The departing year was a challenging one for many defined benefit plans, so some suggestions regarding what they can do in the year soon to come likely will be welcome. Mercer is happy to oblige, recently outlining key investment issues they can focus on in 2016.
Mercer’s suggestions include the following:
Prepare for opportunities. Mercer expects that the pricing volatility of 2015 will continue into 2016. It says that there is potential to materially improve the outcome for DB plans if they can take advantage of attractive terms when they appear.
Evaluate funding. Mercer argues that it could be helpful to determine if “borrowing to fund” would have economic value. It observes that the cost to maintain an underfunded pension plan has increased and that, accelerating the funding of pension debt may increase overall economic value.
Develop a glidepath. Mercer suggests that DB plan sponsors — particularly those with closed or frozen plans —consider coordinating their investment strategy with the plan’s liabilities. It further suggests adjusting the plan’s investments as funded status improves.
Increase growth allocations. Conservative mortality assumptions and low yields are to blame for many plans’ poor funded status, Mercer posits, suggesting that plans adjust allocations in a way that will allow assets to grow in the long term. And it adds that the extension of funding relief in the Bipartisan Budget Act of 2015 will help mitigate the short-term risks of taking such actions.
Isolate interest rate risk. Mercer suggests that plans can use Treasury separate trading of registered interest and principal securities to help it maintain — if not increase — its effective duration without having to dedicate additional assets to fixed income, instead turning to traditional bonds or employing interest rate futures.
Plan for liquidity. A plan with an appropriate time horizon — usually at least 15 years — can improve asset growth by investing in private assets that offer a higher potential return, Mercer suggests. But it adds a caveat that it is important to understand liquidity constraints if using such an approach.
Design the investment end state. What is the exit strategy if the plan already has been frozen? One should be developed if it has not yet been, Mercer argues, as well as a strategy to reach the necessary funding level.
Mercer’s suggestions include the following:
Prepare for opportunities. Mercer expects that the pricing volatility of 2015 will continue into 2016. It says that there is potential to materially improve the outcome for DB plans if they can take advantage of attractive terms when they appear.
Evaluate funding. Mercer argues that it could be helpful to determine if “borrowing to fund” would have economic value. It observes that the cost to maintain an underfunded pension plan has increased and that, accelerating the funding of pension debt may increase overall economic value.
Develop a glidepath. Mercer suggests that DB plan sponsors — particularly those with closed or frozen plans —consider coordinating their investment strategy with the plan’s liabilities. It further suggests adjusting the plan’s investments as funded status improves.
Increase growth allocations. Conservative mortality assumptions and low yields are to blame for many plans’ poor funded status, Mercer posits, suggesting that plans adjust allocations in a way that will allow assets to grow in the long term. And it adds that the extension of funding relief in the Bipartisan Budget Act of 2015 will help mitigate the short-term risks of taking such actions.
Isolate interest rate risk. Mercer suggests that plans can use Treasury separate trading of registered interest and principal securities to help it maintain — if not increase — its effective duration without having to dedicate additional assets to fixed income, instead turning to traditional bonds or employing interest rate futures.
Plan for liquidity. A plan with an appropriate time horizon — usually at least 15 years — can improve asset growth by investing in private assets that offer a higher potential return, Mercer suggests. But it adds a caveat that it is important to understand liquidity constraints if using such an approach.
Design the investment end state. What is the exit strategy if the plan already has been frozen? One should be developed if it has not yet been, Mercer argues, as well as a strategy to reach the necessary funding level.
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