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A sign hangs in the office of the Ontario Teachers' Pension Plan on Wednesday, June 12, 2013.

Matthew Sherwood/The Globe and Mail

The Ontario Teachers' Pension Plan has moved into a surplus position for the first time in a decade, underscoring the dramatic improvement in the funding of Canadian pension funds over the past year.

The pension plan, which manages pension assets for 307,000 active and retired teachers in Ontario, said higher long-term interest rates and investment returns of 10.9 per cent last year have left it with a $5.1-billion surplus as of Jan. 1. It is the first surplus the plan has recorded since 2003.

The reversal in fortunes is part of a broad trend that has seen most pension plans in Canada largely eliminate their deficits over the past 12 months as a result of strong markets and higher interest rates.

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Teachers turnaround also reflects the fact it has been a leader in making structural changes to its benefits. The Ontario Teachers' Federation and the Ontario government – which jointly oversee the plan – agreed to increase contributions in recent years and reduce inflation indexing to cut the cost of funding the plan.

Since 2006, government and employee contributions to the pension plan have climbed from 8.9 per cent of annual income above the Canada Pension Plan pensionable earnings limit to 13.1 per cent. The two sides also agreed to eliminate a guarantee that pension benefits will be fully adjusted for inflation until the plan has enough surplus to afford full indexation again.

The surplus announced Tuesday means the plan would be 103-per-cent funded if it were wound up today.

However, Teachers chief executive Ron Mock called the new surplus "preliminary" and warned the pension plan could still face funding challenges. If full inflation protection were reintroduced and contributions were cut back to their 12-per-cent level from 2011, the plan would be just 91-per-cent funded.

"It's a great result for this year, but that doesn't mean that all the risks are gone as we look forward," Mr. Mock told reporters Tuesday. "Interest rates and stock markets can go up and down with great volatility, so I believe we're going to be managing through volatility on a going forward basis."

Among its challenges, Teachers has had to grapple with funding for a membership – including a high proportion of women – who live longer than the general population. On average, members of the Teachers' pension plan are working for 26 years and collecting pensions for 31 years, a ratio that has reversed from 1970 when members worked an average of 27 years and were retired for 20 years.

Mr. Mock said the Ontario government and the Ontario Teachers Federation will make the decisions about what will happen with the surplus in the fund, including when benefits or contributions will be adjusted.

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Mr. Mock became CEO of Teachers on Jan. 1 following the retirement of former CEO Jim Leech. The fund's salary disclosure, released Tuesday, shows Mr. Leech earned total compensation of $8.6-million last year due largely to a $6.5-million payout of long-term incentive units. Mr. Mock's total compensation was $2.9-million.

Teachers said a 27.6-per-cent return on its equity investments was responsible for much of the improvement in its financial position in 2013. The gains helped the fund increase its total assets to a record $140.8-billion from $129.5-billion at the end of 2012.

The equity returns were partly offset by fixed income holdings, such as long-term bonds, which lost 7.9 per cent in 2013.

Chief investment officer Neil Petroff said the bond portfolio was hit by rising long-term interest rates last year, which he said had become "unrealistically low" in 2012.

"I think we have seen the low," he added. "After 30 years of rates dropping, the short end will stay low for probably another year. The long end we're starting to see that there could be some sort of stronger growth."

Although higher interest rates hurt the bond portfolio, they helped Teachers' overall funded status because the present value of a pension fund's liabilities is calculated using long-term bond rates. The higher that rates climb, the lower the amount of money that must be set aside to cover future pensions.

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Other pension funds have also benefitted from higher rates and strong markets. The average funding of 275 Canadian plans reached 95 per cent as of March 31, according to a review released this week by pension consulting firm Aon Hewitt.

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