the fourth quarter.

"The fourth quarter made all the difference, and it was not all about the U.S. equity-market rally," Mr. Struthers said in a statement. "The steep rise in bond yields since September and the robust equity markets despite Brexit had a remarkably positive impact on pension solvency."

Pension plans are required to measure the size of their funding obligation based on long-term bond yields, so an 80-basis-point increase in bond yields in the final quarter of 2016 led to a strong turnaround in funding. Aon Hewitt's analysis shows 75 per cent of the improvement in pension-plan solvency in the fourth quarter of 2016 was due to the bond-yield increase, which came on the heels of Mr. Trump's election victory as investors anticipated future U.S. economic growth based on his policy announcements.

Average funding climbed to 94.9 per cent as of Jan. 1, 2017, which means the average pension fund had enough investment assets to cover almost 95 per cent of the future anticipated cost of providing pensions to members, assuming the pension fund had to be wound up immediately.

Pensions plans had average funding of 86.1 per cent on Jan. 1 a year ago, so funding improved by 8.8 percentage points on average year-over-year, leaving plans in their best funded position since mid-2014.

For the year as a whole, Aon Hewitt said two-thirds of the funding improvement was driven by increasing returns for equities and alternative assets, which are major investment holdings for most pension plans. The benchmark S&P/TSX index climbed 21.1 per cent in 2016, Aon Hewitt said, while the U.S. S&P 500 index was up 8.1 per cent in Canadian-dollar terms. In alternative assets, global real estate holdings gained just 1.4 per cent in 2016, but infrastructure investments climbed 8.6 per cent in Canadian-dollar terms.

A separate year-end pension analysis by consulting firm Mercer shows pension clients had an average funded ratio of 93 per cent at the end of 2016. Forty per cent of plans were between 90 per cent and 100 per cent funded at year-end, up from 21 per cent a year earlier, and more than 20 per cent had a surplus at year-end, Mercer said.

Pension experts have urged plan managers for years to take advantage of periods of stronger funding to "derisk" their plans or reduce their exposure to market volatility through a variety of means, including by increasing the proportion of bond holdings while reducing public market equity investments, or by completing annuity transactions with insurers to lock in their funding costs.

Mr. Struthers said the recent run-up in stock market values has left stocks expensive as an asset class, and said it remains to be seen whether political expectations will be fully realized.

He said it is prudent for pension plan sponsors to diversify and derisk, recommending plan managers re-evaluate investment strategies.

Follow Janet McFarland on Twitter: @JMcFarlandGlobeOpens in a new window

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